Libor explained: How a little known benchmark rate rocked the City of London

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London interbank offered rate was established by the British Bankers’ Association in 1986 (Source: Getty)

Before a rate-rigging scandal rocked the City, the London interbank offered rate (Libor) was one of the most important but least known cogs in the wheels of global markets.

Envisaged as a so-called risk-free rate, a panel of major banks formerly under the auspices of the British Bankers’ Association (BBA) reported the cost of borrowing in US dollars, sterling, euro, Japanese yen and Swiss franc over time periods from a day to a year.

The problems arose out of the way it was reported: a lack of transactions (only 15 in the whole of 2016 for one of the 35 combinations) meant it often relied on judgement alone, opening the door to illegal manipulation.

InterContinental Exchange (ICE) will continue to run Libor, after focusing the benchmark more on real data. Libor could still have a future as a measure of bank credit risk, suggests Darren Ruane, head of fixed interest at Investec.

“The problem with Libor is it has tried to be two things: the risk-free rate and a measure of bank credit risk,” he said. That issue may now be gone if Libor is more focused on the latter.

But for a risk-free rate, regulators are looking for replacements. The US Federal Reserve will use a Treasury repo rate, based on borrowing backed by government bonds, while the European Central Bank has explored using a weighted average of all overnight unsecured interbank lending backed up by a formula for low liquidity.

With Swiss and Japanese authorities also undergoing similar processes, there is the prospect of fragmentation hanging over the market.

Ruane said: “It’s not clear to me: are we going to come up with different rules for different jurisdictions?”

Read more: Libor will end in 2021 says Britain's top financial regulator

Libor timeline

1986

London interbank offered rate, better known as Libor, is established by the British Bankers’ Association (BBA), now part of UK Finance

2005

Libor rigging thought to have started. CFTC found manipulation at Barclays was done “routinely” from at least mid-2005

2008

CFTC commences investigation in United States into suspected Libor “low-balling” by global banks

May 2009

UK’s Financial Services Authority (FSA), now the Financial Conduct Authority (FCA), joins CFTC probe into Libor

June 2012

Libor-rigging scandal emerges after the FSA and US authorities fine Barclays for £290m. The first of many big bank fines

August 2015

British Tom Hayes becomes the first trader to be convicted over Libor rigging. Sentenced to 14 years in prison

April 2017

BBC Panorama documentary airs claims that Bank of England leaned on Barclays to lower its Libor submissions

July 2017

FCA boss Andrew Bailey calls time on scandal-hit Libor, suggesting it could be phased out by the end of 2021

Read more: US appeals court overturns Libor convictions of two British bankers

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