About London Interbank Offered Rate (LIBOR):
- It is a benchmark interest rate at which major global banks lend to one another in the international interbank market for short-term loans.
- It acts as a benchmark for short-term interest rates.
- It is an indicator of the health of the financial system and provides an idea of the trajectory of impending policy rates of central banks.
- LIBOR is also the basis for consumer loans in countries around the world, so it impacts consumers just as much as it does financial institutions.
- How is LIBOR calculated?
- The rate is calculated and will continue to be published each day by the Intercontinental Exchange (ICE).
- It is computed for five currencies with seven different maturities ranging from overnight to a year.
- The five currencies for which LIBOR is computed are the Swiss franc, euro, pound sterling, Japanese yen and US dollar.
- Each day, ICE asks major global banks how much they would charge other banks for short-term loans.
- ICE benchmark administration consists of 11 to 18 banks that contribute for each currency. Only those banks that have a significant role in the London market are considered eligible for membership on the ICE LIBOR panel, and the selection process is held annually.
- The rates received from the banks are arranged in descending order, and the top and bottom quartiles are excluded to remove outliers.
- The arithmetic mean of the remaining data is then computed to get the LIBOR rate.
- The process is repeated for each of the 5 currencies and 7 maturities, thereby producing 35 reference rates.
- The most commonly quoted rate is the three-month U.S. dollar rate, usually referred to as the current LIBOR rate.
