Keith Fitz-Gerald

LIBOR Indicates More Credit Troubles on the Horizon

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More than a year ago, even before the subprime-mortgage crisis had revved itself up into the full-fledged credit crisis that's now threatening global growth, we pointed to the London Interbank Offered Rate (LIBOR) and other interbank rates that suggested that the worst was yet to come.

LIBOR is the rate at which banks offer to lend funds to other banks, based on current interest rates. In many ways, it is similar to the U.S. Federal Funds rate. So what is LIBOR telling us now?

Unfortunately, the worst is still yet to come. That's it. No sugar coating. No rose-colored glasses.

Recently, the spread between Overnight Indexed Swaps (OIS) and the three-month LIBOR rose to an all time high of 2.94%. The LIBOR/OIS spread measures the amount of cash available for interbank lending and is used by banks to determine interest rates.

The wider the spread, the less cash there is to go around.

This is telling us that banks, despite billions of central bank support in recent months, are still cash-strapped and are disinclined to lend money either to each other or to consumers.

Then there's LIBOR itself, the rate that banks charge each other for overnight dollar loans, which rose to 2.37%. The three-month LIBOR rate has retreated only slightly from a nine-month high of 4.33%, set last January.

LIBOR actually is a set of rates, and is calculated for several currencies based on periods ranging from overnight to 12 months. That, in turn, determines prices for financial contracts valued at $393 trillion as of Dec. 31, or $60,000 for every person in the world, and helps set consumer interest rates on everything from home loans to credit cards.

The BBA compiles the dollar rate every day from data submitted by 16 banks, including Deutsche Bank AG and Royal Bank of Scotland Group PLC. There are also rates for the euro, Japanese yen, British pound, Swiss franc, and Australian and Canadian dollars.