By Peter Ricci
Libor, or the London interbank offered rate, has been a constant fixture in the news cycles the last couple of weeks, with each story weighing more importance on the oddly-named term.
Very little has been said, though, regarding what Libor exactly is – and why, given its stature in the financial world, it’s so important not only to consumers, but in our case, residential real estate professionals! So, with some help from a number of sources, we’re out to explain why Libor matters for your business interests. First, the basics – Libor is the average interest rate banks use around the world to lend money to one another. Ever heard of the federal funds rate, that big rate the Federal Reserve often cuts to increase bank lending? Libor is the same concept, but for the whole world’s financial system, and it’s set in London by Thomson Reuters, a financial services firm, and overseen by the British Bankers Association.
Libor’s impact on the financial world is massive. How massive? According to a recent article by Brian Summerfield for the National Association of Realtors, the Libor rate impacts credit cards, mortgages and student loan debt, or roughly $300 to $600 trillion, which is four times the world’s economic output over a four-year period; that’s an awfully big number, and one that residential mortgages are undoubtedly a part of.
And thanks to a recent article by Guhan Venkatu of the Federal Reserve Bank of Cleveland, we have a pretty good idea of how many. According to analysis by Lender Processing Services, Inc. of the U.S.’ largest financial institutions, nearly 45 percent of prime loans are set to Libor, and for subprime loans, the share is even higher at 80 percent.
So with all that in mind, consider the scope of the Libor scandal, which is the reason the rate has been in the news lately – if banks were unfairly manipulating the Libor rate, as recent reports have suggested, then many borrowers in the U.S. (in 2008, practically every subprime loan was set to Libor), got an unfair shake on their mortgage rate. What are your thoughts?