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Wednesday, September 05, 2007

Libor Defies Gravity

by Calculated Risk on 9/05/2007 01:22:00 AM

From the WSJ: Why Libor Defies Gravity

The Federal Reserve could cut short-term interest rates in the weeks ahead, but right now one key rate is going in exactly the opposite direction, something that could have a big impact on markets and the economy.
LIBOR Rate from WSJ
That rate is the London interbank offered rate, or Libor. It is an important benchmark for everything from adjustable-rate mortgages in the U.S. to giant floating-rate bank loans taken out by global corporations.

Credit-market turmoil has pushed the Libor higher, even as other short-term interest rates, such as the interest rate on Treasury bills, are falling.
U.S.-dollar Libor rates usually closely track the federal-funds rate, which is the overnight lending rate managed by the Federal Reserve. But the two rates are now parting ways, complicating matters for the Fed as it tries to manage the global credit crisis and pushing up many short-term interest rates for borrowers.

For the first eight months of this year, the U.S.-dollar Libor rate for three-month loans between banks nudged between 5.34% and 5.36%. Yesterday, the rate hit 5.7%, marking the rate's fastest rise in several years. ...
When Chrysler and its finance unit borrowed $20 billion from banks in July as part of the auto maker's acquisition by Cerberus Capital Management, its loans were indexed to Libor interest rates.
Maybe this is a temporary divergence in rates, but a rising Libor rate will have a negative impact on the economy and housing.