Dollar Lending Rates Rise

Dollar lending rates rose on the interbank forex market despite the announcement of plans for the US government to bailout the failing Citigroup bank. The LIBOR (London Interbank Offered Rate) rate for three month loans in dollars rose slightly from 2.16% Friday to 2.17 on Monday, Nov, 24th, 2008.

Increase in LIBOR Rate

The increase in the LIBOR rate is important for the interbank forex, the financial sector, and the wider economy. The LIBOR determines rates for loans to households, and businesses. Many mortgages and student loans are tied to the LIBOR rate and can have wide ranging effects on the day to day economy. The rate increase suggests that banks are worried that other financial institutions could collapse in a chaotic global economy.

Credit Markets Frozen Despite Citigroup Bailout

Despite the US government’s agreement to inject $20 billion dollars into Citigroup and take on hundreds of billions in toxic assets credit markets remain all but frozen. While the move to rescue Citigroup boosted stock markets it did little to thaw credit markets in Europe and the US.

Euribor Rates Decrease

European Interbank Offered Rate or Euribor managed to decrease from 4.02% Friday to 3.97% on Monday. Both US and European rates remain well above the benchmarks set by central banks, 1% in the US and 3.25% in the Eurozone.

Citigroup to Give Government 8% Return

In exchange for the government’s $20 billion dollar injection Citigroup will offer an 8% dividend on preferred stock. In addition Citigroup will comply with enhanced executive compensation restrictions and implement the FDIC’s mortgage modification program. Citigroup lost 60% of its value last week as investors worried that toxic debt would turn into losses for the beleaguered bank.

Partial Nationalization

Citigroup is a major player in the interbank forex market and the failure of Citigroup would be catastrophic for markets in the US and abroad. Citigroup now joins other banks that have been essentially partially nationalized, a move that a year ago would have been unthinkable. It is hoped that the move by the US government will bring stability to Interbank Forex markets and provide investors with Forex opportunities.

What is the LIBOR?

We have all seen the London Interbank Offered Rate (LIBOR) cited in several articles and news items. What is the LIBOR and how does it affect currency markets including the Interbank Forex? Simply put, the LIBOR is a daily reference rate based on the interest rates at which banks are willing to lend unsecured funds to each other in the London money market.

LIBOR Published Daily

The LIBOR is published by the British Bankers Association and is released daily, usually at 11:45 AM (London Time). It is basically an average of interest rates charged by banks for loans ranging from overnight to one year. There are 16 contributing banks and the reported interest is the mean of the eight middle banks. The rates for shorter loans are considered to be reliable and reflect the rates at which banks are willing to lend to each other. The actual rate can vary several times a day affecting Interbank Forex markets.

LIBOR Used as Currency Reference

The LIBOR is used as a reference for the British Pound and other currencies including the US dollar, Euro, Japanese Yen, Swiss Franc, Canadian dollar, Australian Dollar, Danish Krone and New Zealand dollar. The LIBOR is closely watched by Forex traders and investors and has a profound effect on the Interbank Forex market.

When the LIBOR rises it indicates two things, 1. That interest rates in general are rising and thus LIBOR is also rising, and 2. Lending banks believe the banks they are lending to have a higher risk of defaulting on the loan so the lending bank has to charge a higher interest rate to offset this risk.

When the LIBOR is falling it indicates that 1. Interest rates are falling and thus LIBOR is falling, and 2. Lending banks believe the banks they are lending to have a lower risk of defaulting so the bank does not have to charge higher interest rates to mitigate the risk.

LIBOR and Interbank Forex

The interbank Forex market is strongly affected by the LIBOR reports. The LIBOR signifies several rates that are calculated in 10 different currencies and is set every business day. The LIBOR rate is calculated daily for these currencies,

1. Pound Sterling (GBP)
2. United States Dollar (USD)
3. Japanese Yen (JPY)
4. Swiss Franc (CHF)
5. Canadian Dollar (CAD)
6. Australian Dollar (AUD)
7. Euro (EUR)
8. Danish Kroner (DKK)
9. Swedish Krona (SEK)
10. New Zealand Dollar (NZD)

The LIBOR for a specific currency depends on the local interest rate for the currency, such as the Fed rate for the UDS, and banks’ expectation of future rates. The LIBOR is important to markets including the Interbank Forex for a variety of reasons; it is long established, it is a truly international reference rate, it has a wide commercial use, it offers the largest range of international rates, and its mechanism is transparent. The banks providing the data for the LIBOR are the most active in cash markets and have the highest standards and credit ratings.

LIBOR Has Major Influence on Forex Markets

Unfortunately individual investors do not have access to LIBOR data and to receive LIBOR reports must be licensed by the British Bankers Association. The LIBOR is easily one of the most important reports watched by Forex traders and has a major influence in Interbank Forex markets globally.

LIBOR and Loans

Many are unaware of the LIBOR (London Interbank Offered Rate) and how it affects them in their daily lives. The LIBOR is the average interest rate that banks charge when they make short-term unsecured loans to other banks. This, in turn, affects interest rates for such things as student loans, mortgages, and the value of major currencies and is a major influence on the Interbank Forex market. It is essentially the interest rates of 16 major banks averaged out. Approximately 80% of all sub prime mortgages are tied to the LIBOR.

Mortgages Tied to LIBOR Rate

If a mortgage is obtained chances are that the interest rate is closely tied to the LIBOR or other indexes such as the Cost of Funds Index (COFI). Loans are typically pegged to indexes called the one-month, three-month or six-month LIBOR. The rates reflect the averages of what banks are charging for longer term loans and those with adjustable rate mortgages can be in for a very unpleasant shock if rates rise. It is estimated that 60% of all adjustable loans in the US are tied to the LIBOR. Unfortunately most buyers have no idea what the LIBOR is and how it can affect their lives.

LIBOR and Short Term Corporate Loans

The LIBOR is also the benchmark for short term corporate loans. If the LIBOR goes up it impacts a wide range of borrowers including corporations and small businesses that depend on the availability of credit to finance day to day operations. If credit markets freeze or interest rates rise it can directly affect businesses resulting in layoffs and rising prices for consumer goods. The LIBOR also affects the value of various currencies on Interbank Forex markets.

LIBOR Rate and Student Loans

Almost 50% of all lenders peg the interest rate charged to the LIBOR and student loans are no exception. Rates tied to the LIBOR are typically LIBOR+2.80%. If rates go up the loan becomes more expensive and can significantly increase the cost of a college education. The recent credit crunch has adversely affected the availability of student loans. Many economists are telling those with loans tied to the LIBOR to brace themselves for a rise in interest rates.

LIBOR and Interbank Forex

LIBOR has a profound influence in currency markets including the Interbank Forex. The spread between 90 day T-bill and 90-day LIBOR rates can give investors a sense of confidence in the US dollar. When confidence in the US dollar is high the spread will be very close while conversely, if confidence is low the spread will be higher. While LIBOR is primarily about interbank lending rates it can reflect investor confidence in various currencies on the Interbank Forex market.

LIBOR Affects Confidence in the Dollar

If you have a mortgage, have taken out a student loan, or work for a company that depends on the availability of credit, the LIBOR can have an impact on your financial life. The LIBOR helps to determine the confidence that Interbank Forex investors have in the Dollar and helps to determine the exchange rate. Although located in far away London the LIBOR has a direct impact on the daily lives of Americans.

Investors Continue to Buy Dollars

Despite the global economic crisis the US dollar has remained surprisingly strong on currency markets including the interbank Forex. Many Forex traders and investors have continued to buy dollars to avoid risk. The dollar remains the world’s reserve currency and continues to outperform the Euro and the Pound.

Dismal US Employment Figures

All that could change because of recent figures released showing a loss of 240,000 non farm jobs, the largest loss in seven years. The US labor market continues to deteriorate and in the last three months the US has lost 651,000 jobs. This recent information sent shock waves through currency markets including the Interbank Forex. Michael Woolfolk, senior currency strategist at Bank of New York Mellon stated; “The report shows the labor market continued to deteriorate at the start of the fourth quarter and we have to keep in mind that it doesn’t yet reflect much of the job losses on Wall Street.”

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Obama Faces Unprecedented Financial Crisis

US president elect Barack Obama faces an unprecedented global financial crisis and how he addresses the situation may well define his presidency for years to come. Obama faces a national debt in the trillions and his appointees will be charged with overseeing the massive $700 billion dollar bailout program. The actions of the new administration will affect the entire global economy including the interbank Forex market that is responsible for trading over 2 trillion dollars daily.

World Banks Cooperate

The nature of the interbank Forex market can make it difficult to regulate but the global financial crisis has prompted unprecedented cooperation between central banks in Europe, Asia, and the US. According to the “Wall Street Journal Europe” (February 2006), 73% of total interbank Forex volume is done through 10 banks. These banks are names that we all know well, and include Deutsche Bank, UBS, Citigroup and HSBC.

World Leaders Await New Treasury Secretary

World leaders are eagerly awaiting the announcement of a new Treasury Secretary and are hoping that Obama will be capable of guiding the international community through the crisis. Former Domestic Policy Advisor to President Bill Clinton, William Galston stated; “The need for a seamless transition is greater than it has been in our adult political lifetime. With two wars abroad and an international financial crisis going on, there cannot be a period in which the new administration is just getting up to speed.”

European Economic Situation Deteriorating

European banks reported weak earnings and the economic situation is Europe continues to deteriorate. In an attempt to stimulate their economy Germany’s cabinet on Wednesday agreed on a 50 billion euro ($64.22 billion) stimulus package for Europe’s largest economy. In an extremely gloomy prediction Marc Chandler, global head of currency strategy at Brown Brothers Harriman stated; “The forces at work in the global capital markets are very big, bigger than who gets elected president of the United States. People should be prepared for a deep economic downturn in the U.S…”

Dollar Remains Reserve Currency

The dollar is still the world’s reserve currency in interbank Forex and commodity markets and is likely to remain so in the foreseeable future. In a rare piece of good news it was reported that interbank lending costs continued to fall on Wednesday with the rate for three-month dollar funds hitting its lowest level in almost four years. It is hoped that the Obama victory will return investor confident to markets including the interbank Forex.