Q: Why all the fuss lately about LIBOR, and how does it affect me?
A: The revelation of LIBOR rate manipulation by some major banks has serious implications for a global banking system already under stress from the financial crisis. LIBOR directly affects nearly every borrower in the United States, even if they never have heard the term.
LIBOR is an acronym for the London Interbank Offer Rate, a benchmark index that reflects the rate at which major global banks lend U.S. dollars to each other. Several different maturities from one day to 12 months typically are quoted, with the most familiar and useful being the three-month rate.
An analogous concept in the U.S. is the Federal Funds rate, at which American banks lend excess reserves to each other.
However, the Fed Funds rate is fixed by action of the Federal Reserve in pursuit of monetary policy initiatives, while the LIBOR rate is not set by any central bank but instead (in theory) reflects the market’s estimation of interbank credit risk. This is a key distinction.