Big Changes for LIBOR as BBA Tries to Restore Credibility in Key Lending Rate

By , Money Morning •

By Jennifer Yousfi
Managing Editor

After months of increasing skepticism, the British Bankers Association yesterday (Tuesday) announced changes to its London Interbank Offer Rate (LIBOR).

"These changes will further strengthen BBA Libor and the confidence of its many users," BBA Chief Executive Angela Knight said.

The BBA proposed a number of measures meant to restore confidence to the daily LIBOR rate, including: increasing the number of contributing banks, adding more non-contributing banks to the Foreign Exchange and Money Market Committee, and a possible second rate published during North American business hours to better reflect the U.S. market.

"There has been a lot of nervousness in the market that Libor is not calculated accurately," Giuseppe Maraffino, a bond strategist in Milan at UniCredit Markets & Investment Banking (PINK: UNCIF), a unit of Italy's largest bank, said in an interview with Bloomberg Television. "For sure the decision by the BBA to create more transparency will be met positively by the market."

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Currently, 16 banks provide the daily borrowing rate in dollars, euros and yen for a variety of maturities. The BBA discards the four highest and four lowest rates before calculating the daily average, which is published at 11:30 a.m. London time. 

As the global credit crunch began to unfold, some experts began to suspect that contributing banks were underreporting their actual cost of borrowing in order to not look like bad credit risks. One such expert was Money Morning Contributing Editor Martin Hutchinson.

"In these volatile markets, any whisper of trouble over a bank makes other banks' dealers not want to place money with them," Hutchinson said in a Money Morning investment analysis that acknowledged the problems back in April. "Their feeling is that there's no point in getting fired for doing business with another bank that goes bust, especially as you'd probably be losing your job at the bottom of a bear market, when times are tough. So, it's not surprising that the LIBOR system is wobbling a bit."

The three-month dollar LIBOR rate jumped 10 basis points to 2.79% yesterday, its biggest increase since August and the highest level since April 30.

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