Libor Is Dead, Almost! What It Was, What Comes Next

For half a century the series of interest rates known collectively as the London interbank offered rate, or Libor, has helped determine the cost of all sorts of borrowing around the world. But over the last decade it became seen as outdated and discredited, and a decision was made to kill off the benchmark at the end of 2021. That sent the financial world scrambling to adjust the terms in contracts on hundreds of trillions of dollars’ worth of products -- from mortgages and credit cards to interest-rate swaps. Banks collectively spent an estimated $10 billion preparing for Libor’s demise, but fears of a messy transition mean that some existing contracts can linger on, though new deals based on Libor are set to end on New Year’s Eve.

Libor is a daily average of what banks say they would charge to lend to one another. It’s offered in five currencies and over various time periods, up to one year. Formalized by the British Bankers’ Association in 1986 to help set prices for derivatives and syndicated loans, Libor is used by pension and fund managers, insurance providers, big and small lenders and Wall Street banks that package loans into securities. In recent years some $370 trillion worth of financial products have been tied to the benchmark, including equipment leases, student and auto loans and bank deposits. The biggest component is derivatives such as interest-rate swaps -- trades of a fixed interest rate for a floating one or vice versa -- which are used by companies, banks and investors to hedge risk or speculate. Of the five Libor currency rates, the one tied to the U.S. dollar (“dollar Libor”) is most widespread, accounting for more $200 trillion worth of products.