LIBOR Benchmark: LIBOR, which stands for the London Interbank Offered Rate, is a global benchmark interest rate. It represents the average interest rate at which major banks estimate they can borrow from each other in the London interbank market for various periods of time. LIBOR Benchmark is also important for UPSC Prelims Exam and UPSC Mains Exam (GS Paper 3- Indian Economy and Indian banking system).
Recently, the Reserve Bank of India (RBI) stated that certain banks and financial institutions have not fully completed the transition away from the London Interbank Offered Rate (LIBOR) benchmark.
LIBOR is an internationally recognized benchmark interest rate that reflects the rates at which banks estimate they can borrow funds from one another in the London interbank market.
Each business day prior to 11 a.m. (London time), banks that are part of the LIBOR panel submit their rates to Thomson Reuters, a news and financial data company.
The fundamental flaw in the LIBOR mechanism was its heavy reliance on the honesty of reporting by banks, without considering their commercial interests.
In 2017, the U.S. Federal Reserve introduced the Secured Overnight Financing Rate (SOFR) as a preferred alternative to LIBOR. Following this development, new transactions in India were required to use SOFR and the Modified Mumbai Interbank Forward Outright Rate (MMIFOR), replacing MIFOR.
In its November 2020 bulletin, the Reserve Bank of India (RBI) highlighted that in India, exposure to LIBOR primarily existed in loan contracts, Foreign Currency Non-Resident Accounts (FCNR-B) deposits with floating interest rates, and derivatives.
LIBOR, which stands for the London Interbank Offered Rate, is a global benchmark interest rate. It represents the average interest rate at which major banks estimate they can borrow from each other in the London interbank market for various periods of time.
LIBOR is widely used as a benchmark interest rate for a range of financial instruments, including derivatives, loans, mortgages, and credit cards. It serves as a reference point for determining interest rates in financial transactions and plays a crucial role in the global financial system.
The decision to phase out LIBOR was made due to concerns about the reliability and integrity of the benchmark. It was discovered that some banks manipulated LIBOR submissions for their own benefit, undermining its credibility. As a result, regulatory authorities and industry bodies initiated the transition to alternative reference rates to ensure a more robust and transparent benchmark.
Various countries have identified alternative reference rates to replace LIBOR. In the United States, the Secured Overnight Financing Rate (SOFR) has been introduced as a preferred alternative. In India, the Modified Mumbai Interbank Forward Outright Rate (MMIFOR) is being used alongside the SOFR as the replacement for LIBOR.
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