Wednesday, 24 September 2008

Does LIBOR matter?

Robert Peston has blogged today about the issue in the Interbank market. Peston is doing a good job in these difficult times to trying to keep up with events and explain them to 'the rest of us.'

In this case though, the malaise is much worse than he implies. Effectively it looks like banks won't lend to each other at all. All the current interbank lending is from governments to banks. In fact there should be a huge super-liquidity issue and the LIBOR rate should be low.

But it is not, and why is this?

- Possibly banks do not want to lend as the risk of default or nationalisation has become to high.
- Possibly because now they have more of a handle on their CDS exposure they have voluntarily raised their effective capital ratios.
- Possibly because their internal estimates of bad loans etc are in fact much worse than they are letting on and so the banks need to be prepared for further, bigger writedowns than have been announced thus far. Lehmans went bust with $646 billion of (gross) debt, not the $85 billion (net) it was telling everyone the week before.

None of these are good situations to be in.


Anonymous said...

I don't think anyone can stop the blitz. The best they can do is a bit of fire-fighting, and the timely tearing down of those buildings that are damaged beyond repair.

Mark Wadsworth said...

It'll all sort itself out.

Once the dust has settled, the Chinese and Japanese SWFs will end up being repaid in fairly worthless shares in US and UK banks for all those lovely billions they've lent us over the years.

Ooh, I'm scared.

AntiCitizenOne said...

Maybe they haven't got any money to lend!

Anonymous said...

If banks don't trust banks, then why should we?

Mark Wadsworth said...

Banks do not trust other banks, that would appear to be true.

This is easily fixed. Just merge ALL banks into one mega-bank. There is then no net counter party risk. They can collapse and cancel all their inter-company balances*, hey presto, problem (largely) solved.

There remains the problem that even the consolidated mega bank probably has negligible or negative net assets. The next step is to come to an arrangement with long term bond holders for them to forgive 20% of the debt and swap this for new share capital. Hey presto, bank recapitalised!

Banks' long term bonds are trading at 80p in the £ anyway, so this is only crystallising a loss priced in by the markets. For sure, existing shareholders will be wiped out or diluted down to diddly squat, but again, so what? Their shareholdings have gone down 80% or 90% in value in the past year or two, is it so terrible if they lose another 90% of what's left? Bringing total losses to 98% or 99%?

And not a single penny of taxpayers' money is involved!

* The rate of churn is staggering. Never forget that banks are just middlemen. Total UK mortgages and loans outstanding (assets) are about £1.5 trillion and total household savings, banks' corporate bonds etc are also about £1.5 trillion (net assets negligible, but we knew that).

But if you add up the balance sheets of the big UK banks, total assets/liabilities are shown as £5 trillion. In other words, money goes round in a circle three times.

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