If you’re a faithful news follower, you’ve likely heard about the recent LIBOR scandal but like many, you might not know anything about LIBOR or the why the scandal is big enough to make international news.
What is LIBOR?
LIBOR is an acronym for the London InterBank Offered Rate.
Here’s how it works: Banks, just like other businesses, sometimes need extra money. Let’s say that Bank A wants to make a large commercial loan but to lend the money would put them below certain capital requirements but only until other payments and deposits come in.
Bank B happens to have an excess of cash on their books and as any good banker knows, cash sitting around doesn’t make any money so they’re eager to lend some of their cash. Bank A and Bank B come together and work out the terms of a short term loan, but how do they agree on an interest rate?
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