LIBOR Continues To Fall

The three-month dollar-based London inter-bank offered rate, or Libor, fell for an 11th straight day today, falling about a basis point to 1.12188%, its third-lowest setting for the current cycle. Further declines look likely, including a break below the cycle low of 1.0825%, which was set on Jan. 14. The current level is 21 basis points below this year's high, which was set on March 10.

Market participants were practically obsessed with Libor after Lehman's fall caused it to spike. Libor's rise was seen as a sign that banks were "afraid to lend to each other." Three-month LIBOR went from a steady 2.82% before Lehman fell to 4.82% in early October, a clear sign that banks were leery of counter-party risks.

To address the Libor problem, the world's central banks and the Federal Reserve in particular began a major expansion of their balance sheets and created numerous programs to stabilize the money market. Two programs stand out: the Federal Reserve's Commercial Paper Funding Facility and its reciprocal currency-swap arrangements. The CPFF enabled issuers to tap the Fed for money, reducing the reliance upon bank credit lines. The swap facility enabled foreign central banks to obtain literally an unlimited amount of dollars in exchange for their own currencies. In both cases, the amount of money available for inter-bank loans increased, reducing its cost -- Libor.

Additional programs such as the Fed's asset-purchase program have contributed to a further expansion of the Fed's balance sheet, further increasing the amount of dollars available in the inter-bank system, sustaining downward pressure on Libor. These downward pressures are likely to continue and push Libor lower.

The point in all of this is to recall the intense focus that existed months ago on a market that is critical to the proper functional of the global financial system. Many take for granted that the Libor problem has been resolved. It is a major positive, although by no means enough to solve all that ills the financial system.