Getting Off Track by Taylor John B.;

Author:Taylor, John B.;
Language: eng
Format: epub
Publisher: Hoover Institution Press

Early Signs

Signs of severe trouble first flared up on Thursday, August 9, 2007, when traders in New York, London, and other financial centers around the world faced a dramatic and sudden change in conditions in the money markets. Interest rates on medium-term interbank loans, measured, for example, by the three-month Libor (London Interbank Offered Rate) surged, compared with the interest rate on overnight interbank loans (the federal funds rate), which the Fed targets. The turmoil did not disappear. The term interbank rates did not come down at all and indeed moved up further on Friday. Rates on such term lending seemed to disconnect from the overnight rate and thereby from the Fed's target for interest rates. Because interest rates on trillions of dollars of loans and securities are linked to Libor, bringing the spread down became a major concern of policy officials at the Federal Reserve.

After many years of comparative calm, traders, bankers, and central bankers found these developments surprising and puzzling. But that Thursday and Friday of August 2007 turned out to be just the beginning of a remarkably long period of tumult in the money markets, with the difference between the three-month Libor and overnight loans remaining unusually high and volatile, reminiscent of the highly extraordinary events described by Nassim Taleb in his popular book The Black Swan: The Impact of the Highly Improbable. But why did that black swan land in the money markets?

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