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What The Fed Meeting With Banks Today Tells Us About Brexit

Summary

Fed Governor Jerome Powell, who is tough on banks, meets with banks today to collaborate.

They are discussing the need to have an alternative to LIBOR.

The discussion reminds us that the financial system is ever connected and fragile.

The Alternative Reference Rates Committee (ARRC) meets today at 2:30 PM. The meeting is with the Fed and many banks and exchanges to discuss a way to create a new rate system that can sidestep LIBOR (We list the participants at the end of this report).

Although this meeting is not focused on the upcoming vote in the UK, we think this meeting is a timely reminder to understand the importance of the UK financial system to the world. Either outcome of Brexit could swing the stock market (NYSEARCA:SPY) based on the amount of global financial players that are involved.

LIBOR liquidity risk

In their interum report the ARRC said they have, "recognized that the secular decline in wholesale unsecured short-term funding by banks poses serious structural risks for unsecured benchmarks such as LIBOR, Euribor, and TIBOR."

Liquidity and supply that determine global interest rates through LIBOR have gone down which has opened the market to "rigging." For today's exercise we are not focused on rigging, but rather, how many global players are intimately involved through the UK, the banking system, and how far the web spreads.

The simple fact that the Fed and banks are in progressive discussions to avoid LIBOR in a much bigger way shows the risks involved. LIBOR, although it is the global standard rate determining infrastructure, has seen its liquidity decline which opens the system to volatility and risk.

Global Financial Players Care

The world runs in some form on LIBOR. Rates, buy and sell decisions, change in principle amounts ultimately help decide LIBOR. The lack of liquidity, according to ARRC makes it a risk. The amount of capital that may change hands on a vote this week either way could cause strain on a less liquid system.

Here's what ARRC said, "As it is well understood, without sustainable trading volume and liquidity, price discovery in unsecured short-term markets will remain uncertain...


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