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Last updateSat, 29 Jul 2017 12am

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The Greenspan Test

Alan Greenspan test says "The financial crisis is over once the gap between the London interbank offered rate (Libor) and the overnight index swap rate had narrowed to 50 basis points."

In plain English, he was referring to the  extra amount big banks charge each other for 3-month loans, compared with the base rate set by the central bank.  When the gap between the two increases, it demonstrates that banks are holding cash, and reluctant to trust each other with a loan.

The normal gap is less than 0.2% (20 basis points).  The gap ballooned last summer as the credit crisis took hold.  At one point, the gap exceeded 100bps.  The gap was narrowed to 69bps when the central banks intervened.  Since then, it has widened once more to reach 72bps - i.e. we are still in the crisis territory!

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Source:  John Authers, Financial Times, 20080630, "The Greenspan Test”