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Interbank Market

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The interbank market refers to the market where banks make loans to each other. A bank in need of additional funds to meet its liquidity requirements for example will take out a loan from another bank in the interbank market. On the flip side, a bank with excess funds can participate in the interbank market to extract more value out of its liquid assets. A bank can also use the interbank market to quickly raise the capital it needs to fund a venture. Various interest rates are used in the interbank market, including the widely used London Interbank Offered Rate (i.e. LIBOR). Other rates used in interbank market transactions are the Euro Interbank Offered Rate (i.e. EURIBOR) and the Tokyo Interbank Offered Rate (i.e. TIBOR). The interbank market is watched closely to assess credit risk and measure the state of the economy. Indeed, in a credit crunch situation, interbank market activities will slow down significantly or even freeze up (i.e. banks don't trust that other banks taking out loans in the interbank market will be able to repay). Such uncertainty in the interbank market can cause LIBOR rates to spike and the TED spread to widen.



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