The TED Spread

THE TED SPREAD….The TED spread is the difference between the interest rate on 3-month treasury bills (safe as houses, um, well, really safe, anyway) and the rate banks charge each other for 3-month loans (the LIBOR rate). I’d never heard of the TED spread until a couple of months ago, but apparently it’s a pretty good indication of financial jitters. When the financial markets are calm and happy and everyone is paying their bills, the spread is small. Banks lend to each other for only a small premium above what Uncle Sam charges. When fear takes over (will Bear Stearns really be able to pay back that loan?) banks raise their interest rate and the TED spread increases.

Anyhoo, Brad DeLong calls the TED spread “the consensus indicator of the depth of the current financial crunch,” so I thought I’d toss it up for everyone to see. The chart below shows the TED spread for the past three years: smooth sailing until August 2007 when the subprime crisis hit, another jump in December, and then a third in March. So far, nothing the Fed has done has kept the financial markets calm for long, and after the last intervention the spread didn’t even manage to recover as well as it had the during the first two crises. It went down a measly 74 basis points and then started rising again.

What happens next? Who knows? I just thought I’d share this as something to watch if you want to take the current temperature of the financial markets. At the moment, the answer seems to be “not so great, but it could be worse.”

(And, in fact, it might be worse. The Wall Street Journal reported the other day on suspicions that banks are lying about their interbank lending rates, making LIBOR seem smaller than it really is. If this is true, then the TED spread is actually larger than it seems. Yuck.)