UK Regulator Signals Death Knell For Libor By 2021

The much-maligned Libor benchmark lending rate is set to be phased out by end of 2021 according to a UK regulator. Andrew Bailey, head of the Financial Conduct Authority (FCA) said that the London Interbank Offered Rate (Libor) will cease to get backing from UK’s regulatory agencies from 2021 onwards.

Libor is the daily benchmark rate based on which banks decide borrowing rates. Several banks have recently been indicted for manipulating the benchmark. They have paid nearly $9 billion in fines and several bankers have been since convicted for rigging the rate.

Bailey noted there were no indications of any further wrong-doing after an overhaul of the processes surrounding the rate-setting. He however stated that setting the Libor using opinions from few industry leaders was not acceptable.

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In a statement Bailey said

Libor is trying to do too many things: it’s trying to be a measure of bank risk and it’s trying to substitute for interest-rate risk markets where really it would be better to use a risk-free rate. It’s had to come to a conclusion

The rate currently forms the basis for contracts worth nearly $350 trillion (£268 trillion) worldwide, according to the Bank of England. Contracts using Libor range from mortgages to credit cards and student loans. Although it is not clear how the Libor rate will be replaced, the FCA has said that a substitute system would be put in place before it is removed.

Earlier this month Bank of England Governor Mark Carney stated that reference rates must be based on actual market transactions rather than judgements. He named the sterling overnight index average (Sonia) as a possible candidate. The landmark move was hailed by some stakeholders.

Mark Field, Tory MP for the City of London said that the FCA announcement acknowledged the widely-held view in the industry that Libor was no longer the right solution. Chris Philp, another Tory MP said that the subjectivity involved in the setting of Libor rate had allowed its manipulation and setting the benchmark rate on basis of calculations and not judgements was a welcome move.

Peter Chatwell, head of European Rates Strategy at Mizuho International Plc in London however said that the FCA’s announcement would increase volatility and cast uncertainty on transactions involving all Libor-based swap rates, along with impacting liquidity. Bailey has stated that having a firm schedule over four years would help banks and other financial institutions to develop a solution and shift to a new regime smoothly.

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