U.S. Commodity Futures Trading Commission Chairman Gary Gensler questioned the long-term viability of benchmark rates such as Libor, saying underlying markets on which they rely may be permanently disrupted.
“Anchoring to real transactions is essential to have confidence in these benchmarks,” Gensler said in an interview in London today. “The banks are right now estimating something that isn’t an active market.”
Gensler, who spearheaded probes into interest-rate rigging at the world’s biggest banks, is visiting the British capital to meet with Martin Wheatley, a managing director at the U.K. Financial Services Authority, and other regulators from around the world to discuss the future of interest-rate benchmarks. Barclays Plc (BARC), UBS AG (UBSN) and Royal Bank of Scotland Group Plc (RBS) have been fined more than $2.5 billion by U.S. and U.K. regulators for manipulating the London interbank offered rate, and more than a dozen more firms are being probed.
In June, the CFTC published a code of conduct governing how banks make their daily submissions. Rate-setters will have to base their inputs on a hierarchy of data points, starting with actual transactions in the unsecured interbank deposit market, Gensler said. Where none exist, banks should then consider any borrowings made through other instruments, including commercial paper or repurchase agreements.
“One of the really challenging things is how systemic this is,” Gensler said. “This is like a reference rate that is too big to replace, but I don’t think we want to fall prey to that because it’s so unstable.”
Potential alternatives to Libor include the Overnight Indexed Swap rate, a gauge of overnight borrowing costs, as well as benchmark government bond yields and a rate based on secured borrowing, such as the Repurchase overnight index average, he said.
Following the collapse of Lehman Brothers Holdings Inc. in September 2008, banks stopped lending to one another for periods of more than a day or two. In the absence of any interbank transactions, banks increasingly set Libor to suit their own derivatives positions, according to regulatory filings.
The market has remained frozen for longer maturities and may never re-open because banks view each other as too risky to lend to, Gensler said. Upcoming regulatory changes, including the latest round of capital rules set by the Basel Committee on Banking Supervision, also make such transactions too costly and firms can get cheaper funding directly from their central banks, he said.
Libor is calculated by a poll carried out daily by Thomson Reuters Corp. on behalf of the British Bankers’ Association, a banking industry lobby group, that asks firms to estimate how much it would cost to borrow from each other for different periods and in different currencies. The top and bottom quartiles of quotes are excluded, and those left are averaged and published for individual currencies before noon in London.
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