Britain’s top financial watchdog, in a much-awaited reform of benchmark interest rates that have been plagued by scandal, outlined a 10-point plan to fix LIBOR, but stopped short of scrapping the rates.
Martin Wheatley, head of the Financial Services Authority, acknowledged problems with London interbank offered rates, but said that LIBOR is so deeply entrenched in the financial system that it cannot be easily replaced. There are no better alternatives now, and any transition to a new benchmark would be difficult, he said.
“The system is broken and needs a complete overhaul,” Wheatley said in a speech made available in advance.
Longer term, it makes sense for market participants to examine whether there are other possible benchmark rates, Wheatley said.
The plan marks regulators’ first effort to fix the tarnished benchmark, but rulemakers have to thread the needle carefully.
On the one hand, they must restore confidence in the financial system, but on the other hand, they cannot take steps that are too radical without creating big trouble with existing transactions that use the benchmark.
More than US$300 trillion of contracts and loans — from US mortgages to Japanese interest-rate swaps — refer to LIBOR.
LIBOR, which is meant to reflect the rates at which banks borrow from one another, will be based on actual borrowing transactions, Wheatley said.
Previously, banks could estimate where they think they would borrow, which left room for manipulation.
Transactions will be recorded with regular external audits of banks that participate. Bank employees making LIBOR submissions will have to be approved by the FSA.
Wheatley is looking for authorisation to criminally sanction those who attempt to manipulate the rate.
“The British Bankers’ Association clearly failed to properly oversee the LIBOR setting process and should take no further role in the administration and governance of LIBOR,” Wheatley said.