Tackling LIBOR

Trust in the interbank lending system must be rebuilt. The question is how.

Earlier this week, the European Union announced new proposals intended to tackle the oversight and transparency issues that have plagued LIBOR [the London Interbank Offered Rate] since revelations of rate fixing emerged last year.

LIBOR has traditionally been set by a filtered average of international banks that sets interest rates on interbank lending each day. Last year, reports from various news organisations revealed that the Royal Bank of Scotland, Barclay’s and others had deliberately altered their rates in order to create advantages for their own trades, resulting in a widespread call for greater oversight. 

That level of market manipulation is problematic – to say the least – as some estimates place LIBOR’s usage on financial products at $360 trillion worldwide, including mortgage securities and bank loans. Obviously, given the scope of the scandal and the market’s reliance on the lending benchmark, some sort of oversight is necessary. 

Somewhat less obvious is a solution to the problems that allowed for the manipulation of the interbank offer rate, which has remained the most predominant benchmark for market interest rates despite the scandal.

The proposals set forth by the EU include subjecting the benchmarks to national and European authorisation, as well as greater transparency of the data used by the banks to calculate market rates. The proposal also reportedly allows fines of up to 10 percent of revenues for banks found to be rigging its estimates, according to reports.

“Market confidence has been undermined by scandals and allegations of benchmark manipulation. This cannot go on: we must rebuild trust,” said Internal Market Commissioner Michel Barnier in a statement. “[The] proposals will ensure for the first time that all benchmark providers have to be authorised and supervised; they will enhance transparency and tackle conflicts of interest.”

While little doubt remains that oversight is necessary, establishing what organisation performs that duty and the powers they assume is much trickier. An earlier effort to turn LIBOR over to a European regulatory agency was nixed by the UK, according to reports. With that in mind, it’s unclear what effect the most recent proposals may have – or if they even have a chance of surviving the European Parliament. Meanwhile, news of the new, impending regulation comes just over a month after the British Bankers’ Association – LIBOR’s administrator – announced that it would be transferring its responsibilities to NYSE Euronext.

In any case, it is clear that greater cooperation between the concerned parties will be necessary moving forward. With regulatory oversight and management in flux, it will be extremely interesting to see if any the proposed can lead to a change in LIBOR’s status as the standard bearer for interest rates.