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City watchdog gives banks reprieve on LIBOR contracts

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The City watchdog will allow banks and other financial institutions to use a watered down version of a much-lamented interest rate benchmark for existing contracts.

Banks will be able to apply the LIBOR benchmark on existing pound and yen denominated contracts which have not been restructured on to a new rate until the end of December, the Financial Conduct Authority (FCA) announced today.

The FCA justified the decision to extend the use of LIBOR on certain contracts due to the “scale and nature of legacy contracts that do not have adequate provisions to deal” with moving onto a new benchmark in such a short timeframe.

“There is a risk of disruption to markets and consumers if interest payments in LIBOR loans, mortgages, bonds, and other contracts that have not switched by end-2021, cannot be calculated,” the FCA said.

Global regulators have been pushing to wean the world’s financial system off of LIBOR due to concerns it is open to manipulation and does not properly reflect market interest rates.

Large swathes of financial contracts are calculated using the LIBOR benchmark, meaning restructuring deep tranches of contracts could trigger substantial financial distress.

Despite granting financial institutions an extension on using the “synthetic” LIBOR rate, the FCA stressed firms need to accelerate their efforts to remove it from their contract calculations.

“While synthetic LIBOR reduces risk in the transition and provides a bridge to Risk-Free Rates like SONIA, it will not last indefinitely and contracts need to be moved away from LIBOR wherever possible,” Edwin Schooling Latter, director of markets and wholesale policy at the FCA, said.