Libor should be based on 'actual trades', says FSA

The FSA is gearing up to tell the UK banking industry that the Libor rate should no longer be set by the British Bankers' Association but be based on actual market data.

by Rebecca Burn-Callander
Last Updated: 19 Aug 2013
The BBA could be about to be stripped of its Libor-rate-setting powers, if word on the Square Mile is to be believed. Managing director of the Financial Services Authority, Martin Wheatley, is set to deliver a speech on Friday, reiterating that the current system is ‘not fit for purpose’ and outlining changes to the way that the London interbank offered rate is set.

The heat is on Wheatley and the FSA to rebuild confidence in UK banking following allegations of rate fixing. The furore has already cost Barclays’ boss Bob Diamond his job, and many more heads are set to roll before the sorry saga is over.

Libor is a rather strange beast. It is the rate set by a panel of banks, estimating the price at which they expect to be able to borrow over various periods (there are now 150 rates in different currencies, covering everything from overnight rates to borrowing rates averaged over a whole year). This then affects the rates that banks offer their customers. But, and there’s the rub, Libor is based on quotes and does not necessarily reflect the rate at which the banks actually do borrow money.

Basing the Libor rate on actual trades, however, would force the predicted and actual rates to become one and the same. And while technology may not have allowed such a thing when Libor was first spawned in the early eighties, today’s financial infrastructure would make such a market tracker both robust and transparent.

So will the BBA be sorry to see Libor go?  Probably not. The task of setting the rate has become something of a poisoned chalice for the organisation, and new BBA boss Anthony Browne may well be glad to see the back of it. The BBA has already pledged to support any reforms proposed by Wheatley, so once he lets the cat out of the bag on Friday, it’ll be close to a done deal.

The onus is on the FSA and UK banking industry to move fast. Wall Street is already mobilising to come up with its own alternative benchmark rate – the Libor row has already stirred up transatlantic tensions between the Brits and our American cousins. Given that Libor governs the prices set on $350tn of financial products from New York to Tokyo, there’s rather a lot at stake.

This isn’t just about setting a new benchmark. This has become a struggle for global financial power. Wheatley may yet succeed in subduing an all-out rebellion but he’d better be wearing his sturdiest tin hat…

Read more news about the UK economy.

Find this article useful?

Get more great articles like this in your inbox every lunchtime