A global financial standard-setter laid out a roadmap on Friday to transition the finance world off a widely used but soon-to-be-discontinued interest-rate benchmark, saying it expects lenders to be able to offer loans not tied to the London Interbank Offered Rate by the end of this year.
The Financial Stability Board defined a series of stages financial institutions should go through in the next 15 months to significantly reduce their exposure to LIBOR, with the shift to non-LIBOR-based loans after 2020 being the one of the first major checkpoints. Firms are also expected “at a minimum” to use alternative reference rates in new contracts whenever possible and prepare a transition strategy for existing contracts on LIBOR by mid-2021.
By the end of next year, all of their new business activity should be disconnected from the sunsetting benchmark, the Switzerland-based agency said.
“These are considered prudent steps to take to ensure an orderly transition by end-2021 and are intended to supplement existing timelines/milestones from industry working groups and regulators,” the Financial Stability Board said.
LIBOR underlies hundreds of trillions of dollars in derivatives and other financial contracts globally. The interest-rate benchmark has been slated for an effective retirement at the end of 2021 following a global manipulation scandal around the time of the 2008 financial crisis. Several countries have developed alternative reference rates, such as the Federal Reserve Bank of New York’s Secured Overnight Financing Rate.
The standard-setting agency also strongly encouraged firms to adhere to an upcoming protocol by the International Swaps and Derivatives Association that will allow firms to more easily include fallback provisions in LIBOR contracts, by switching to a non-LIBOR rate if the key benchmark becomes unavailable. The protocol will be issued on Oct. 23, the association said, after it received approval from the U.S. Department of Justice and other competition authorities earlier this month.
The body said it expected firms to have already identified and assessed their existing LIBOR exposures in both contracts and non-financial dependencies, as well as to have agreed on a specific transition timeline.
The Financial Stability Board gave recommendations to financial authorities back in July when, alongside the Basel Committee on Banking Supervision, it recommended they create formal LIBOR transition strategies and consider stronger supervision over insufficiently prepared banks. The board also said that month that LIBOR’s discontinuation will not be delayed by the COVID-19 pandemic.
In 2017, the U.K.’s Financial Conduct Authority said it would phase out LIBOR over its growing unreliability due to insufficient data. The benchmark was additionally the focal point of a wide-ranging scandal during the 2008 financial crisis, when it was manipulated by major banks to misrepresent their financial soundness.