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After LIBOR, What next?


LIBOR (the London Interbank Offer Rate) is administered by the Intercontinental Exchange (ICE) and regulated by the UK Financial Conduct Authority (FCA). It had been computed daily in London for five currencies each with seven different maturities ranging from overnight to a year. The five currencies for which LIBOR is computed are Swiss Franc (CHF), Euro (EUR, Pound Sterling (GBP), Japanese Yen (YEN) and US Dollar (USD). LIBORs are designed to reflect the price of interbank funding markets. Each IBOR had been published daily across a variety of currencies and tenors (e.g. overnight, one-week, three-month, six-month), and predominantly based on submissions by a panel of banks.

There are two important reasons for LIBOR reform:

Decreasing Transaction: Post the financial crisis, changes to bank capital requirements resulted in a significant decrease in transaction volumes in the unsecured inter-bank lending market-upon which LIBOR is based. With insufficient transaction data, LIBOR submissions have increasingly relied on expert judgement from the panel banks. Regulators have therefore grown increasingly concerned about the long term sustainability of the benchmark and have decided to pre-empt any further possible deterioration by indicating their preference of an end to LIBOR.

LIBOR Scandal : The beginning of the end of LIBOR was started in 2012 when the LIBOR scandal rocked the financial markets across the world. As a result, global regulators initiated the process to transition away from LIBOR and move towards a rate which does away with all the shortcomings associated with LIBOR.

Where we’re Going

Since 2014, global regulators have set up working groups to identify Alternative Reference Rates (ARRs) to LIBOR. The focus of the working groups was to identify rates that had markets of suitable size underpinning them and a robust governance framework for their calculation. The ARRs are considered more robust and reliable interest rate benchmarks than LIBOR as their calculation is based on actual transactions in the underlying market. The FCA confirmed the cessation or loss of representativeness dates of all 35 LIBOR settings on 5 March 2021. Subsequently, all GBP, EUR, CHF, JPY, and 1-week & 2-month USD LIBOR tenors, ceased publication on 31 December 2021. The remaining USD LIBOR tenors will cease publication after 30 June 2023.

Indian Transition from LIBOR to ARR

In India LIBOR serves two primary purposes for Indian financial market as a reference rate and as a benchmark rate. A reference rate is a rate that financial instruments can contract upon to establish the terms of the agreement. A benchmark rate reflects a relative performance measure, oftentimes for investment returns or funding costs. LIBOR serves as the primary reference rate for short-term floating rate financial contracts like swaps and futures. On 8th July 2021 RBI published a roadmap for LIBOR transition by notification. RBI suggested ceasing of LIBOR rate for benchmarking and suggested the banking and financial institutions start using ARR (Alternative Reference Rates) on or before 31st December 2021. Further, on 8th December 2021 by a circular RBI replace ARR as benchmarking rate for 6 months LIBOR rates, for all the external commercial borrowing & trade credits, and also recommended an
all-in-cost ceiling based on ARR. On the 8th December circular RBI recommended the adjustment as follows:

  1. all-in-cost ceiling for new foreign currency External Commercial Borrowings (ECBs) and Trade Credits (TCs) increased by 50 bps to 500 bps and 300 bps respectively.
  2. all-in-cost ceiling for existing foreign currency ECBs and TCs increased by 100 bps to 550 bps and 350 bps respectively.

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