Let Libor survive the virus to die another day

LIBOR, once dubbed the world's most important number, is scheduled to perish from the end of next year. With the fallout from the pandemic demanding the full attention of banks, it would be better to grant it an official stay of execution.

The flaws with the London Interbank Offered Rate, the suite of benchmark interest rates governing the value of trillions of dollars of securities, are well known. As well as its vulnerability to rigging by traders who submit the rates, the underlying interbank lending market that guaranteed its historical authority has dwindled to almost nothing.

That explains the desire of market regulators, led by the Financial Conduct Authority in the UK, to dislodge Libor from its central role in markets. Unfortunately, the international array of mooted replacements - including Sonia in the UK, SOFR in the US and ESTR in the euro region - are also imperfect.

For one thing, their short maturities as overnight rates have made it difficult to reach a consensus about how to construct a matrix of longer-dated averages, given that the bulk of financial products are based on three-month Libor. And Libor includes a premium for credit risk, which is missing from the successor benchmarks.

Failure of favoured replacements for Libor

Moreover, figures compiled by the International Swaps and Derivatives Association highlight the ongoing failure of the favoured replacements for Libor to gain traction in the market for interest-rate derivatives.

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In the US, more than US$2.1 trillion of derivatives tied to Libor traded in the week ended May 8, compared with just US$17.2 billion based on SOFR. In the UK, Libor products worth US$337 billion changed hands, almost double the US$172 billion of Sonia securities. And, in the euro zone, more than 4,000 derivatives worth US$545 billion linked to Euribor traded, versus just two contracts worth a negligible amount tied to ESTR.

Market authorities are already allowing some deadlines to slip. A UK prohibition against Libor-linked loans designed to halt their origination by the end of September, for example, has been relaxed until the first quarter of next year. The FCA explicitly acknowledged the delay is needed to maintain what it called "the smooth flow of credit to the real economy" as the virus wreaks havoc on companies and consumers. Earlier this month the Bank of England deferred a planned increase in the discount it applies to Libor-linked collateral for central bank loans, shifting the am

Even before the coronavirus struck, market participants were struggling to adjust to the idea that Libor wouldn't exist after the end of 2021. With banks at the forefront of efforts to avoid an economic meltdown, their already low appetite to tackle the complicated job of adopting new benchmark borrowing costs will have diminished even further. Regulators should bow to the inevitable, and leave Libor in place past the current deadline. Changing to the new benchmarks is, frankly, a distraction the world of finance can do without for now. BLOOMBERG