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RIMES BMR Seminar: Where Next for Ibors and RFRs in the Eurozone?

On November 21, RIMES hosted its third Regulatory Seminar on the topic of the EU Benchmarks Regulation (BMR). In the first session of the day, María José Gómez Yubero, Head of Resolution and Financial Stability Issues at the CNMV (the Spanish financial sector regulator), presented a recap of the changing situation with regards to Ibors and RFRs in the Eurozone following BMR, as well as the associated risks and challenges. Here is a summary of the main points raised during her presentation.

María started by reiterating the importance of interest rate benchmarks in the EU’s financial sector and the wider economy. Not only do these rates underpin a huge number of contracts and financial instruments, they are also used by central banks to implement and monitor monetary policy. Overall, the global exposure of Libor and Euribor is estimated at around €200 trillion, while Eonia is estimated to be €6 trillion.

The reform of these key rates stems from the damaging manipulation of Ibors in 2005 and 2008. As María reminded attendees to the Seminar, the Financial Stability Board (FSB) initiated two strands to the reform of these rates: one to strengthen existing rates and a second to create and promulgate new Risk-Free Rates (RFRs). These reforms have become even more urgent as the liquidity needed to underpin Ibors has dried up.

Next, María provided an overview of the current state of play in the Eurozone. Today, Euribor and Eonia are the most-used rates – both of which were designated as ‘critical’ benchmarks under the terms of BMR. One weakness of these rates is that they rely on voluntary contributions from banks, many of which are stopping their cooperation. For example, the panel of Euribor contributors has fallen from 40 members in its prime to just 20 today. While the regulator can mandate contributions to these rates, it will only be able to do so for a period of two years. A plan of action is therefore critically important.

So, what will happen to Euribor and Eonia? María provided an overview of the plans for each rate. Eonia will not be compliant with BMR and so will likely be replaced by Ester, a risk-free overnight unsecured rate. Produced by the European Central Bank, Ester will be published by October 2019, with a view to it coming into use in 2020. A Working Group is currently looking at how the transition to Ester can best be managed, and there is a possibility that the transition period under BMR might be extended to 2021.

Euribor, on the other hand, is expected to be compliant with BMR – albeit using a new, hybrid methodology (i.e. one based on transactions and other input data) that will make the rate more robust. The BMR compliant version of Euribor is being expedited for approval so that it will be ready for the end of the BMR transition period in 2020. This is good news for a number of Eurozone countries where the rate plays an important role in their economies. In Spain, for example, Euribor underpins long-term retail mortgages and would be difficult to replace.

One the topic of Euribor, María flagged the important point that although it will be BMR compliant come 2020, benchmark users still need to prepare fall back plans for a scenario in which the rate is materially altered or withdrawn, as such plans are obligatory under BMR.

To conclude her presentation, María looked at what the future might hold for Ibors and RFRs. For some markets, Ibors will disappear altogether, while for others a blend of Ibors and RFRs (i.e. Ester) will be optimal. This more diversified world, which will be far less reliant on Ibors, will be more robust and will help build confidence in financial markets.

As María argued, the transition path to this new world is still unclear, but we should have a much better idea come 2019. Given the international nature of the transition it will be a challenge and the range of firms, clients and customers affected by the change will be vast. And due to the large number of contracts, instruments and services involved in the transition the economic impact could be significant. To avoid disruption, this process will need to be managed proactively by stakeholders from both the private and official sectors.

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