The reforms include a new independent body to supervise the Libor-setting system. Individuals who violate the law may face criminal charges—up to seven years in prison. Banks will also be forced to use real data when submitting rates, a departure from the past procedure of estimating rates, according to City A.M.
“The disturbing events we have uncovered in the manipulation of Libor have severely damaged our confidence and our trust—it has torn the very fabric that our financial system is built on,” Martin Wheatley, the managing director of the FSA’s consumer and markets business unit, said, City A.M. reports. “Today we press the reset button. We need to get back to what this reference rate is supposed to do, restore integrity to a globally important benchmark and make sure we get to a position where individuals act with integrity.”
Libor has historically been managed by the British Bankers’ Association. A group of banks submit estimates to the BBA of the rate at which they could borrow from other banks for various currencies and time periods. The financial industry relies on these estimates to demonstrate the strength of each bank involved in rate-setting.
“The system had in-built conflicts of interest from the start—with traders’ bonuses dependent on the Libor rate, and no bank wanting to be seen as vulnerable in such a transparent system, too many people had a vested interest in gaming the system,” Wheatley said, according to City A.M.
Under the new system, banks’ submissions will remain confidential for three months, thereby reducing the likelihood of worrying markets about an institution’s financial health. The submissions will be based on real transaction data that will be verified by external auditors.
Staff responsible for submitting Libor rates must be approved by the FSA. Should these individuals break the rules, they could face fines, termination or criminal charges, City A.M. reports.
During periods of economic stress, some of the markets on which Libor figures are based would become dry, and submissions would be estimates, as there were no real transactions off of which to base the submissions.
To reduce the probability of this occurrence, the FSA will phase out Libor measurements for less-traded currencies like the Canadian dollar, Australian dollar and Danish Krone, for a number of different time periods, according to City A.M.