Thank you, Secretary Yellen. Thank you to all of my colleagues—not only at this table but around the globe—for their hard work putting an end to the London Interbank Offered Rate (LIBOR)
LIBOR was an innovation of the 1970s to facilitate businesses borrowing from banks at a rate that adjusted based upon market interest rates.
By the 1980s, to determine LIBOR, banks were using the rate at which banks were lending to each other without taking collateral. It became so popular that it was embedded in hundreds of trillions of dollars of financial contracts around the world—well beyond businesses, even to mortgages and car loans. Thus, it was critical that LIBOR be based on something honest and reliable.
Yet, there were so few actual transactions underpinning LIBOR, that, as Hans Christian Andersen wrote in his famous folktale “The Emperor’s New Clothes,” this emperor had no clothes.
In 2008, the Governor of the Bank of England, Mervyn King said of LIBOR: “It is, in many ways, the rate at which banks do not lend to each other.”
It was that same year that the staff at the Commodity Futures Trading Commission (CFTC) began looking into this. Working with law enforcement partners around the globe, they found multiple cases of banks manipulating LIBOR for their own profit and defrauding the public.
Policymakers worldwide, from central banks, including the Federal Reserve; to FSOC and the Financial Stability Board; to market regulators, including the SEC and CFTC; to Congress, came together to end LIBOR. In essence, we all knew we needed an emperor who was properly clothed.
It took a lot of work, but 15 years later, as of June 30, 2023, it finally ceased. In the United States, the main replacement for LIBOR is the Secured Overnight Financing Rate. We cannot, however, stop here.
There will be some pretenders, as there often are in the history of emperors.
It is important that any rate used to replace LIBOR be robust and not ill clad. Certain alternatives being considered in the markets, however, present many of the same flaws as LIBOR: thin markets—in times of stress scantily-clad—with few underlying transactions, creating a system vulnerable to collapse and manipulation.
As I have said previously, I think the so-called credit sensitive rates, such as the BSBY rate (Bloomberg Short-Term Bank Yield Index), have infirmities that will not stand the test of time—and will not be good for financial stability or for future FSOC members.
The International Organization of Securities Commissions (IOSCO) recently conducted a review of certain alternatives to USD LIBOR, and the credit sensitive rates reviewed were not found to meet the IOSCO Principles for stable and reliable benchmarks in the areas of benchmark design, data sufficiency, and transparency.
The LIBOR story is a cautionary tale not to just trust something because it’s popular or ubiquitous.
Rest in peace, LIBOR, the emperor with no clothes.
These remarks were delivered on July 28, 2023, by Gary Gensler, chair of the U.S. Securities and Exchange Commission, before the Financial Stability Oversight Council in Washington, D.C.