Libor Contracts Caught in Limbo Spur Calls for Congressional Fix
(Bloomberg) -- President Joe Biden’s administration and the Federal Reserve are pushing for U.S. lawmakers to ease Wall Street’s transition away from the London interbank offered rate and help head off legal headaches for many contracts that risk being left in limbo under present plans.
In testimony set to be delivered at a House Financial Services subcommittee meeting Thursday, officials from both the Treasury Department and the Fed will voice support for federal legislation that would allow for an orderly way to shift existing financial products from the discredited set of reference rates, which currently underpins trillions of dollars in securities, derivatives and other contracts.
While banks and regulators have been busying themselves with arrangements for many major markets and products -- and a newly passed law in New York state provides a further backstop for some agreements -- a vast swath of contracts is still potentially vulnerable. That’s where Congress comes in.
“Federal legislation would establish a clear and uniform framework, on a nationwide basis, for replacing Libor in legacy contracts that do not provide for an appropriate fallback rate,” Mark Van Der Weide, general counsel for the Fed’s Board of Governors, said in written testimony released ahead of the hearing.
The phase-out of the widely used benchmark by mid-2023 has vast implications for financial markets, given that it is enshrined in contracts for everything from Wall Street derivatives to consumer credit cards. Both Federal Reserve Chairman Jerome Powell and Treasury Secretary Janet Yellen have previously called for U.S. legislation to prevent the contracts from being cast into legal uncertainty or subject to waves of potentially costly litigation once the index disappears.
“What the markets need is a clear instruction manual,” the Bank Policy Institute’s Tara Payne and Brett Waxman wrote in a blog post on Monday ahead of the hearing.
The U.S. dollar Libor indexes were tied to about $223 trillion of contracts at the end of 2020, according to documents released ahead of the hearing. Those indexes were initially set to be phased out at the end of this year, but the ICE Benchmark Administration plans to keep publishing most of them to give more time for banks to transition.
Yet that delay over the next two years won’t resolve the legal status for contracts that can’t easily be shifted to an alternative index and will still remain in force. While New York enacted a law that would allow such contracts to shift to new rates recommended by regulators, analysts said national legislation is still needed for products including credit cards, mortgages and small business loans covered by various state laws.
“New York legislation doesn’t provide a universal solution,” said John Libra, an attorney at securities litigation firm Korein Tillery. “There are still a large amount of deals outstanding that have different law provisions.”
The Treasury, meanwhile, says that federal legislation could ensure that it has sufficient authority to address the tax consequences of the Libor transition and also to amend a provision related to federal student loans, according to testimony from Brian Smith, deputy assistant secretary for federal finance at the department.
Some in the financial industry are seeking relief from the Trust Indenture Act, a New Deal-era investor protection law. The statute requires unanimous consent for any changes, which could cover the interest rate on securities agreements.
Should Congress fail to pass legislation it will only inject more uncertainty into an already complicated transition that some have likened to Y2K, the turn-of-the-century computer glitch that presented significant operational challenges to Wall Street even if it ultimately proved benign. The absence of a new federal law may also increase the amount of litigation as market participants turn to the courts to determine fallback rates.
“Potential safe harbor provisions will likely reduce the amount of litigation going forward,” Libra said. “It would give trustees and stakeholders comfort.”
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