Bank of England says reliance on Libor poses risk to stability

By Huw Jones

LONDON (Reuters) - Reliance on the Libor interest rate benchmark in setting mortgages, credit card loans and other contracts across the world poses a risk to the financial system, the Bank of England said on Tuesday.

In minutes published on Tuesday of its Sept. 20 Financial Policy Committee meeting, officials gave their bluntest warning yet about concerns over the continued use of Libor to underpin $350 trillion in contracts, despite reforms to make it safer.

A rigging scandal over the rate, which is used to settle contracts globally, erupted in 2012 when Barclays became the first of many banks to be penalised for manipulating it, chalking up fines that cumulatively ran into billions of pounds.

Members of the FPC reached their conclusion about Libor at their March meeting - but were so concerned about how this could affect markets that they delayed publication of it until Tuesday.

While acknowledging that steps were being taken to mitigate the risk, the FPC concluded that "market reliance on the Libor benchmark created a financial stability risk," the record the September meeting showed.

Since the rigging scandal, controls over Libor calculations have been tightened and handed to an independent third party, ICE Benchmark Administration (ICE.N), which had no immediate comment on Tuesday.

The FPC said publication of its concerns in March was not considered in the public interest as it "could precipitate the risks that the action under way was seeking to avoid".

The action included Financial Conduct Authority Chief Executive Andrew Bailey saying he wanted an alternative to Libor in place after 2021.

Dealers have also agreed that the BoE's own "Sonia" or overnight rate was the best alternative to Libor, and industry bodies are looking at ways to make migration to Sonia as smooth as possible.

The benchmark's medium-term future was in doubt due to a scarcity of transactions that underpin it, the FPC said. This raised the possibility of the benchmark suddenly disappearing.

The FCA wants banks to voluntarily continue submitting quotes for compiling the daily Libor benchmark until the end of 2021 to ensure a smooth migration to the alternative rate.

The FPC said the response has been positive from most of the banks involved, but no final agreement has been reached yet.

In the meantime the FCA was taking steps to compel banks to continue submitting quotes, if required, the FPC said.

The European Central Bank, the Federal Reserve, and central banks in Japan and Switzerland are also working on "risk free" alternatives to Libor in their home markets.

(Reporting by Huw Jones)