The European Central Bank (ECB) has teamed up with key finance regulators in a special working group tasked with developing a new risk-free overnight rate for the euro area.
In a 21 September statement, the ECB said that the new rate will “serve as a basis for an alternative to current benchmarks used in a variety of financial instruments and contracts”.
An ECB Secretariat will coordinate the group, which will also comprise officials from the Financial Services and Markets Authority (FSMA) and the European Securities and Markets Authority (ESMA) – plus experts from the European Commission.
Chaired by a yet-to-be-announced private-sector representative, the working group will consult market participants and end users on the framework for formulating the new rate.
It will seek additional feedback from a series of other, relevant public authorities and stakeholders.
The ECB said that, as soon as the group has made a recommendation on its preferred, alternative risk-free rate, it will explore potential approaches for ensuring a smooth transition to that rate – should such a step be required in the future.
It explained: “For such a case, careful transition planning by market participants aims to minimise disruption to markets and consumers, and to safeguard the continuity of contracts to the greatest extent possible.”
That planning process will encompass contracts that currently reference a term rate, rather than an overnight rate.
All of those tasks, the ECB noted, require a “concerted effort by all market participants” and affected public authorities to facilitate a gradual reduction of their current reliance on interbank offered rates (IBORs).
Set in several different countries and regions – with one of the most famous being Libor – IBORs typically serve as benchmark reference rates for an array of debt instruments.
Such instruments include currency and interest swaps, student loans, credit card products and mortgages – plus government and corporate bonds.
In order to guarantee transparency throughout the process of identifying and adopting the new, risk-free rate, the working group’s terms of reference will be made public. It will also provide regular reports on its meetings.
“Ensuring broad market acceptance,” the ECB stressed, “is vital for the effective functioning of any alternative to existing benchmark rates.”
On the same day as it unveiled the working group, the ECB announced that it would start providing an overnight, unsecured index before 2020.
“This widens the set of options for the choice of such alternative rates for the euro area,” it explained, “and is in line with the recommendation of the… Financial Stability Board… to identify and adopt one or more risk-free rates in each main currency area.”