The Chancellor announced today that the UK Government will legislate to help deal with “tough legacy” contracts that cannot transition from LIBOR before the end-2021 target date. This follows on from the recent report of the Tough Legacy Taskforce and a recognition that COVID-19 has interrupted the market’s progress on transition away from LIBOR.
The Government will do this by amending existing legislation governing critical benchmarks in the UK rather than directly imposing legal changes on LIBOR-referencing contracts that are governed by UK law. The legislation will ensure that, by end-2021, the Financial Conduct Authority (FCA) has the appropriate regulatory powers to manage and direct any wind-down period prior to eventual LIBOR cessation in a way that protects consumers and/or ensures market integrity. The Government envisages giving the FCA a range of new powers, including (but not limited to) to direct a methodology change for a critical benchmark and enabling the FCA ability to specify limited continued use in legacy contracts of an individual critical benchmark whose use has been prohibited because its representativeness will not be restored.
The Government is clearly alive to the risk that the prospect of legislation to deal with tough legacy products gives rise to “scope creep”, i.e. that market participants seek to include more contracts in this category than they would, absent legislation. It notes that one deterrent to this is that parties which rely on regulatory action, enabled by the legislation the Government plans to bring forward, will not have control over the economic terms of that action. Moreover, the authorities will also continue to press market participants to achieve a market-led transition.
In parallel, the FCA issued a statement providing some more information about how it envisages using these new powers. A key message is that “The proposed changes will create a possible way of reducing disruption to holders of ‘tough legacy’ LIBOR contracts (i.e. contracts that genuinely have no or inappropriate alternatives and no realistic ability to be renegotiated or amended) by enabling continued publication of a LIBOR number using a different and more robust methodology and inputs.”
In summary, what we have today is a further clear statement from the UK authorities that transition from LIBOR should be substantially complete by the end of 2021 and that they will use their legislative and regulatory powers to deal with residual tough legacy products should they be needed. But it is equally clear that the authorities will do what they can to make sure that market participants limit to the bare minimum what falls into this residual category. Although the authorities recognise that COVID-19 has interrupted progress on transition they do not regard this as sufficient reason to delay the end-date.
Both the Government and the FCA acknowledge the importance of engaging overseas authorities and market participants on these important issues. One question which is likely to arise at some point is the impact of UK legislative and regulatory changes on contracts governed by overseas laws. Here, as always, the detail – when it emerges – will be important. In the meantime, however, the message is clear – there should be no let-up on market participants’ efforts to achieve a market-led transition.
It is in the interests of financial markets and their customers that the pool of contracts referencing LIBOR is shrunk to an irreducible core ahead of LIBOR’s expected cessation……..The Government recognises, however, that legislative steps could help deal with this narrow pool of ‘tough legacy’ contracts that cannot transition from LIBOR