BOJ Calls for Faster Progress on Libor as Clock Ticks on Expiry

(Bloomberg) -- Financial institutions in Japan must accelerate efforts to prepare for the transition away from Libor, according to the Bank of Japan’s point man on the expiry of the benchmark that affects financial contracts worth trillions of dollars.

“We’re no longer at a stage to wonder whether it’s doable or not. We’re at the stage where we have to get it done,” said Akira Otani, the head of BOJ’s financial markets department, in an interview with Bloomberg.

Amid some concern that Japan may be behind in its preparations for the transition away from the London Interbank Offered Rate, the country’s first big test comes at the end of this month with a local deadline for phasing out use of the benchmark in new transactions.

The biggest risk for the Libor transition is that some institutions may choose to wait and see what others do first to avoid the cost of exploring the alternatives themselves, Otani said.

“Playing a late hand may appear to make the most sense at first glance, but the outcome of that is tremendously problematic,” Otani said. “If Libor disappears without any transition that would harm every market participant and trigger the possibility of technical defaults.”

Otani said he was aware of concerns over a slow transition in Japan, but he said there was no need for the BOJ or Financial Services Agency to hint at using punitive measures to hurry firms along for now.

He said there were two key points for assessing Japan’s progress: the phasing out of Libor’s use in new contracts and the need to update existing contracts using Libor beyond 2021 with fallback provisions.

The BOJ last month released its second survey on transition preparations, based on responses from 274 financial institutions. The survey showed that the transition for derivatives was almost fully complete, with 96% of relevant respondents saying they had signed off on or had decided to adopt the International Swaps and Derivatives Association’s protocol outlining fallbacks.

But for spot-market contracts centering largely on loans, only 18.7% of the outstanding amount of yen-Libor contracts was covered by fallback provisions as of December last year, according to the survey.

Otani said the result showed companies had at least started preparing for the transition even if much progress was still needed, adding that a lot of work had been done by a Libor transition panel since then to support moves.

With the start of disclosure of the Tokyo Term Risk Free Rate, or TORF, in April by Quick Benchmarks, stake holders now have sufficient tools to quicken the transition, Otani said. TORF, TIBOR and a risk free rate based on the Tokyo Overnight Average Rate or TONA are the three main alternative rates, he said.

In the U.K. the Bank of England and Financial Conduct Authority have called for bonus cuts for executives at banks where the transition is delayed. But Japan will use a communications-based strategy to cajole laggards, not a stick approach, Otani said.

British regulators indicated in March they plan to keep a synthetic yen Libor in operation for an additional year to allow more legacy contracts to mature. The rate could help forestall a flurry of lawsuits over Libor-linked deals once the benchmark ceases to be published.

Only a small number of Japan’s financial products are tied to Libor for retail investment and small companies so the array of tough legacy issues is going to be “extremely limited” compared with the U.S. and U.K., Otani said.

Still, Otani said the possibility of a synthetic Libor shouldn’t be used as an excuse for a delay.

“The important point is that pushing back the transition process isn’t acceptable just because a synthetic yen Libor will be around for a bit,” Otani said. “I want the process to proceed without counting on that option.”

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