India’s Transition Away from LIBOR ‘Full of Challenges’

The RBI’s Vasudev Hemachandran writes about the need to replace MIFOR with an alternative rate, and the issues India faces in its transition.

The RBI (Reserve Bank of India) in its November bulletin has reiterated a plan to develop an alternative benchmark rate in place of MIFOR (Mumbai Interbank Forward Outright Rate), which uses LIBOR as one of its components.

In India, exposures to LIBOR arise from loan contracts linked to LIBOR, foreign currency non resident (FCNR) deposits with floating rates of interest linked to LIBOR, and derivatives linked to LIBOR or MIFOR.

Preliminary estimates suggest that about USD 50 billion of debt contracts and USD 281 billion of derivative contracts will expire beyond 2021. “These figures are, however, not static as new contracts referencing LIBOR continue to be signed,” says an article prepared by Vasudev Hemachandran, a Manager in the RBI’s Financial Markets Regulation Department.

In addition, there are government exposures linked to LIBOR, including LIBOR-linked loans availed from multilateral and bilateral agencies and lines of credit offered to other countries, he adds.

MIFOR is used by banks to price and cover currency swaps offered to ECB (external commercial borrowing) borrowers, and is referenced in about a fifth of interest rate swap (IRS) transactions. “An alternate benchmark based on global ARRs will need to be developed in place of the MIFOR,” the article says.

Several options are possible:

  • an alternative benchmark based on daily SOFR (compounded in arrears) along with USD INR forward premium
  • daily SOFR with USDINR cash/Tom swap rate (both compounded in arrears)
  • MIBOR (an unsecured daily benchmark based on call money market transactions)
  • MROR (a secured daily benchmark based on repo transactions)
  • Treasury Bills rate

In the article, Hemachandran outlines the advantages and issues of these alternative rates, also pointing to the need to address issues associated with deriving a term structure.

He also notes that CCIL (Clearing Corporation of India) currently provides guaranteed settlement for IRS contracts that reference MIFOR. As such, these clearing and settlement arrangements will also need to be modified to provide for an alternate benchmark.

In addition, existing loan and derivative contracts do not have contractual fallback clauses that cater to LIBOR’s cessation. “Fallback clauses customised to domestic markets but based on global practices will, therefore, need to be developed.”

“As we move closer to the transition date, all contracts which will continue after LIBOR cessation will need to be renegotiated and replaced,” Hemachandran says, pointing to the need to ensure adequate stakeholder awareness across all classes of financial market participants and address related accounting and tax issues.

Transition arrangements for MIFOR-linked IRS contracts, however, are expected to be relatively less tricky to handle than it has been in other markets, as such contracts are traded only in the interbank market.

Yet, existing regulations which reference LIBOR will also need to be amended to provide for contracts referencing alternative rates.

The RBI has also not yet determined a cut-off date after which no new contracts can be entered using LIBOR. This will depend on the development of liquid debt and derivative markets linked to alternative rates, Hemachandran says.

His article says:

“Beyond these issues is the need for preparation of the banking and the broader financial system for the transition. A large number of business processes that will be impacted by the transition will need to be re-engineered. All IT systems that use LIBOR will need to be changed. With financial institutions in India often using a mix of in-house and third-party vendors, IT changes will be far from easy. Most importantly, personnel at different levels will need to be made aware and even trained.”

The RBI has tasked the IBA (Indian Banks’ Association) with consulting on issues relevant to transition efforts. The IBA has since formed three workstreams: LIBOR transition arrangements; rates and methodology; and outreach to market participants.

The IBA has circulated a guidance note among its member banks to enable them assess their preparedness for the transition. Meanwhile, its rates and methodology workstream is developing an alternative for MIFOR, and the outreach workstream is working to create awareness.

“The transition away from LIBOR to a new benchmark will be full of challenges,” Hemachandran says. “Every stakeholder – the financial sector; regulators; tax, legal and accounting systems; and real sector participants needs to play a role.”

The full article is available here.

The views expressed in the article do not represent the views of the RBI.

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