(This article originally appeared in IFR Magazine issue 1946, August 11 2012)
By John Weavers
SYDNEY, Aug 13 (IFR) - European policymakers are studying New Zealand’s trade-based interbank rate as regulators around the world look for ways to restore confidence in their benchmarks in the wake of the Libor scandal.
Members of the European Central Bank’s technical staff have recently discussed the merits of New Zealand’s bank bill benchmark (or BKBM) system with Paul Atmore, CEO of the New Zealand Financial Markets Association, the body responsible for the benchmark.
The ECB has no direct role in overseeing Europe’s interbank lending rates, but the attention of one of the world’s most powerful central banks comes amid calls for a shift to a system based on real trades rather than theoretical quotes.
Atmore is due to visit the Bank of England in the next few weeks, where he is expected to talk up the BKBM rate with bank officials.
Evidence of manipulation has shaken confidence in Libor, Euribor and other benchmarks that underpin trillions of dollars in financial agreements from residential mortgages to complex derivatives contracts.
New Zealand’s and Australia’s bank bill rates - known as BKBM and BBSW, respectively - are considered more transparent than the Libor system overseen by the British Banking Association.
BKBM and BBSW are backed by trades institutions make in the bank bill market - where cash actually changes hands between two parties. That, proponents believe, makes the rates less susceptible to manipulation than Libor, which relies on hypothetical quotes from a rate-setting panel of banks.
Because the banks do not have to make trades at the Libor rates they quote, the incentive to base quotes on actual tradable levels is low.
The Australian Financial Markets Association regulates the BBSW. It has a 14-member panel that includes Prime Banks: Australia and New Zealand Banking Group, Commonwealth Bank of Australia, National Bank of Australia and Westpac.
All panelists are obliged to contribute mid-rates for prime bank bill paper for maturities of one to six months by 10:05am in Sydney each business day. The highest and lowest rates are eliminated for each maturity until there is a maximum of eight contributions.
When there are between five and eight contributions remaining, the highest and lowest are removed, and the average of the remaining three to six mid-rate contributions are displayed on Reuters page BBSW. Under normal circumstances, the bid/offer spread is 5bp either side of the mid-rate.
If there are fewer than five contributions, none are displayed and no calculation is performed for that tenor, according to the AFMA. That raises questions over whether markets would still be able to function in times of extreme stress, although Sydney sources stress that trades were executed every day during the global financial crisis of 2008.
“The banks needed liquidity during the financial crisis and got this by selling bills, so the market continued to operate albeit with an obvious elevation in spreads,” a money market manager said.
New Zealand takes the virtue of transparency a step further than Australia: NZFMA publishes a daily list of all the deals that are used to establish the BKBM rates. All buyers and sellers are listed alongside the size and yield of the trade.
One criticism levelled Down Under is that, unlike Libor, neither of the Antipodean systems asks panel banks at what levels they can raise funds, merely where they see the mid-rate for prime name bank bill paper. (Reporting By John Weavers)