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Euribor winning the battle Back  
The impending introduction of the single currency has intensified the level of competition between the financial centres of London and Continental Europe. In this regard, the introduction of two competing sets of reference rates for the euro is a microcosm of the bigger battle between the relevant financial centres. The EURIBOR, the euro Interbank Offered Rate, is sponsored by the Federation Bancaire De l’Union (EBF) and by the Association Cambiste International (ACI). The euro-LIBOR, euro London Interbank Offered Rate, is supported by the British Bankers Association (BBA). In the long run, only one of these reference rates is likely to survive to become the relevant benchmark and ultimately it will be the markets that will decide. However, there are sufficient reasons to believe that EURIBOR will win out to be the benchmark set of reference rates.

Before delving into the pros and cons of either set of reference rates, it is worth describing exactly what these rates are. In general, reference rates serve as indicators of the general interest rate level and reflect the terms at which prime banks lend to each other, for example, DIBOR rates in Dublin. In essence, they act as a benchmark for financial products on the money and capital markets, such as floating rate notes and swap agreements. The following are broad definitions of the various reference rates that will be used for the euro.

EURIBOR - will be calculated as the unweighted averages of the offered rates of 57 panel of prime banks (47 from the euro-11 countries, 4 banks from non-participating EU countries and 6 international banks from non-EU countries with important euro zone operations). To eliminate the excessive influence of outliers, the highest and lowest 15 per cent of the contributors (i.e. 9 banks currently) will be excluded from the calculation of EURIBOR. The rates will be calculated and published by Bridge Telerate at 11am CET on every Target working day. The first fixing will be on 30 December 1998, with 4 January 1999 as the value date.

EONIA - is part of the EURIBOR family and will be calculated from the overnight rates and the turnover in the unsecured overnight market of the panel of prime banks. These will be reported to the ECB by 6pm CET and the ECB will calculate a mean value overnight rate, weighted by the actual turnover. Bridge Telerate will publish the figure. It will be first calculated on 4 January 1999 and on every subsequent Target working day.

Euro-LIBOR - will be launched on 30 December 1998 by the BBA and the first value day will be 4 January 1998. The BBA will calculate an unweighted average of the offered rates of the panel of 16 prime banks (12 of which are represented in the EURIBOR panel). The highest and lowest 4 contributing banks will be eliminated from the calculation. These rates will be published each Target working day at 11am GMT, i.e. one hour later than the EURIBOR rate.

A number of arguments have been put forward to suggest that EURIBOR will be at a disadvantage to euro-LIBOR. These arguments fall into three broad categories: the credit standing of the banks involved, minimum reserve requirements and liquidity issues.

One argument that has been used against EURIBOR is that due to the size of the panel, there will be some banks of inferior credit quality. Consequently, the argument goes that this would result in slightly higher EURIBOR rates than the equivalent euro-LIBOR rates. In EURIBOR 70 per cent to 93 per cent (depending on which rating agency is used) of the banks fall into the two highest credit rating categories, compared with 93 per cent to 100 per cent for the LIBOR panel banks.

However, the relatively high 15 per cent adjustment rule will eliminate most of the outliers and mitigate much of this influence on the actual EURIBOR rates. Underpinning the EURIBOR panel is a code of conduct that ensures that only institutions of the highest credit standing and ones that are active players in the euro money market can participate in the panel.

The imposition of minimum reserves by the ECB on euro participating banks is another argument cited against the benchmark capabilities of EURIBOR. However, while this would be a valid argument if minimum reserves were non-remunerated, the situation within the euro will be completely different. The ECB will pay a rate of interest equivalent to the main refinancing rate (refi rate) on these reserves. Furthermore, the fact that the reserve requirement will only be 2 per cent and the reserves will be calculated as a monthly average negate much of the cost shouldered by the euro-11 banks. Thus there will be no legitimate reason for an offshore euro money market.

The criticism that the EURIBOR market may suffer liquidity problems appears to be completely unjustified. The fact that the vast majority of the panel banks will switch from LIBOR to EURIBOR and the national reference rates (DIBOR, FIBOR, PIBOR etc.) will automatically convert should be sufficient to create a market with vast liquidity and depth. A survey by Intercapital Brokers Limited indicate that 70 per cent of euro-11 banks intend to use EURIBOR as the reference rate, while only 8 per cent are in favour of euro-LIBOR.

All of the above arguments that are cited against the prospects of the EURIBOR becoming the benchmark set of reference rates do not bear close scrutiny and are at best doubtful. The EURIBOR set of reference rates will benefit from a large domestic market with a single currency and an impressive panel of quoting banks of high credit standing. There is already a significant dynamic in place that underpins the use of EURIBOR and this dynamic will build momentum as time elapses.

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