NY Fed, Report: How the LIBOR Transition Affects the Supply of Revolving Credit

“Our results suggest that the transition from credit-sensitive reference rates like LIBOR to risk-free reference rates such as SOFR is likely to increase expected borrowing costs on revolving lines of credit. This impact is smaller for banks with lower funding spreads, or even reversed if the deposit inflows that are anticipated under stressed market conditions are sufficiently large. Empirically, we find that during the COVID shock, the extent to which line draws were left on deposit was much lower at regional U.S. banks than at the largest U.S. banks. Because of this, the reference rate transition could impact the provision of credit lines more for regional U.S. banks than for the largest U.S. banks. It is therefore not surprising that regional banks wrote to bank regulators in 2019 about their concerns over the reference rate transition.”

“Our findings should not be interpreted as suggesting that a transition away from LIBOR has negative overall benefits. It is well documented that LIBOR is not a trustworthy benchmark funding rate, given how it was manipulated and the paucity of transactions data that was used to determine LIBOR, especially under stressed market conditions. Our analysis, however, suggests that when debt overhang costs associated with funding credit line drawdowns are high, C&I lending could be higher and borrowing costs could be lower under a credit-sensitive reference rate than under a risk-free reference rate.”