* Must find replacement for setting interest rate benchmarks
* Sees European Central Bank supervising 30 German banks
* Sees Jan. 1, 2017, as "realistic" start for Solvency II
FRANKFURT, Jan 22 (Reuters) - The head of German financial watchdog BaFin questioned on Tuesday whether a corrupted system of setting key benchmark interbank lending rates could be reformed, suggesting it may instead need to be replaced.
"It has been shown that benchmarks, which are based on estimates submitted by market participants, are susceptible to manipulation," Elke Koenig said, adding that the alternative of basing the benchmark rate on actual transactions was equally difficult given that in times of stress, there are phases when hardly any transactions take place.
"In my view, we need to work not on a reform of the existing system, but on a replacement for it," she said.
More than a dozen banks are under investigation by authorities in Europe, Japan and the United States over the suspected rigging of the London interbank offered rate (Libor), a key interest rate used in contracts worth trillions of dollars globally.
The potential manipulation of Libor burst into the headlines in June when British bank Barclays was fined a record $450 million by UK and U.S. authorities for allowing traders to manipulate rates during the 2007/08 credit crunch.
Libor rates submitted by banks are compiled by Thomson Reuters, parent company of Reuters, on behalf of the British Bankers' Association.
Koenig said a new European bank regulator headed by the European Central Bank (ECB) would oversee 30 German lenders and a total of 150 European banks.
However, giving responsibility for bank supervision to the ECB still leaves significant questions unanswered, she said.
"Will it be possible to sufficiently separate bank supervision and monetary policy? What about the democratic legitimacy of the future European supervisor, given its significant power to intervene?" Koenig asked.
"And how effective can a European supervisor be which fails to include London as a financial centre?"
Turning to insurance, Koenig said Jan. 1, 2017, was probably a more realistic start date for the new Solvency II risk-capital rules for insurers, although EU insurance watchdog EIOPA is hoping the rules can be applied from the start of 2016.
BaFin is currently looking into whether big insurers should be required to develop restructuring plans - as banks are doing - as part of the effort by regulators to reduce systemic financial risks, Koenig said.