Views on improving the integrity of global capital markets
09 July 2012

LIBOR: A Tale of Two Scandals

Along the range of scandalous behaviors by the banking industry, is the latest episode — the LIBOR-rate-fixing scandal — one of the most vulgar or merely trifling? So far it is officially only Barclays that has been fingered. We will have a ring-side seat as various other banks, and their level of LIBOR complicity, is revealed over the next several weeks.

If you listen to some, we can expect a scandal of epic proportions. In his typically lofty elocution, former U.S. Labor Secretary Robert Reich sees it as the mother of all banking transgressions. As if we need any more reasons to hate banks. His take is that, by purposely fixing LIBOR — often the key determinant of the interest rate we receive for our bank deposits and, conversely, the interest rate we pay on borrowed money in the form of mortgages or other bank loans — we the consumers have been fully fleeced and skinned at the same time.

Is this another harsh reminder of the “profit at all costs” mantra banks pursue as their only true religion? We are left feeling that “customers be damned” is the real mission statement for these institutions.

Consider this, however:  If rates are fixed artificially low to avoid paying higher interest on deposits or money funds products, you might think you would correspondingly pay less on money borrowed at this manipulated, but lower, LIBOR setting. Details are sketchy as to how many banks are involved and whether they could artfully fix LIBOR to their advantage in both directions, in any event. Meanwhile, there are reports that bank regulators themselves may have actually encouraged these banking firms on where to set LIBOR. Maybe it’s not so bad after all?

Correspondingly, one of our favorite commentators on financial matters, Holman W. Jenkins, Jr., offered some valuable insights in his recent Wall Street Journal column, “Lies, Damn Lies and Libor.”  He points out that rates are manipulated by the government and institutions all the time. During the credit crisis, emergency circumstances led governments all over the world to manipulate rules and rates as needed to stem panic. “Their efforts would have been thwarted if Libor flew up on panic about the solvency of the major banks,” he writes. It’s true. Just like the government picked survivors and pushed details under the rug about which firms got special treatment in the crisis, regulators resorted to lots of  “questionably legal” measures in the name of financial emergency, as Jenkins puts it.  “Call it one more improvisation in too big to fail crisis management.”

As you may have heard by now, CFA Institute and the Pew Charitable Trusts are concerned enough about such “improvisation” and the lack of progress on systemic risk oversight that they have convened a new council to spur progress. This group, the Systemic Risk Council, is calling for prompt and effective action to rein in systemic risk and too-big-to-fail institutions.

We’re interested in hearing your views — is the LIBOR-rate-fixing scandal one of the most egregious examples of banks behaving badly, or is it merely trivial? Let us know what you think.


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About the Author(s)
Kurt Schacht, JD, CFA

Kurt Schacht, JD, CFA, is the Senior Head, Advocacy Advisor, Capital Markets Policy at CFA Institute, where he oversees advocacy efforts and the development, maintenance, and promotion of the highest ethical standards of practice for the global investment management industry.

7 thoughts on “LIBOR: A Tale of Two Scandals”

  1. Chris Faugere says:

    You must be kidding me! The way out is that these banks CAN’T really manipulate the market or that the GOVERNMENT does it. First, I would have liked to KNOW that they fixed the rates so I could hedge properly, or maybe I was to dumb not to figure it out, so that YEAH implicitly these great financial institutions will come out and say that anybody who wasn’t dumb should have figured this out. By the way, the FED does manipulate short term rates, and Wall Street banks are making a killing front-running them, and passing the cost to the taxpayer…. CFA needs NOT to cuddle up to financial interests!

  2. Chris Faugere says:

    We are told… and we have to weigh both sides…. As Neville Chamberlain once said when England was facing the Nazi menace: “My good friends this is the second time in our history that there has come back from Germany to Downing Street peace with honor. I believe it is peace in our time.” Here is another cultural shock:

    http://www.guardian.co.uk/commentisfree/2012/jul/09/wrecking-of-barclays-organised-looting?CMP=twt_fd

  3. Niko Kotonika says:

    I believe this shows the weakness of Libor as a benchmark. Considering the low number of contributors (18) in the Libor Panel we have to admit this is a very easy rate to be manipulated.The other thing to be considered is that we have to know that LIBOR is just a contribution meaning that a specific LIBOR does not necessarily mean that a transaction was done at that rate. Before the crisis of 2008 there was an active money market with a tenor of up to one year. I dont know now of any bank willing to lend to each other longer than 1 or 2 months meaning 1 Year LIBOR is an artificial rate with no transactions involved for that period. As a conclusion to my opinion it shows more the weakness in the LIBOR as a benchmark rather than a problem of the institutions contributing this benchmark.

  4. vimal says:

    Now we are in global era and major transactions are executing with LIBOR as reference rate. It should replace with adding more financial capital across world. Reference rate should be calculated based top 5 transaction at 10 financial capital viz London, Newyork, Singapore, Mumbai, Luxemberg etc

    Regards,
    Vimal

  5. Aside from the fact that Barclays was not successful in manipulating LIBOR at the time of the e-mails, this is my response:

    http://alephblog.com/2012/07/06/an-analysis-of-three-month-libor-2005-2008/

    Read it; it got a lot of play all over the internet.

  6. Markiemark says:

    Trivial.
    LIBOR is a trimmed average derived from responses to a hypothetical question of at what rate would your bank borrow on an unsecured basis – it is not an observation of an actual rate. Libor was set up to help set the rates to be used for syndicated loans – what LIBOR did was replace the rates that were set ad hoc by committees who were all sticking their fingers in the air with an opinion as to what to charge for a loan. LIBOR was so successful at replacing the ad hoc rates that it began to be used for all sorts of transactions not initially contemplated. And it has continued to be used, even though the basic premise for it has become rather tenous because banks are positively discouraged (by Basel) from lending on an unsecured basis. But personally I would much rather have a rate generated by estimates in the market than a rate set by bureaucrats who have no skin in the game, no real understanding of market dynamics and every conceivable motive for tilting the rate to support their other policy moves.
    Plus, let’s also bear in mind what happens if all banks involved in LIBOR and EURIBOR and TIBOR setting are all fined similar amounts to Barclays (which benefited from a 30% discount because of its early admissiion and cooperation): we are looking at imposing a multi-billion dollar loss on the financial sector in the middle of a crisis. It is incomprehensible to express outrage at JPM’s CIO losing $4 or $5 billion, and to speak in terms of the calamity that represents, but then to bray for all the banks to pay up six or seven times that amount as if it is pocket change for the banks, which will no doubt be mired in expensive litigation for the next decade anyway.

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