Why is LIBOR such a big deal? (#OWS)
July 27, 2012
The manipulation of LIBOR interest rates by the big, mostly-European banks (but not entirely, see a full list here) was an open secret inside finance in 2008. As in so open that I didn’t think of it as a secret at all.
The fact that that manipulation is now consistently creating huge headlines is interesting to me – it brings up a few issues.
- People seem surprised this out-and-out manipulation was happening. That says to me that they clearly still don’t understand what the culture of finance is really like. The fact that Bob Diamond of Barclays claims to have felt “physically ill” when he saw the emails of the traders manipulating LIBOR is either an out-and-out lie or they guy is simple-minded, as in stupid. And word on the street is he’s not stupid.
- People still buy the line that most of the problems from the credit crisis arose from legal but wrong-headed efforts to make money, plus corrupt ratings on mortgage-backed securities. This is incredible to me. Let’s get it clear: the culture of finance is to take advantage of every opportunity to juice your bottom line, even if it’s wrong, even if it’s fraudulent, even if it affects the terms of loans on millions of houses and towns in other countries, and even if only your trading desk is benefiting.
- The LIBOR manipulation in 2008 was about more than that, namely trying not to look as bad as other banks, to avoid being the next Lehman. It was done in the name of not looking weak and requiring a government bailout. Bob Diamond still doesn’t think they did anything wrong by lying there. It was almost like they were doing something noble.
- Speaking of towns in other countries, read this article about how LIBOR manipulation has screwed U.S. cities to the ground. I’ve got a lot more to say about municipal debt and how that sleazy system works but it’s waiting for another post.
- Finally, why did it take so long for the media to pick up on LIBOR manipulation? It tempts me to make a list of the illegal stuff that we all knew about back then and send it around just to make sure.
mathbabe 
On 5. ” why did it take so long for the media to pick up on LIBOR manipulation?” a lot of the media reports I have seen by economists & financial market commentators has obviously been written by people who just discovered LIBOR.
They didn’t know it existed, that it was the reference rate used to set others they were more familiar with and so on.
I think many are flabbergasted by the (gross) size of the derivatives running of LIBOR and simply can’t comprehend that such a thing is unregulated.
So all the so-called experts – with some notable exceptions at places you would expect like Reuters, Bloomberg & the WSJ – simply don’t have a clue. Not that that has ever really stopped them commenting before.
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http://newsthump.com/2012/07/02/finance-sector-in-shock-as-banker-takes-responsibility-for-actions/ This (above) is as good an answer as we’ll ever get !
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I don’t share your sense of outrage on this, and think that in general the public reaction is (a) overdone, and (b) a glaring example of double standards.
Firstly, the impact of Barclays manipulated LIBOR submissions is relatively small. 16 banks submit rates for calculation; the 4 highest and lowest numbers are disregarded, and the remaining 8 are averaged. The expected impact on the published rate of a submission that is 10bps away from fair value is therefore (0.5 x 0.125 x 0.1)% – so Barclay’s addition or subtraction of 10bps might be expected to move LIBOR by 0.00625%: for most people, not even a rounding error.
When critics realize that the effect of the manipulation was very small – if it was anything (if they were the low number and they took their number lower, the change wouldn’t have any impact on LIBOR at all), they generally resort to some variation of the argument about multiplying that some by the quantum of all the loans that pay some function of LIBOR, and they get a much bigger number. That would be worrisome if one borrower was actually responsible for this, but they’re not, so the calculation isn’t a particularly instructive one to perform. Following on from that, interest rate changes are to a first approximation, a zero sum game (one party’s cost is their counterparty’s gain), so the net cost to society is, to a first approximation, also zero.
So yes, I think that the public outrage on this is contrived and overblown and ignorant. And it’s also hypocritical. Where is the same sense of outrage about pharmaceuticals?
Barclays was fined £290 million after it admitted that some traders sought to distort this important interest rate. The traders have all been fired and are the subject of regulatory and criminal investigation to see if further action should be taken against any of them under the law.
The Chairman, the CEO and the COO have all resigned (although the Chairman has since taken back his seat to ensure an orderly managerial transition). The bank is the butt end of endless negative commentary – including yours, Cathy – as well as having been the subject of Parliamentary debate and enquiry.
Meanwhile Glaxo Smith Kline has just been fined $3 BILLION by the US authorities. They have admitted to selling drugs to people under the age of 18 when not allowed to do so by the regulators, to offering payments to doctors to help promote these drugs, to not setting out all the side effects of the drugs, making claims about the favourable impact of the drugs on conditions other than the one for which they were licenced and other regulatory infringements and bad practice.
The company has apologised. Politicians and press have accepted that mistakes can occur in the largest of companies – even though there is little doubt that these were not ‘mistakes’ in the sense that I might understand them. There is no demand for the replacement of any of the top executives, no witch hunt against the sales teams involved in the “errors”. There have been no legislative debates or enquiries, no show trials of the top executives.
Reasonable people can argue about which course of treatment is correct. It’s completely unreasonable to pretend that there isn’t a double standard at play, and the ONLY reason that Barclays is getting pilloried in the way it has been is that it is – GASP – a bank. Maybe its actions cost its customers some money – maybe some people (customers or staff) gained from Barclays’ actions. But it’s just money. Nobody died. It would be terrific if you could say that about GSK…. but really, who’s saying anything? It’s not as if they’re bankers.
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I’m not sure which blog post you read, but I don’t think it’s the one I wrote. I’m also surprised at the attention and outrage this is receiving. On the other hand, I don’t agree with your estimate on the size of the lie. Many banks were not being allowed to borrow at any price at the time, so their approximate fudge factor was…. infinity. So I don’t know how you get such a small percentage.
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Snyder & Youle (UCLA, UMN) published a nice paper in 2010 that pointed out that statistics on the banks’ quote submissions strongly indicated that manipulation was going on, but nobody outside of academia took note of it at the time. It’s an amazing paper to read in retrospect.
Click to access libor_4_01_10.pdf
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“It tempts me to make a list of the illegal stuff that we all knew about back then and send it around just to make sure.”
Please do! Without people with inside experience speaking up, the general public will never know about this. As the media, by and large, are not very good at finding the stories on their own.
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Nice statement of the issues. And it’s also quite interesting that the ex-NY Fed Chairman, our tax cheat Treasury secretary, was also very aware of it, but thinks that the Fed’s response to the problem at the time was “appropriate.” That is, it was appropriate to do nothing.
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