Libor Manipulation: The Markets’ Worst-Kept Secret?

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Lefteris Pitarakis / AP

A view of Barclays headquarters at London's Canary Wharf financial district on Tuesday, July 3, 2012.

As fresh details continue to emerge about the Libor fixing scandal that has already claimed the head of Bob Diamond, the American chief executive of British bank Barclays, everybody, it seems, is shocked – shocked! – to  discover that this benchmark interest rate underlying trillions of dollars worth of financial transactions worldwide was allegedly being manipulated.

That’s the official line from the Bank of England, market regulators, the British Banking Association that oversees the Libor process, politicians on both sides of the Atlantic — and even from Diamond himself. He told a parliamentary hearing on July 4 that he was “sickened” to read emails by Barclays traders asking favors of their colleagues on the Barclays team that helped to fix the rate. The bank has agreed to pay $450 million in fines to the U.S. Commodity Futures Trading Commission and Britain’s Financial Services Authority.

(MORE: LIBOR Scandal: The Crime of the Century?)

But talk to bankers and current and former traders in the markets, especially those who specialized in interest-rate swap transactions, and it turns out that this generalized state of shock may be a tad disingenuous. For suspicions about manipulation of Libor, the London interbank offered rate, and its European cousin Euribor, the European interbank offered rate, are both manifold and long-standing. In the Barclays case, the CFTC found evidence dating back to 2005. But the bigger doubts about Libor and Euribor’s reliability became particularly apparent after the bankruptcy of Lehman Brothers in August 2007 and the ensuing turmoil in bank lending markets, when credit all but dried up.

Starting in the fall of 2007, almost five years ago, the financial press started writing about potential abuses, reflecting what their sources were telling them. Gillian Tett in the Financial Times appears to have been the first: On September 4 of that year she quoted a banker as calling Libor “a fiction.” The Wall Street Journal in April 2008 also ran the first of several articles about Libor’s reliability.

At the same time, suspicions started being aired in more official circles, including at meetings of bond trading associations and even in government publications, using data from the markets themselves. How so? Largely it has to do with the nature of Libor and Euribor themselves.

These rates are set by panels of banks who meet daily to disclose the average rate at which they can obtain unsecured funding for a given period. The Libor fixings, for example, cover 10 currencies, and the periods range from overnight up to a year. The top and bottom 25% of these submissions are eliminated, and the rate is calculated using the average of the 50% that are left.

(MORE: Ex-Barclays Chief Bob Diamond Grilled Over Rate-Fixing Scandal)

But, critically, the rates that the banks submit in these sessions are not the rates they are actually paying to borrow money, but rather the rates that they estimate they would have to pay. Until the 2007 crisis, the Libor and Euribor rates tracked quite accurately the rates that were actually transacted, and which are noted by central banks. But suddenly, after Lehman, there was a very significant divergence between the benchmark Libor and Euribor rates, and the actual transaction rates.

Jean-François Borgy spotted that at once. He’s a French former swaps trader with a long record in the markets, having worked for Credit Lyonnais, Banque Worms and Natixis.  He was so struck by the change that, in October 2007, he gave a presentation to the annual meeting of the European Bond Commission.

In a series of charts, he showed how the Euribor three-month rate had, since the 1999 introduction of the euro as a currency, almost without exception been mirrored by the effective European overnight rate based on actual transactions. The spread, or difference between this Eonia rate and the Euribor rate had consistently been 6.3 basis points, or 0.063%. But with the crisis it suddenly jumped to 40 basis points, or 0.4%. For a trader, that’s a huge and obvious change. As Borgy explained in his 2007 presentation, the Eonia rate is drawn from the same 47 banks who are involved in the Euribor fixing; the difference is that Eonia reflects real transactions by the banks, while Euribor simply reflects what the banks say they will do.

(MORE: The Barclays LIBOR Scandal Is a Clear Case for Greater Consumer Protection)

In other words, watch what they do, not what they say.

One obvious explanation for this huge discrepancy was that, in the market turmoil post Lehman, banks had a huge interest in playing down their own difficulties in the interbank lending market, to avoid scaring their counterparties, shareholders and regulators. That appears to have been what happened in the Barclays case, where Diamond’s colleagues interpreted questions from the Bank of England about the bank’s high submissions in the Libor process as a tacit go-ahead to artificially reduce those submitted rates.

Borgy’s presentation attracted the interest of the French financial authorities, and he ended up writing a short article about his observations for the French Treasury Agency’s monthly newsletter. It was published in November 2007.

If the highest French authorities were aware of the discrepancies, chances are that other authorities were too. On Tuesday, the New York Fed acknowledged that in late 2007 it had received “occasional anecdotal reports from Barclays of problems with Libor,” and that in spring 2008, it had inquired further as to how Libor submissions were being conducted. The Fed said in a statement that it had shared its analysis and suggestions for reform of Libor with British authorities.

MORE: After Three Years and Trillions of Dollars, Our Banks Still Don’t Work

12 comments
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Fatesrider
Fatesrider

The flaw in all economic systems is human greed.  Communism fails to take into account differences between people's ambitions, leveling them and relegating the motivations for the ambitious to doing no more or better than the laziest.  Socialism removes the incentive to be ambitious by removing the financial rewards of that ambition.  Capitalism rewards ambition to a fault and to the detriment of the rest of society.  Replace ambition with greed in all of those and you will see what I mean.

Capitalism is imperfect, but so far the best system for reward.  The trick is to have enough reward to make ambition worthwhile, but not so much as to allow it to detrimentally affect society as it is doing today.  While the conservative-minded will argue that unfettered capitalism is the only way to go, we've seen what unfettered capitalism has done to the world.

The simple fact is that in a capitalistic society, money MUST be spent to keep that economy going.  While the wealthy do, indeed, spend a lot of money per person, there are fewer and fewer of them spending ENOUGH money in enough places to keep an economy going.  Instead, as the flow of money goes to the wealthy, they, in turn, invest it.  Investing money doesn't create jobs in a stagnating economy.  What creates jobs in a stagnating economy is SPENDING MONEY.  Money spent stimulates demand for goods and services.  When demand is higher than the capacity of a business to accommodate, it hires more people.  They, in turn, get paid more and spend more, stimulating more demand.  That demand is what creates jobs.  The only "economic incentive" to hire people is to fulfill demand.  Otherwise it's a drain on the bottom line and no prudent business will hire more people when there isn't a demand for their products.

Why people and governments don't get this, I don't understand.

This is a boom or bust cycle, with money flowing to the wealthy in all cases.  There has to be a limit, determined by economic conditions, as to how much capital the wealthy can tie up in their investments which essentially removes it from an economic system (Argue all you want about this, investment only stimulates an economy in good times).  If it's too much, the excess must be distributed back into the system to be spent.  If the wealthy gave away their investments to the people who actually spend it instead of pocketing it, there wouldn't be a problem.

Equally, there has to be a control on how much money is circulating in the system to keep from having too much out there to detrimentally impact limited resources.  Rampant consumerism is just as bad for society as economic stagnation.  Market manipulations also tend to break the system with speculators driving up prices long before the actual demand does, creating false stagnation that doesn't need to exist - simply for the sake of greed.

It's called economic balance, removing the boom/bust cycle with slight ups and downs that don't put millions out of work and doesn't create billionaires in the high times.

Prudently regulated capitalism can work, but it must be implemented from the top down in order for peaceful change to happen.  Frankly, I don't see the top wanting to regulate themselves ever.  Which means the only alternative left is revolution - imposing change from the bottom up.  Whether it's peaceful or not (yes, peaceful revolution sounds like an oxymoron), remains to be seen.  But the gap between the fewer number of haves and the growing number of have nots is only getting wider.  Wealth is being consolidated into the hands of a relative few.  History has shown over and over what happens when that inequity grows too great.

That said, one wonders what form the guillotine will take in the 21st century.

Bhujangarao Inaganti
Bhujangarao Inaganti

Your summation is very apt and all americans should read it, particularily the Republicans should read it twice. Romney should desist educating the country how to create jobs.

Ohwoahisme
Ohwoahisme

This speculative favoritism has existed for decades, but it could be buried when the world economy wasn't totally in the crapper, as you could hedge a bit in different markets and balance risk.  Not now.  Every market is absolutely tied to every other market, and the boys that were 'too big to fail' continued their sorry crony 'paper games' at taxpayer expense, even after being forewarned by 'bubbles' years earlier.  You'll probably end up seeing most of these institutions either dissolved and/or nationalized in order to prevent total chaos, but the damage caused will be long lasting. 

Proudscalawag
Proudscalawag

Is there really anything left to do but to take ALL the banksters, here and in Europe, and put them either on large gallows or before firing squads, well-televised?!

CoachPhil
CoachPhil

As long as we value money and possessions more than integrity and one another, it is foolish to believe these types of behaviors will cease.

agelessmatch
agelessmatch

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And now go read Matt Taibbi's article in Rolling Stone about the Wall St

bid rigging scandal if your outrage meter needs further stimulationRead more: http://business.time.com/2012/...

agelessmatch
agelessmatch

 

Age gap dating is trending nowadays. Many young

women are looking to date older men, mainly because older men are usually more

stable, mature, caring, and financially secured. Many couples with age gap work

out fine and get along splendidly. ------ Agɐ_lɐss_Mɑtϲh_C○m

------ is a focused community for older men dating younger women. If

you are ready for a new adventure, give it a try!

 

Darrel K.Ratliff
Darrel K.Ratliff

It all class warfare with a wink and a nod that's why the next elections we should replace the  long term seasoned veteran legislators with new green unsullied freshmen its time for a seniority clean out and to elect all moderates regardless of party

Firozali A.Mulla
Firozali A.Mulla

More predictions on the already

gloom economy can make life very miserable. British manufacturing numbers beat

expectations. Industrial production saw a month-to-month growth of 1.0% versus

the -0.3% that was expected. European indices rallied off of this news, and the

FTSE 100 finished up 0.65%. The

NFIB Small Business Optimism Index was reported to be worse than expected. The

June index level came in at 91.4, less than both last month's reading of 94.0

and the 92.0 that was expected. The Samp;P 500 finished the day down 1% to

$1,340. Research In Motion (RIMM) shares dipped an additional 5%

today after executives failed to instil confidence in shareholders at their annual

general meeting Italy's Prime Minister Mario Monti announced that he would not

be serving an additional term. The German high court did not come to a

conclusion on the constitutionality of the European Stability Mechanism (ESM),

stating that it may take weeks for a final decision. Semiconductor companies Applied Materials(AMAT)

and Advanced Micro Devices (AMD) as well as engine

manufacturer Cummins (CMI) all reported lower than forecast

estimates for full year and second quarter earnings, citing slowdowns in Europe

and Asia. The Bank of Japan

will make an announcement regarding its monetary policy tomorrow. Their

interest rates are not expected to change. US international trade balance will

be released at 8:30 a.m. EDT tomorrow morning. The estimated trade balance

level is $-48.7 billion. US wholesale trade will be released at 10:00 a.m. EDT.

The month over month change in inventories is expected to be 0.3%. The EIA

petroleum report will be released at 10:30 a.m. EDT tomorrow. The FOMC will

issue minutes from their last meeting at 2:00 p.m. EDT tomorrow afternoon.

Marriott (MAR) will be releasing earnings tomorrow after market close.

Analysts expect earnings per share of $.42 and revenue of $2.8 billion. More

scary news on the way. Recent market action in

the Samp;P 500 (SPY), Dow (^DJI) , Nasdaq (^IXIC), and even in precious metals has taken us right back to last year’s

glory/gory days of correlation. As the hackneyed, redundant,

heard-it-a-million-times, cliché goes, "What goes up must come down,” to

which I add, “What goes up must correlating-ly come down, spinning markets got

to go around.” This week's Wall of Worry

climbs to 29 blocks with "money markets" joining the list of concerns

triggering nail biting among global investors. Scroll down for a text-only

version of this column and an explanation of how it works, or click on the

graphic below for an interactive version of the Lloyd's Wall of Worry. China's

latest economic data point to a deepening slowdown that is adding to pressure

on communist leaders to revive growth and avert job losses and political

tensions. The slump the deepest since the 2008 global crisis could hurt China's

demand for imported oil, iron ore and industries. Oil prices rallied

Wednesday on bargain hunting after a recent slump sparked by the end of a

Norwegian oil workers' strike and before the latest US energy (NasdaqCM: USEG - news)

inventories data. Brent North Sea crude for delivery in August advanced $1.20

to $99.17 per barrel in early afternoon deals in London. New York (Frankfurt: A0DKRK - news)

's main contract, light sweet crude for August, jumped $1.33 to $85.24. Later

Wednesday, the US Energy Information Administration (EIA) will publish its

weekly report on American crude stockpiles for the week ending July 6. "Crude

oil prices are seeing a little bounce today, following yesterday's sell-off --

in part predicated upon the progress in the Norway negotiations -- ahead of the

EIA figures out later today," said Sucden analyst Jack Pollard. "Meanwhile,

crude prices are gaining support from the broader commodity complex with metals

seeing similar bounces as the dollar comes off a little." Prices tumbled

by more than two dollars on Tuesday after Norway halted an oil workers' strike

that threatened production, while news of weak Chinese crude imports raised

demand concerns. Norwegian production was being increased to make up for the

supply disruption, with state-owned giant Statoil (Other OTC: STOHF.PK - news)

, the company most affected by the strike, saying it expected normal output

levels by the end of the week. Oil, which had been oversold in late New York

trade Tuesday, was returning on Wednesday to a more stable level, according to

Justin Harper, market strategist for IG Markets Singapore. "It's a slight

sort of bounce back because it got hit quite hard overnight." Looking

ahead, Harper said weak demand from the United States and China -- the world's

largest oil and gas consumers respectively -- would put downside pressure on

prices. "If you're looking at the demand side, there's still grim outlooks

for US and China ... I'm not very bullish on oil at the moment," he said. The

United States was hit by disappointing jobs numbers Friday in yet another blow

to its efforts to kick-start the economy while data Tuesday showed China crude

imports plunging to their lowest levels since December.  Michael Baum

took every substitute-teaching job he found and has sent out hundreds of resumes

since graduating from college two years ago. He never got a full-time offer and

works as a waiter in a pizza parlour in Chicago, earning $650 on a

busy week.

"It's discouraging," said Baum, 25, who is certified to teach in

Texas and North Carolina as well as his native Michigan. His pay is just enough

to cover basic living expenses. Baum has joined the growing number of

underemployed graduates in the US, in an election year when both

President Barack Obama and presumptive

Republican challenger Mitt Romney are vying for young

voters with promises to restore jobs. Underemployment isn't debilitating only

for individuals whose career and income opportunities are stunted. It threatens

the economic expansion as college-educated young adults have traditionally

fuelled consumer spending on clothes,

technology, entertainment and cars. "If you have a stumbling entry into

the labour market, you risk getting stuck in jobs for which you're

overqualified and poorly paid for the rest of your life," said Katherine

Newman, a sociologist and dean of the school of arts and sciences at Johns Hopkins University in Baltimore

who has studied the long- term effects of underemployment. "There's a

scarring effect, with employers you want marking you as undesirable. The

economic toll is enormous." I thank

you Firozali A.Mulla DBA.. nsanity

is relative. It depends on who has who locked in what cage. -Ray Bradbury,

writer (1920-2012) 

.

davidbohn
davidbohn

And now go read Matt Taibbi's article in Rolling Stone about the Wall St bid rigging scandal if your outrage meter needs further stimulation.

kms123
kms123

"If the highest French authorities were aware of the discrepancies, chances are that other authorities were too. On Tuesday, the New York Fed acknowledged that in late 2007 it had received “occasional anecdotal reports from Barclays of problems with Libor, and that in spring 2008, it had inquired further as to how Libor submissions were being conducted."Now the facts are trickling in. People at the highest levels - in the financial institutions, the agencies who were supposed to regulate them and the politicians  - were colluding to defraud billions. These crooks got the tax payers to bail them out when they got into trouble. And no action was taken against any of them.