The LIBOR Scandal is a Big Deal


While the media pays enormous attention to JP Morgan losing $2 billion (or up to $9 billion, apparently), a far more serious scandal has received relatively little attention. The CEO of Barclay’s has admitted to rigging the value of the London InterBank Offered Rate (LIBOR) index. Having spent several years in the mortgage business, let me explain why this matters.

The vast majority of adjustable rate mortgages, including 2/28 subprime mortgages (loans with a fixed rate for two years, then variable after that), use the LIBOR to calculate the interest rate after the fixed period of the loan ends. That means the LIBOR index controls the rate that people pay on their mortgages — if the LIBOR goes up, so does the payment tens of millions of people have to pay on their mortgages. In fact, an estimated $360 trillion worth of property in the world is indexed to the LIBOR value.

Dylan Matthews explains what Barclay’s did:

So how did the manipulations by Barclay’s affect this rate? First, from 2005 and 2007, the bank allegedly varied the rates it reported to the BBA and Thomson Reuters so as to improve its margins on internal trades. For example, it could have placed bets that the LIBOR rate would increase, and then reported artificially high rates which in turn artificially increased the LIBOR averages, so that the bets were likelier to pay off. This not only screwed the investors on the other side of the trade, but bumped up mortgage rates – however infinitesimally – for consumers even when the risk of the loans hadn’t changed at all.

Second, in late 2008 Barclay’s – and, Diamond alleges, other banks – apparently low-balled the rates they reported for LIBOR averaging so as to make the banks’ finances look more stable than they were. The idea was to put out a false image of stability to prevent market panic and stave off calls for additional regulation or even nationalization, a solution that looked increasingly likely during the height of the financial crisis. The direct effect for consumers here was to make loans cheaper, but the indirect effect, or the intended one at least, was to lessen chances of government action against the banks. So the banks manipulating LIBOR weren’t just messing with peoples’ finances – they were trying to mess with the peoples’ laws.

Barclay’s will pay $450 million in fines, which is a drop in the bucket compared to the company’s assets and income. Fines do very little to deter such conduct by major financial companies; it’s simply a cost of doing business. If they can make more by breaking the law than they will have to pay in a fine, they’re going to do it. There needs to be serious penalties for this kind of thing, penalties that include long jail terms for the executives who engage in it.

Comments

  1. karmakin says

    And a zeroing out of shareholders.

    The reality is that companies that engage in practices like this should be nationalized, fully investigated from the inside out with appropriate charges filed, cleaned up, and then rolled back out to the public with a brand new IPO, which can be used to pay for the whole thing.

    This LIBOR thing in and of itself means that the market isn’t functioning as a market. People who say command economies are bad need to understand that it’s not only government that can create a centralized command economy, it can happen due to corruption like we see here.

  2. Jordan Genso says

    Why not jail terms for the corporations themselves? Since “corporations are people”, send them to prison when the break the law, and force them to stop doing any business at all for a fixed period of time.

    Corporations want all the rights of actual people, without the negative consequences that actual people face when they break the law. Is there any reason they should get to have it both ways?

  3. says

    $450 million sounds like a lot to your average Joe. Personally, that makes me wonder how many fines exist to look “big” and placate the voters while in reality, they’re a token slap on the wrist while condoning the corruption.

    I’m growing more and more sympathetic to the argument that governments should be handing out prison sentences for this sort of thing. Businessmen are used to paying out large sums of money as a cost. It’s part of their job. Going to prison isn’t so routine for them.

  4. says

    Why not jail terms for the corporations themselves? Since “corporations are people”, send them to prison when the break the law, and force them to stop doing any business at all for a fixed period of time.
    I’d love to see a little jail cell (like a small safe, able to fit on a desk) holding the paperwork/articles of incorporation for the duration if the sentence. Perhaps a post-it note could be the guard?

  5. matty1 says

    While the media pays enormous attention to JP Morgan losing $2 billion (or up to $9 billion, apparently), a far more serious scandal has received relatively little attention. The CEO of Barclay’s has admitted to rigging the value of the London InterBank Offered Rate (LIBOR) index.

    I suppose it depends on your media, the LIBOR fixing has been high profile BBC news for the past week or so, while this is actually the first I’ve heard about JP Morgan making a big loss.

    Also, I have to point out that there is some evidence that this scandal goes beyond Barclays.

  6. uncephalized says

    @Jordan #2

    I’d much rather see the real people who made the illegal and/or unethical decisions get punished directly (executives and stockholders) than a) persist in this delusion that corporations are people, and therefore that their executives are excused from legal action against their crimes and b) badly punish the rank and file employees, who have presumably done nothing wrong, by halting business and destroying their jobs.

    karmakin’s suggestions @ #1 make more sense to me.

  7. d cwilson says

    I’d love to see a little jail cell (like a small safe, able to fit on a desk) holding the paperwork/articles of incorporation for the duration if the sentence. Perhaps a post-it note could be the guard?

    I’d settle for asset forfeiture similar to what the average schmuck can expect for being caught with a few ounces of pot. Not a fine that can be written off as the cost of doing business or picked up by the insurance carrier. Let’s put a few Manhattan office buildings on the auction block. Then we’ll see some corporations behave themselves.

  8. davem says

    The CEO of Barclay’s has admitted to rigging the value of the London InterBank Offered Rate (LIBOR) index.

    He heads the company, but the fixing wasn’t him. Not quite the same thing. He’s resigned, and will leave with about 2 million, not the 20 million bonus he wanted to take. Poor lad, I feel for him in this straightened times. Time for revolution , methinks. Whatever happened to take over Wall St?

  9. erk12 says

    He’s resigned, and will leave with about 2 million, not the 20 million bonus he wanted to take. Poor lad, I feel for him in this straightened times.

    Moreover, if he made the company more than the $450 million they’re paying in fines, he’s still employable as a CEO because he made the corporation a profit.

    If the penalties for fraud were at least equal to or greater than the profit, I would think the risk calculation would much more favour the option to not commit the fraud. Especially if it included jail time for those found to have been doing it.

    I bet asset forfeiture laws would be looked upon differently if CEOs had to show up in court and prove that their personal assets were not ill-gotten.

  10. Walton says

    I disagree with Ed; I don’t think prison sentences for bankers are a good idea.

    Prison is a hellish, cruel, degrading experience, one which I have great difficulty wishing on another human being. If it has to be used at all, it should be used only for those who pose such a serious danger to the community that they cannot be left at liberty. It should never be used purely to punish.

    Unfortunately, in both Britain and the United States, increasing numbers of people are sent to prison for non-violent offences – be it drug offences, theft or fraud – purely to punish them and make them suffer. (This obsession with punishing people is among the reasons why England and Wales has the highest rate of incarceration in Western Europe, and why the rate of incarceration in the United States is several times higher still.) This is inhuman and cruel, very expensive to the taxpayer, and tends to increase crime rather than reducing it.

    By all means, if fines are insufficient, fire the bankers in question, ban them from working in financial services, confiscate their assets, whatever. But don’t send them to prison on a whim. We need to get away from this punitivist mentality.

  11. says

    Walton “By all means, if fines are insufficient, fire the bankers in question, ban them from working in financial services, confiscate their assets, whatever. But don’t send them to prison on a whim.”
    Now you’re just being ridiculous. We wouldn’t send them to prison on a whim. We would send them to prison on a bus. Sheesh.

    “We need to get away from this punitivist mentality.”
    It wouldn’t only be punitive. While there they could learn a trade. One that’s less harmful to society. Like car theft or meth production.

  12. RW Ahrens says

    This is inhuman and cruel, very expensive to the taxpayer, and tends to increase crime rather than reducing it.

    …and causing a major recession which destroys peoples’ livelihoods, retirement savings and gets them tossed out on the street when they lose their homes isn’t “posing a serious danger to society”?

    I beg to differ!

    We send people to prison for holding up a 7-11 and netting a few dozen dollars for 10-20 years (depending on what State they live in), yet balk at sending a banker to prison for, in essence, stealing the livelihood of millions of Americans (not to mention the Europeans affected by our crash)?

    Methinks your values are a bit skewed, my friend.

    I don’t care how you spin it, but these bankers are just as much asocial hoodlums as are the guys with guns holding up the local 7-11, they just didn’t need a gun to do their dirty work. They care as little for the welfare of their victims as the street hoodlums do, they just don’t have the guts to face them down.

    It used to be that bankers took as a given that they had a fiduciary responsibility for their customers’ money. It IS still the law, but somehow, the culture has just forgotten that particular principle.

    So have the regulators, for some strange reason…

  13. Pinky says

    Walton at #10 – With respect I disagree with some of your argument. We should not be sending our children to prison for experimenting with drugs. For that matter we should not allow private prisons to reap an ill fortune on the ruination of our normally law abiding citizenry for committing a non-violent crime either with foreknowledge or ignorance of the law. (OK, how many thought: “Ignorance of the law is no excuse?” Those nasty little memes society planted in our minds are insidious.)

    I disagree that those who commit far reaching fraud, being non-violent, should not go to jail.

    People with fiduciary positions should be penalized extra when they violate laws. Besides banking officials, politicians, police, teachers and those who work with the elderly, young or otherwise incapacitated need to face a sterner punishment when they violate their positions of trust.

    Money manipulators disregard of financial guidelines and laws , especially in the amounts involved in some frauds, may have serious consequences for citizens not in the well protected one per cent bracket.

    Think of the personal savings gone, the retirement funds lost, homes foreclosed on, the college opportunities evaporated, the ability to get medical care or even feed a family that could be caused when a financier plays fast and lose with the public’s money.

    Not sending felonious bankers to prison amounts to a continuation of the past and current justice system in the US; those with money or connections do not go to jail, the poor get shafted.

    Some may say financiers are not physically tough or street smart enough to survive prison. My response, thanks to many detective books and TV shows, would be; “If you can’t do the time, don’t do the crime.”

    Walton you said:

    “…people are sent to prison for non-violent offenses – be it drug offenses, theft or fraud – purely to punish them and make them suffer. …” “This is inhuman and cruel, very expensive to the taxpayer, and tends to increase crime rather than reducing it.”

    By all means, if fines are insufficient, fire the bankers in question, ban them from working in financial services, confiscate their assets, whatever. But don’t send them to prison on a whim. We need to get away from this punitivist mentality.

    With the exception of the word; “inhumane”¹, I pretty much agree with your thoughts. Prisons should not be vile, filthy hellholes taking prisoners in and sending out well schooled criminals who have been severely mistreated, raped and with new or stronger mental illnesses.

    I do think punitive action is necessary for criminals. Remember the truism: “First you have to take a two by four to the mule’s head to get his attention.” The justice system needs to get the attention of both neophyte criminals and recidivists to teach them crime is not an accepted activity in society. Severe disruption of a criminals lifestyle, such as prison, is a way to get a person’s attention.

    How much change or remorse do you think a criminal CEO is capable of after paying a fine that is a small portion of their estate? Even if fired the typical money manipulator will still have mansions to live in, a plethora of cash and holdings to spend and likely the admiration of their peers. Doesn’t sound like very much of a disincentive to me.

    IMO any action a human takes, by definition, can not be inhuman because a human is doing it. If an (extraterrestrial) alien were anally probing me I would call that inhumane along with other offensive words.)

  14. brian says

    I was in Europe when this story was breaking and couldn’t believe how little press it was getting in the US. Just goes to reinforce the point (I think made best by Charles Pierce) that while people are obsessed with conspiracy theories, no one cares a bit about actual conspiracies.

  15. oranje says

    Another tip of the iceberg moment (does anyone believe this is not done with other interbank rates?), and one that makes me grind my teeth over the idea of their being too integral to the economy to fail and the notion of paying exorbitant bonuses to keep top “talent.”

    How is their behaviour different from that of extortionists?

  16. says

    I tend to think that all fines (for both people and corporations) should be a percentage of net worth, rather than a flat fee. After all, the whole point of a fine is to punish the person, and it’s obvious that a $500 fine is not a punishment to a millionaire, and certainly not in the way it is to someone who barely makes that in a week. As it is, punishing an offence with a fine is pretty much equivalent to giving rich people permission to indulge freely in a behavior, while making it off-limits to the poor. If a fine costs you 10% of your net worth, however much that is, then while it still punishes the poor person more, it at least represents a meaningful loss to any criminal, rather than only to unsuccessful ones.

  17. twincats says

    I’d love to see a little jail cell (like a small safe, able to fit on a desk) holding the paperwork/articles of incorporation for the duration if the sentence. Perhaps a post-it note could be the guard?

    And Clippy can be the warden!

    Remember the truism: “First you have to take a two by four to the mule’s head to get his attention.”

    That may be a truism, but it sure ain’t true.

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