- Last Updated: 11:56 PM, July 7, 2012
- Posted: 10:10 PM, July 7, 2012
It was confirmed last week what everyone thought: Bankers rig the system.
There’s no other way to put it when two men sitting in London control the interest rate charged on more than $350 trillion in financial instruments.
That’s the nut of the Libor scandal, and many on Wall Street knew the game was fixed for quite a while.
Libor, the London Interbank Offered Rate, is an esoteric but all-important interest rate in the consumer-finance world. Its daily computed price is used by banks and finance companies around the world as a lending benchmark to price mortgages, credit-card, auto and student- loan interest rates, as well as most of the arcane derivative and currency products used in today’s financial markets.
Barclays of London, the fourth-largest bank in the world, was fined $450 million by regulators from the United States and the United Kingdom for rigging the rates. (Strangely, a mere $78 million of the fines came from the UK.) The bank’s chairman, Marcus Agius, and CEO, Bob Diamond, resigned, and the 276-year-old institution is facing a downgrade by credit-rating agencies.
So while it’s been known by major players for quite some time that Libor was a slimy and needlessly arcane way to compute rates, consumers and investors got swindled out of lots of money.
To understand this indignity, we need to follow some of the internal plumbing of Libor. It is calculated by the aforementioned guys in London who receive daily “quotes” by 11 a.m. London time from a handful of London-based banks; the quotes indicate at what rates bankers think they will lend to/borrow from one another overnight.
It’s a very small sample set — as few as eight and as many as 20. The highest and the lowest rates are thrown out, and then a mean rate calculated. That’s the Libor rate.
It’s a system that’s very easy to manipulate. With such a small number of banks, each bank’s quote can and really did skew the numbers.
Imagine if a bank’s quote is just below the high or just above the low — not because that’s the rate at which it will borrow, but because it is trying to drive the rate up, thus swindling borrowers, investors and savers, or conversely the low bidding would reduce the borrowing costs for a troubled bank looking to finance it way out of trouble.
Questions remain over whether people at other major participating banks in London, which include UBS, Citibank and JPMorgan, may have been involved in the Li(e)bor scandal, as some are calling it.
The “nonbinding” nature of the bidding process is likely what led to the shenanigans.
We’ll have to wait and see whose hands are dirty, but these actions appear to warrant jail time.