Our guest blogger is Daniel Pereira, Managing Editor at Brafton Inc.
Revelations of corruption, rate-fixing, regulatory collusion and outright fraud continue to spread across the global banking industry. But still, the LIBOR rate-rigging scandal hasn’t grabbed the same amount of attention as the robo-signing debacle that effectively locked down foreclosures actions in the U.S. or the JPMorgan Chase “London Whale” losses, which could reach $9 billion or more.
Yet the LIBOR case, for all the complexity and financial subtlety behind it, affects a breadth of products and sums of money that dwarf those previous episodes.
In effect, LIBOR (the London InterBank Offered Rate) is the baseline pulse of a significant chunk of the global economy — it sets the basic interest rate for products in the United Kingdom, Europe, much of Asia and even some U.S. assets. Private banks (like Barclays or JPMorganChase) report to the British Banker’s Association the rates they believe they could get borrowing from other banks. The estimates are collated by the BBA — a private group — and published each day, setting the basic interest rate from which all others are calculated.
So rigging the LIBOR is akin to a doctor lying about a patient’s blood pressure to make his treatment look more effective. AccountingDegree.net has a cute but damning infographic laying it all out.
The U.S. has a similar but distinct system for the federal funds rate, which is more tightly managed by the Federal Reserve. Imagine, however, that the Fed was colluding with the banks to tweak that number up or down. The effect would be massive, although not necessarily catastrophic in the short-term. It would, however, affect the rates consumers pay on pretty much every kind of debt, from mortgages to student loans to credit cards.
When the banks gamed LIBOR up, consumer credit became more expensive. And while the instances when they manipulated LIBOR down may have helped some consumers, it hurt those who had investments based on LIBOR, as NPR explained:
When the rate was going down during the crisis, consumers might have gotten better deals on their loans. But that doesn’t mean we should celebrate. A lot of cities and pension funds and transportation systems had money in LIBOR based investments. They would have made a lot less money if LIBOR was manipulated down. The City of Baltimore, for instance, is suing and claims to have lost millions of dollars in the manipulation.
Halah Touryalai at Forbes added, “if you have a 401(k) or a pension fund or bonds benchmarked to Libor you are getting paid less” when banks push LIBOR downwards.
Most worrying, as economist Simon Johnson pointed out, is the implication that rate-fixing wasn’t just a hobby at Barclay’s. It was a pandemic across the industry. That’s not one doctor lying about his patient’s pressure to make his tactics look better. That’s an entire hospital administration colluding to lie about all their patients’ conditions in order to make more money and avoid scrutiny.