I'm working on an article on the need to reform the process by which the London Interbank Offering Rate (LIBOR) is set, so I've been following the news accounts of the LIBOR manipulation scandal closely for some time. Today's WSJ brings news of a major new development:
U.S., U.K. and Swiss authorities alleged a vast conspiracy led by UBS AG to rig interest rates tied to trillions of dollars in loans and other financial products, indicating the practice was far more pervasive than previously known.
UBS agreed to pay about $1.5 billion to settle charges against the Swiss bank, and a unit in Japan where much of the wrongdoing occurred pleaded guilty to criminal fraud. U.S. prosecutors also filed criminal conspiracy charges against two former UBS traders allegedly at the heart of the scheme.
Schumpeter notes an interesting aspect of the evidence released so far by the authorities:
For any who doubted whether there was honour among thieves, or indeed among investment bankers, solace may be found in the details of a settlement between UBS, a Swiss bank, and regulators around the world over a vast and troubling conspiracy by some of its employees to rig LIBOR and EURIBOR, key market interest rates. ...
... even in the midst of this wrongdoing there was evidence of a sense of honour, however misplaced. One banker at UBS, in asking a broker to help manipulate submissions, promised ample recompense:
"I will fucking do one humongous deal with you ... Like a 50, 000 buck deal, whatever. I need you to keep it as low as possible ... if you do that ... I’ll pay you, you know, 50,000 dollars, 100,000 dollars ... whatever you want ... I’m a man of my word."
Further hints emerge of the warped morality that was held by some UBS employees and their conspirators at brokers and rival banks. In one telling conversation an unnamed broker asks an employee at another bank to submit a false bid at the request of a UBS trader. Lest the good turn go unnoticed the broker reassures the banker that he will pass on word of the manipulation to UBS.
Broker B: “Yeah, he will know mate. Definitely, definitely, definitely”;
Panel Bank 1 submitter: “You know, scratch my back yeah an all”
Broker B: “Yeah oh definitely, yeah, play the rules.
All of which suggests an opening for a fascinating rethink of how social norms and behavioral biases can cause even bad actors to be trustworthy and honorable within the confines of their conspiracy (to the detriment of larger society). It suggests that we shouldn't expect such folks to behave as self-maximizing rational actors when confronted with problems like prisoners' dilemmas. But that's a question for another day.
More to the point, the tawdry business calls into question the actions and omissions of the key regulators who may have knowingly allowed LIBOR manipulation to occur. As I explain in my draft article:
As The Economist reported, however, there was a second—and potentially more troubling in the long term—reason Barclays misreported its LIBOR figures. During the financial crisis, both government and private sector actors viewed a high LIBOR submission as a sign of financial weakness on the part of the submitting bank.[1] Barclays admitted to having reduced the rates it submitted so that its submission fell within the mid-range of the panel banks.[2] Internal Barclays documents showed that top Barclays managers had expressed concern throughout the financial crisis that Barclay’s relatively high LIBOR submissions were attracting negative media attention and raising questions about the bank’s creditworthiness.[3] This led to a directive being issued by a senior bank manager to Barclay’s LIBOR submitters that the bank “should not stick its head above the parapet.”[4]
Troublingly, Barclays “released evidence that can be interpreted as an implicit nod from the Bank of England (and Whitehall mandarins)” approving of the bank’s fudging its LIBOR submissions.[5] During the crisis, the U.K. government—like many others—was desperate “to bolster confidence in banks and keep credit flowing. The suspicion is that at least some banks were submitting low LIBOR quotes with tacit permission from their regulators.”[6]
The same may have been true of other key global regulators. In the US, for example, the New York Federal Reserve Bank—then run by Timothy Geithner, who subsequently served as Treasury Secretary in the first Obama administration—reportedly was aware as early as August 2007 of possible LIBOR manipulation but failed to aggressively respond.[7]
Today's WSJ editorial page takes up the cudgels on this very point:
... there's a good deal of ex post facto outrage over Libor, which has become the regulators' surrogate for all that was supposedly wrong in finance before the panic of 2008. Regulators who are now putting the hammer down knew about problems with Libor years ago but did little or nothing to stop any manipulation.
The Financial Times reported Wednesday that Treasury Secretary Tim Geithner knew about Libor manipulation in May 2008, even earlier than previously believed. (See our editorial, "Tim Geithner and Libor," July 21, 2012.) And yet he soft-pedaled his criticism of Libor while at the New York Federal Reserve. The New York Fed even used Libor as a benchmark throughout the worst of the crisis, in major contracts to which the U.S. government was party.
When regulators mess up, they don't get indicted. They get promoted.
Which is another very real scandal.
[1] How Britain’s Rate-Fixing Scandal Might Spread—And What to do About it, The Econ. (July 7, 2012), available at http://www.economist.com/node/21558260.
[2] Id.
[3] Jun Anthony Garcia, “Fixing the Benchmark”—Wheatley Considers LIBOR Overhaul at 2, available at http://ssrn.com/abstract=2143137.
[4] Id.
[5] Rate-Fixing Scandal, supra note 59.
[6] Id.
[7] Rachelle Younglai & Pedro da Costa, Geithner Says Did All he Could to Address LIBOR Problem, Chi. Trib. (July 26, 2012), available at http://articles.chicagotribune.com/2012-07-26/news/sns-rt-us-usa-geithnerbre86o0vc-20120725_1_libor-responsibility-for-market-manipulation-british-bankers-association.
