Untangling the Libor web

There are many Libor scandals. Untangling them is essential if there is to be any hope of a resolution.

  • By Mark Baker
  • 03 Jul 2012
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There is no collective noun for scandals. But to judge by the last seven days, "a bank of scandals" has the right ring to it. Certainly the Barclays Libor debacle has presented markets with a tangle of offences and malpractice. A sober assessment of them as separate issues is the only way those responsible for formulating policy responses will be able to do so effectively.

The first, and in some ways the easiest to tackle, is the trader scandal, through which individual Barclays traders sought to influence those staff responsible for making the firm's Libor submissions.

The image it gives of the bank is appalling, the collusion is shocking and the utter lack of any effective controls is a disgrace. People have been fired. More will be. But controls, as even the regulators agree, are now in place. They need to be backed up by intrusive and aggressive external monitoring.

You do not have to be a defender of the traders' practices to find that talk of the effects on individual borrowers has been massively overdone, however. It doesn't lessen the guilt of those who acted contrary to the rules, but it is a helpful perspective. It is important, for instance, that the Libor scandal should in no way be allowed to push into the background the mis-selling of interest rate swaps to SME borrowers, also ruled upon by the Financial Services Authority last week and which some would argue is the far greater concern (see separate article).

Observation, or coercion?

The second Barclays issue concerns the downward manipulation of firm's Libor submissions at the times when liquidity was at its lowest. In truth, there are two separate issues here: whether banks were collectively encouraged by politicians and the Bank of England to post rates that did not reflect reality, and whether individual firms acted of their own accord to protect their image.

On this point, Bob Diamond's evidence before a Treasury Select Committee on Wednesday could be explosive. Barclays today released Diamond's notes of a conversation with Paul Tucker, deputy governor of the Bank of England. Much will depend on interpretation, but the suggestion by insiders that pressure was brought to bear on the industry to lower the apparent cost of funding will be hard to lay to rest. Could Bob bring down Tucker with him? Perhaps, if the Bank of England sees that as a price worth paying to settle its part in the matter.

Bankers away from Barclays — perhaps anticipating awkward public scrutiny for themselves in the near future — profess some sympathy with the firm on this point. "If the Bank of England tells you your rates are too high, what options do you have?" asks one senior banker who has had dealings with the Bank.

The indications from regulators and from Barclays are that it has been first in the line of fire simply because it was the most co-operative. That is in keeping with its well publicised views during the crisis that its rivals' Libor rates were too low. Seeing the writing on the wall, it obviously made the calculation that getting in first would be of some help. The sequence of resignations suggests that this was a miscalculation — the departures of Jerry del Missier and even Marcus Agius may have been planned for. Bob Diamond's certainly was not.

But attention will now turn to other firms. Even if they are not found guilty of the barefaced abuses perpetrated by Barclays traders, they will surely be judged as harshly as Barclays has been if they have been found to be misrepresenting their Libor submissions for the sake of their image. Even if they are, however, one ought not to expect a mass exodus of CEOs and chairmen. Going into this scandal, Barclays was in the somewhat unusual position of having its pre-crisis senior management intact. Others may be able to point to departed staff as the ones to blame.

It all comes back to Libor

Once the hysteria has died down, the focus should rightly switch to an issue that is at the absolute heart of the scandal now engulfing the industry: how to accurately reflect the cost of funding for banks in an environment of low or zero liquidity.

The Libor-setting process has been routinely trashed as meaningless for years. There is no excuse for banks or individual staff breaking the rules, but it is the vague wording of the Libor process that creates an environment where this is possible.

And it doesn't stop there: imagine, if you will, a world in which banks actually stick to the rules. What thought processes is the honest Libor submitter allowed to entertain? Academics who have spent the last few years studying the meaning of Libor reckon that game theory must inevitably be the driver of any submission. On top of that, the wooly requirement for a quote to be based on funding of a "reasonable size" allows for all sorts of variation. The combination is toxic.

But the solutions to this are not nearly as simple as some commentators would suggest. The scandal has arisen, remember, because of actions taken when liquidity was at its lowest. Those who argue that the Libor setting mechanism needs to be taken out of the theoretical realm and into the world of real transaction data are forgetting that there were days in 2008 when there was simply no data in many maturities.

And how would this reduce the scope for manipulation? Fixing the level where you wanted it would be a simple case of doing a quick trade away from the market. That doesn't sound like much of an improvement.

Financial authorities therefore face a colossal task in trying to devise a mechanism for measuring accurately banks' cost of overnight funding. They may have more luck taking a different tack — removing the relevance of Libor altogether. Those close to the UK government point out that its credit guarantee scheme was in part designed to do this, by removing the need to "bid up" the overnight market when the need for funds got urgent.

Certainly the issue of stigmatising any sign of unusual activity needs to be tackled. Pandemonium broke out in the crisis when one UK bank requested some £300m of emergency assistance. This is where the focus needs eventually to land.

Regulation and monitoring can only do so much, and it is hard to imagine that a rational technical discussion can take place right now. But removing incentives for malpractice — and finding a way of transmitting a cheaper cost of money into a system at the peak of a crisis — needs to be addressed, and fast.

  • By Mark Baker
  • 03 Jul 2012

All International Bonds

Rank Lead Manager Amount $m No of issues Share %
  • Last updated
  • 17 Oct 2016
1 JPMorgan 310,048.18 1328 8.75%
2 Citi 285,934.48 1059 8.07%
3 Barclays 258,057.88 833 7.29%
4 Bank of America Merrill Lynch 248,459.06 911 7.01%
5 HSBC 218,245.86 884 6.16%

Bookrunners of All Syndicated Loans EMEA

Rank Lead Manager Amount $m No of issues Share %
  • Last updated
  • 18 Oct 2016
1 JPMorgan 29,669.98 55 6.95%
2 UniCredit 28,692.62 136 6.73%
3 BNP Paribas 28,431.90 139 6.66%
4 HSBC 22,935.49 112 5.38%
5 ING 18,645.88 118 4.37%

Bookrunners of all EMEA ECM Issuance

Rank Lead Manager Amount $m No of issues Share %
  • Last updated
  • 18 Oct 2016
1 JPMorgan 14,593.71 79 10.38%
2 Goldman Sachs 11,713.19 63 8.33%
3 Morgan Stanley 9,435.23 48 6.71%
4 Bank of America Merrill Lynch 9,019.27 40 6.41%
5 UBS 8,763.73 42 6.23%