Libor: the bankers who fixed the world’s most important number
theguardian.com
theguardian.com
Libor was "fixed" by design. Literally, the concept behind Libor was to ask some guys to make up a rate they thought they could borrow money at (note: Not the rate they WERE borrowing money at). Totally subjective. For the purposes it was originally intended for, that was fine. Later it began to be used for other purposes, but it seems like a lot of people forgot that it was, at base, asking some bankers to make up a number. Which...they did. And then people got upset, because they didn't want a made up number, they wanted some objective benchmark. Well, maybe you shouldn't have been using Libor?
Okay, sure, the number was being made up for selfish reasons and did not represent a good faith effort to try and make up a number that accurately reflected the rate that the people being asked believed they could borrow hypothetical money, if they tried. If you squint a bit, that's...I dunno, I guess it's bad? It wasn't obviously against the law, and I'm hard pressed to articulate a clear moral argument about how bankers should make up hypothetical numbers, but okay, let's just say it was bad and wrong.
But... At any given point some banks were trying to drive the numbers up; others down. Net movement was often nil but generally downwards. Since mortgages are often linked to Libor (in some countries) that means all this probably means a bunch of people saved a few pennies (literally) on their mortgage payments a few years back, mostly at the expense of large investors. Yeah, I know, that doesn't mean it's either moral or legal but...stealing an almost immeasurably small amount of money from a hedge fund and giving it to a home owner is not exactly "robbing widows and orphans" territory.
In short, I'm decidedly underwhelmed by the entire "scandal". And I think the sentence was wildly disproportionate; there's no way you can say the magnitude of the crime justified it, especially given the small scale and vague legal situation.
You're right about every single thing you said. However, the conclusion is slightly off.
Think about prices at a gas station. Each gas station owner is free to price their gas at a price at which he thinks people will buy it from him. This is normal and most definitely legal.
What is not legal is if even two or more has station owners make a secret pact to keep prices the same. This is called price fixing. It does not matter if the price is a bit higher than normal (to maximize profits) or lower than normal (to keep a third gas station from opening up). What matters is that the prices are being fixed.
If you slice and dice price fixing, you can come up with the same conclusion as you have. And yet price fixing is considered illegal and bad.
https://en.wikipedia.org/wiki/Price_fixing
In the case of LIBOR, it is a situation very similar to price fixing, but at an imaginably large scale. That is why it was a huge scandal and that is why people and institutions got punished for it.
This isn't analogous, because the gas stations aren't repeatedly buying gas and selling it back to other gas stations within very short intervals. They're buying it from suppliers and selling it to consumers who use it. Banks are buying and selling liquid assets (money) to/from each other overnight. The same banks alternate back and forth between being buyers and sellers (and some may even act as both buyers and sellers within the same trading period). So "price fixing" doesn't have the same effect as it does in other markets, because it's essentially a closed system.
It's weird to talk about Libor as collusion because, again, the entire point is to save banks the trouble of having to run around and find out all of the possible rates that each bank would charge each other. Instead, they can use Libor as a estimate of the "going rate", and with the caveat that everyone knows it's not always accurate, they can figure out their own pricing accordingly.
Except that it's not a closed system. That would be the point.
Overnight interbank loans are a closed system, by definition.
The part that isn't a closed system is when people use Libor as a metric for other purposes. Which isn't a reasonable complaint, because that's explicitly not what the Libor was created for, and it was never intended to mean anything else.
That is: Things grow beyond "what they were created for". To say that any such use is fair game for abuse is both unreasonable and unwise.
No, it's not at all.
It's more like when people complain that memcache doesn't make a good tool for session handling, or that it's not fault-tolerant and has zero replication. Of course not - it was never meant to be used that way, and the documentation explicitly says it shouldn't be used that way[0]. If you still want to, fine, but don't complain that memcache is a bad system when you're simply using it against its intended design.
[0] https://github.com/memcached/memcached/wiki/ProgrammingFAQ#h...
So, to see which analogy fits better: Is there a document (issued by someone authoritative) that says that Libor should not be used the way it was (i.e., to set interest rates for non-interbank loans)? If not, then what we have, essentially, is your claim that it shouldn't be used that way, against everyone using it that way.
[1] "we'll both say we have 'fresh produce', and one month out of the year we'll both say it's 'very fresh produce'"
But I still think that SilasX's view isn't the right way to look at this. Why were people messing with Libor? It wasn't because they were going to make more money off of interbank loans. It's because they were going to make more money off of other things that were keyed to Libor. So, yes, they were using Libor to manipulate the price of things.
And if I understand correctly, it works like this: The contract says Libor + X%. The X is fixed at the time the contract is negotiated, not at the time it closes. Then, later, the contract closes, and uses the Libor at the date of closing. This means that the Libor-setters move last, after the offset is determined. This makes it impossible in practice to use the offset to fix the Libor machinations.
Many of those large investors are mutual funds and pension funds. Some of which do fund widows and orphans. E.g. I think CALPERS was involved in one of the lawsuits?
Stealing a penny each from a million people surely must be just as evil bad and wrong as stealing a million pennies from one person (any sensible way of relating money and harm comes up with that result). I think the reason it seems less bad is that our monkey brains aren't good at comprehending the concept of millions of people, so when we say "a million people" our moral intuition just interpreters that as "lots of people", i.e. "a couple of hundred people".
It's not really the crime of the century, is it?
> Stealing a penny each from a million people surely must be just as evil bad and wrong as stealing a million pennies from one person
Arguable. Declining marginal value of money says that I'd be much more upset about losing the millionth penny than the first, so in some ways stealing a million pennies from one person is worse. (This is the moral justification for progressive taxation.) But okay, let's accept that for now. In which case...
...Libor manipulation still doesn't seem that bad? As you point out, there was a lot of overlap in the beneficiaries and the losers. Because even if stealing a penny each from a million people is the same as stealing a million pennies from one person, giving the pennies back again is still pretty different. :)
Libor manipulation still doesn't seem that bad?
This isn't about the measurable effects of the dishonesty, it's about the integrity of the system.
Well, the bankers took their cut. If, using the numbers from the article Hayes made $70 million (and sure, some of that was probably acquired honestly, but let's assume maybe 10% came from this fraud), then on the one hand he's taken a tiny fraction of the $350 trillion he's been meddling with - most of the "collateral damage" moving one way or another balances out, sure (though at the individual level it's still unfairly damaging some people (those who don't own houses) even as it unfairly benefits others - stealing a bunch of money and giving it all away would still be a crime). On the other hand, buried in the middle of those mostly-netted-out effects he's had when you look at each one individually, he's stolen a total $7 million, which is nothing to sniff at.
Maybe not you, but I've met other people who don't end up with the corollary that such things don't matter, but who instead seem to set out from the get-go to "not be one of those people hating on the 1%". It's like the hipster "I don't like music that's popular" but transposed to "I'm so learned that I actually rationalize white collar crime".
The drop in rates arguably raised asset prices, which helps e.g. people who currently own houses. This comes at the expense of people who need to purchase houses in the future. So there are generational implications there.
However, it can also be argued that the drop in rates catalysed an economic recovery, without which there would be fewer jobs for the younger generation.
All of this is arguable. But to say that the fed is robbing widows through artificially low rates and money printing is just emphatically wrong.
>However, it can also be argued that the drop in rates catalysed an economic recovery, without which there would be fewer jobs for the younger generation.
trickledown houseinomics?
The flip side of libor is the rage against spoofing. As long as the price is available to be dealt on for some minimum time, who cares? You think its wrong then go deal on it. In the days when fx and money/bond markets were not totally automated trading was all about psychology- which side would cave first. Pushing prices and then calling off the weak side was just good market making.
Why didn't people and banks just use this number?
The other thing is that Libor is an ancient instrument, created before capital markets had the size and liquidity they have today. The market must have been even patchier then.
To be clear, it was never intended to be a measure of credit quality for banks. It was supposed to be a measure of supply and demand in the money market, a substitute for the Fed Funds rate, only for the non-US domiciled dollar market.
The amount of money involved was hardly insignificant. Per WP:
"Early estimates are that the rate manipulation scandal cost US states, counties, and local governments at least $6 billion in fraudulent interest payments, above $4 billion that state and local governments have already had to spend to unwind their positions exposed to rate manipulation.[53] ... Timothy Lee, a capital markets expert at the Federal Housing Finance Agency Office of Inspector General, said in a 3 November memo that Fannie Mae and Freddie Mac may have lost more than $3 billion because of the manipulation.[57]"
And I hate to break this to you, but the people who benefit from these schemes weren't "giving [their gains] to home owners."
There's no way you can say the magnitude of the crime justified it, especially given the small scale and vague legal situation.
As to the crime, it's called "market manipulation", and there's nothing at all legally vague about it. These people knew what they were doing, and by and large, were perfectly aware that it was agains the law. The just didn't think they'd get caught.
It's interesting to note that whenever there was a fixing of any kind in a visible market like fx or equities, people who held dependent instruments such as options would always comment on how it seemed fixed.
You'd stare at the graph during the fixing and wonder why on earth it was moving so strangely. They'd typically be rumours of someone having a large interest via barriers and such but of course your broker would not actually tell you who.
I'm not surprised libor was also rigged, it actually seems to suit the culture. Add to that the fact a lot of these guys (these types of traders and brokers, not necessarily these exact guys) knew each other from childhood, or at least had a very strong common culture.
Former algorithmic options market maker. Brokers don't tell because they don't know. (We did, along with the one broker whose client placed the order did.)
We know, but it is important function of a broker not to tell.
That sort of broking is a lot smaller now, and there is something to be said for the screen model of market making.
http://quant.stackexchange.com/questions/3753/what-really-dr...
If BMWs go up in price, Audis can go up in price as well, even though you've only observed people buying BMWs. Same goes with the general market, if people are buying Toyotas and Fords, you can guess the prices of Mercs are higher too, despite not having seen one.
One thing to note is there are sometimes shenanigans going on in the options markets. The settlement prices of options determine the margining and sometimes the end-of-month PnL reported by the administrator. If a trader has a large position in an option, he might be able to cause the guy at the exchange to move the marks a little in his favour. I've sat next to guys who've phoned the exchange and hounded them to move the mark a little. No brown envelopes and such, and the relationship is not like with a broker whom you've met.
There were two separate scandals in the libor fixing scandal.
Scandal one is the one covered in this article. Before the crisis, swap traders getting the libor submitters to skew their submissions in one way or another to fit their positions. One thing to know about that is that the amount by which the libor fixings were moved was very marginal, typically 5-10 basis points (0.05-0.1%), which would then get averaged out, and probably well within the range of uncertainty for the cost of funding of a bank. The impact would be nothing more than a rounding error to pretty much any borrower with a loan indexed on Libor. It would matter to a swap trader as he would be sitting on a massive libor future position, and would be running the basis risk between that position and the derivatives this position is hedging. But it is kind of like stealing 1 cent from 10 millions bank accounts. It is still stealing, it doesn't excuse it, but people who pretend that the economy has been impacted are insincere.
The other scandal was of a whole different nature and scale. During the peak of the crisis, as banks were going bust one after the others, the management of these banks were asking libor submitters to lower their contribution significantly, typically by several percents, because these contributions were public, and they did not want to give the sentiment that the bank was struggling to fund itself, and may go bust soon too. This had a much larger impact on everyday loans, though at the benefit of the borrowers, as rates were lower than they should. People who pretend that struggling borrowers were cheated got their math wrong. Investors were cheated. Although one could argue that when people were choosing libor for their contract, they meant it as a good indicator of the general level of interest rates, but didn't mean to index their own borrowing cost to the credit risk of a bank, which has very little to do with interest rates, and is what caused libor to spike, as interest rates were otherwise going down.
That second scandal though, was not something that happened, hidden, between a handful of traders. Regulators were informed either by whistle blowers, or even potentially by the management of banks. They decided not to act as they percieved the threat of major banks going bust as a much greater problem than where interest rates were. Now I am not saying I condone manipulating rate submissions. But people who are outraged on HN should ask themselves whether they would have preffered the alternative, a much more violent financial crisis than 2008, which was already off the chart.
According to the minutes, "Several group members thought that Libor fixings had been lower than actual traded interbank rates throughout the period of stress."
Just yesterday I said in chat that I needed to "put a bullet in his head". The "his" in that quote was an old daemon that was performing badly and needed to be shut down.
Two examples I noted:
First the SEC quotes Tourre "More and more leverage in the system, The whole building is about to collapse anytime now…Only potential survivor, the fabulous Fab[rice Tourre]…standing in the middle of all these complex, highly leveraged, exotic trades he created without necessarily understanding all of the implications of those monstruosities!!!" [1]
Where the actual sentence was (translating the bits in French): You should take a look at this article... Very insightful... More and more leverage in the system, the whole building is about to collapse anytime. Only potential survivor, the fabulous fab (as Mitch would kindly call me, even though there is nothing fabulous about me, just kindness, altruism and deep love for some gorgeous and super-smart French girl in London), standing in the middle of all these complex, highly leveraged, exotic trades he created without necessarily understanding all the implications of these monstruosities!!! Anyway, not feeling too guilty about this, the real purpose of my job is to make capital markets more efficient and ultimately provide the US consumer with more efficient ways to leverage and finance himself, etc [2]
I wouldn't write that in an email, but still, the sentence has a very different meaning with the bits edited out by the SEC back in.
Second example, one of Tourre's managers was quoted writing "boy that timeberwof was one shitty deal". This was repeated over and over by congress as if it was a reference to the quality of the collateral of the transaction, i.e. Goldman Sachs sells some product to a client that they call internally a shitty product. But if you look at the actual email trail [3], they are not discussing about the quality of the collateral in that CDO, but of the fact that they are left with a $300m unsold position, which understandably is undesirable as a market maker.
So my advice to everyone. No personal stuff in professional emails. No humor, no joke, no second degree, no sarcasm. None of that is safe. The sentence you add at the end to provide context in case a third party reads it will not help you, it will be edited out.
[1] https://www.sec.gov/litigation/complaints/2010/comp-pr2010-5... page 7
[2] http://i.telegraph.co.uk/multimedia/archive/01623/Fabrice_To...
[3] http://www.hsgac.senate.gov//imo/media/doc/Financial_Crisis/... page 224
To their credit, the senators that grilled Goldman executives over this thing asked GS why they sent this to the SEC other than to give them a scapegoat.
I mean, he's a millionaire, millions of pounds in bonuses and salary, getting a job like his isn't easy - why throw all that away?
[1] https://play.google.com/store/apps/details?id=com.zegoggles....
Tom Hayes interned at UBS in 2001 [1]. Most interns are about 20 years old; we can thus estimate his age at about 35. A man born in the UK in 1981 is expected to live about 70 years [2]. Hayes' 14-year sentence thus represents almost 40% of his remaining life.
[1] https://en.wikipedia.org/wiki/Tom_Hayes_(trader)
[2] https://www.ons.gov.uk/peoplepopulationandcommunity/birthsde...
:)
I'd prefer much more reasonable drug policies- how growing a plant can be deemed illegal?
(pharma, alcohol, tobacco industries are not happy)
Why is it so hard to imagine someone doing this without direct order? Why do we assume the "executive" is evil, but the lowly worker is "good"?
The lowly worker, meanwhile, has failed to rise in the ranks and is therefore less likely to be evil than the population average since some of the evil people (but proportionately fewer not-evil people) have moved out of his or her cohort (to higher-paying positions).
QED.
Can you point to the actual crimes or specific cases? Because, fortunately, we don't throw people in jail on speculation.
Likewise interest rates on bitcoin would be exactly the same.
Libor is the rate at which banks lend to each other. It wouldn't matter if the contracts were dollar or Bitcoin or seashell denominated. They are private contracts to which the public is not privy. A simpler solution is requiring banks to post their interbank borrowings, nightly, to a clearinghouse.
They don't know the basis of economical science and are stuck in a self-limiting (hence deflationary) monetary base. Not to mention some of the fundamentalism that runs around
Good luck with that
My primary issue isn't with LIBOR persay, because, as the name implies, it's a London bank rate. My primary issue is with the fact that the Fed board of governors so quickly and easily chose it as the rate, in effect ceding a huge part of their power (interest rate setting) to fucking London bankers! They had all the power to choose an American rate or create one of their own, but chose not to.
To me, this is a perfect example of the danger of the Fed and it's unsupervised, unchecked power of agency, and it leads credence to the anti-fed sentiment and documentation I have read.
That the Wall Street bankers truly are subservient to The City (London) is more of a threat to US national security than ISIS.
What are you talking about? LIBOR was a de facto standard because the market overwhelmingly chose to use it as the short rate by writing it into private counterparty contracts. The market could have easily settled into something else (right now it's moving towards Fed Funds and OIS rates).
If you look at how the LIBOR rate is actually set, it's a trimmed average, meaning you poll something like 18 banks, then you discard the highest 4 and lowest 4. This is actually a good fraud-resistant design.
The Fed had little directly to do with what index banks and other private counterparties chose to use with one another at the time.
In 2014 "a private corporation called ICE Benchmark Administration (IBA) took over the daily production and administration of [LIBOR] subject to the regulation and supervision of" the UK's Financial Conduct Authority [1]. ICE is an American company that trades on the NYSE.
> the Fed [ceded]...power...to...London
Of the 18 LIBOR member banks, 3 are American and all have a presence in New York City [2]. That's how the Fed is able to regulate them. Also, I don't think the Fed pushes LIBOR. Lenders baked it into their private contracts much as the Wall Street Journal prime rate is baked into some mortgages.
> Wall Street bankers...are subservient to The City
Other way around. If Washington cut London's dollar clearing privileges the City would implode.
[1] https://www.federalreserve.gov/newsevents/speech/powell20140...
In 2014, a full 6 years after a crash, that doesn't negate the issue of allowing a non-American set interest rate to be the basis for American financial institutions in the first place. Literally billions of dollars in city, firefighter, and police pensions, not to mention other investments, in the US were negatively affected by the manipulation of LIBOR. Even though they sacrificed a scapegoat, and LIBOR was indeed being abused, the structure of LIBOR itself is part of the problem here.
> Of the 18 LIBOR member banks, 3 are American...
Not really reassuring me with those kinds of numbers.
> all have a presence in New York City [2]. That's how the Fed is able to regulate them.
They can regulate their American side, but not their London side, correct? Still doesn't change the original issue. Also, the Fed regulating the banks is sorta the fox guarding the hen house isn't it? I mean, as far as I know, the true ownership (who owns stocks in the Fed) is private still is it not? Isn't it a sort of inherent conflict of interest? Don't get me started on how the SEC has their balls cut off on this subject.
> Other way around. If Washington cut London's dollar clearing privileges the City would implode.
I understand the power of the defense/petro-dollar, but I'm talking about culture wise, where I have repeatedly seen the Fed and major heads of banks bend over for bankers in the City. It's much more ancedotal and on this point I haven't read any good academic papers or books, so if you have some reading on the relationship between the City and Wallstreet I would love to hear about it.
American banks don't borrow based on LIBOR. Their overnight borrowing and lending is done at the Federal funds rate [1], an arguably much better-designed system than LIBOR. The only reason LIBOR shows up in the U.S. is people write it into contracts.
> Of the 18 LIBOR member banks, 3 are American
>> Not really reassuring me with those kinds of numbers
The U.S. overruled British regulators in 2008 regarding Lehman Brothers and Barclays, and did so again in reforming LIBOR. The four British banks who are LIBOR members depend more on the U.S. than any American bank depends on London.
> the true ownership (who owns stocks in the Fed) is private
No, the Fed was created by Congress [2]. Its Board is appointed by the President and confirmed by the Senate. It remits its profits to the U.S. Treasury.
Commercial banks own "stock" in the regional reserve banks, but it's more of a reserve accounting mechanism than actual stock. The "stock" is not transferable and confers no management rights; "the Reserve Banks are not operated for profit, and ownership of a certain amount of stock is, by law, a condition of membership in the Federal Reserve System" [2].
> I understand the power of the defense/petro-dollar
The size of the American economy, particularly its consumption, underwrites dollar hegemony. That size means lots of people, within the country and without, must hold U.S. dollars. That, in turn, makes it ideal for lending and borrowing in, which in turn makes it ideal for trading commodities.
> I have repeatedly seen the Fed and major heads of banks bend over for bankers in the City
Since World War II and the implementation of the Bretton-Woods pact the City has served at the pleasure of Washington. For a hint at this, search the British financial press for mentions of American regulators and then do the same of the American financial press for British regulators.
In particular, I didn't realize that LIBOR wasn't actually used by the American banks for interbank stuff, but was used voluntarily in contracts. That LIBOR impacted so much of America and they allowed it to do so voluntarily (or out of ignorance) is astounding to me. I wish all this kind of information was layed out in a single place more clearly for public conspumption.
So yes, they handed off the power to do their jobs right, but their goal was not to do their jobs right. Their goal was to make money as long as it's good and not go to jail when it's bad. And the power to do that they didn't hand of to anyone.