The brazenness of the LIBOR scam
knowledge.wharton.upenn.edu
knowledge.wharton.upenn.edu
One thing to understand is that there was not one but two distinct manipulations of Libor.
The first is the one this article refers to, which is before the financial crisis, swap traders influencing the libor submitters to move their contribution to the fixing by a tiny amount, often a couple of basis points, to fit the massive future positions they were sitting on. Completely unethical and illegal but unlikely to have any noticable effect on the market, kind of like stealing a penny from a million bank accounts. It’s still stealing, but the impact on the market is limited.
The second manipulation was of a different nature. It is at the height of the financial crisis, when banks were failing as a result of bank runs every week, libor submitters, probably under instruction / tacit consent from their management and regulators, low balled their contribution to the libor fixing to not appear to be struggling to fund themselves (by having a high cost of borrowing) since these contributions were public and investors were trying to infer what bank was next to fail. These low balling were probably in the 50-300 basis point range, ie with a material impact on the wider maket (borrowers should have paid significantly higher interest rates during that period). And this is the one whistle blowers complained to regulators about, falling into deaf ears.
I'd argue that there were three.
The first, and unquestionably illegal, was what Tom Hayes did i.e. collusion between actors at multiple banks to move Libor. I don't think he should have got the sentence he did but prison was definitely justified.
The second was swaps traders getting their own setters to go in high or low. I'm not at all sure this was illegal. Given that Libor was completely broken at the time, I'm not even sure I'd argue that it was unethical. As there was, essentially, no uncollateralised inter-bank borrowing, any figure was wrong. And, as you say, the effect was minor and not particularly directional.
I think your second point, the systemic low balling of Libor by senior management, is, by far, the most important. It's also the one that has had the least public attention. What is particularly problematic about it is the influence that governments had. Because of the latter, I'm sure that it won't ever be properly investigated.
On the low balling, interestingly I am not sure the impact on the market was nefarious. It was certainly material but I do not believe that when borrowers and lenders referenced Libor in their loan contract, they really meant to index their interest rate paid on the 3 month credit risk of a bank. I think they did on the assumption that large international banks had near zero credit risk for 3 months borrowing (which was true until 2007) and that Libor was a convenient way to measure a 3 month risk free rate on top of which they would add a credit risk margin. When Libor started shooting up in 2008, it was not because of the general levels of interest rates (central banks were slashing interest rates at the same time) but because of bank credit risk. So though contractually borrowers should have paid a higher interest rate during that period, the low balling probably had the effect to make the interest rate closer than what borrowers and lenders probably intended when they referenced Libor in their contract.
The difference is that collusion between banks is cartel price fixing and is very illegal. The majority of reported cases of traders requesting rate moves did not fall into this category unlike the Hayes case.
For the cases where the traders were just asking their own setters to move the rate, there was no collusion. They work for the same company and not even in separate, Chinese walled departments.
Also, in the intra-bank cases, I don't recall seeing any where the setters were actually breaking BBA rules. The problem was that the rules were meaningless when there was no uncollateralised borrowing.
> I am not sure the impact on the market was nefarious
You're making a lot of assumptions. What is clear is that the interventions were material and directional. And that would have had an effect on both institutional and retail customers. That's usually the time when regulators get all medieval.
There was a move towards collateralised transactions so the overnight rates become more important for funding than the unsecured rates.
Whether it's "legal" or not is almost beside the point; it's not going to be punished. And it took place in a (hopefully) completely unique scenario, so hopefully there's little risk of moral hazard.
2. Swap traders influencing their own banks Libor.
3. Banks fixing their Libor contribution to mis-represent the health of their business (possibly egged on by a government that doesn't want banks to fail)
It was well written and very interesting if folks are more interested in the folks involved and how all of this went down and their personalities etc.
IMHO prison is never justified for people that pose no physical danger to others. A reasonably big (as big as he can actually afford) fine and ban on working on government and financial positions could be enough.
That's not what was suggested. What was suggested was "as big as he can actually afford and a ban on working on government and financial positions".
That's called "punitive damages" when they scale to what the criminal can bear, rather than what damage they caused.
I do think these criminals would care about losing _most_ of their money and being barred from working in their field.
Implicit in your comment is that these people have a network that will make them whole no matter what.
A) That’s only true for the very top.
B) Even if they are made whole, the more times the network has to “make someone whole” it gets harder to justify the criminality. Over time the network will start leaving people out to dry.
Also, your comment is unnecessarily dismissive. Your position is valid, you can just state it without trying to insult my intelligence and we can carry on a conversation.
For this person, I think I could support just a fine and a ban on working in the finance industry. I think it's likely he regrets what he did, and is unlikely to cause further harm to society. But there are people like Bernie Madoff (and people who only aspire to be as big a scammer as Madoff) who I think pose a continued, further harm to society.
This is no punishment at all.
> What makes you think there would be more money than what the scammer took?
They probably had something before they have committed the scam and they also might have been getting their fancy salary during the scam too...
Unsure what the legal justification is though
Replace the ellipsis with almost any organization - theocracies on down.
I maintain that this feature is the real purpose of all human organizations. With some dither for the smallest.
I'm really curious what you mean by that. Is it just that they bring good money, or why don't you get rid of them?
Problem, the portfolio of subprime RMBS consists in a lot of small transactions, which don't necessarily have an active market, and that led to disputes between the protection seller and the protection buyer on what the CDS contract was really worth (you can't translate 1 for 1 a rise in delinquencies - % of subprime borrowers ceasing to make payments on their mortgages - and the ultimate loss suffered on the portfolio of mortgages after the property has been foreclosed and sold several months/years later). It mattered not just because the other party would have to post more collateral, but also because the other party would have to mark a loss if the agreed value was less than what it marked the position for in its books and records.
Ah yes, I love when my government hassles innocent people to make a point to everyone else.
I also love it when some people are just "Too Big To Jail (TM)"
> Those investigations uncovered substantial evidence "that senior bank officials were complicit in the illegal activity."
> On Tuesday, not only did the US Justice Department announce that HSBC would not be criminally prosecuted, but outright claimed that the reason is that they are too important, too instrumental to subject them to such disruptions. In other words, shielding them from the system of criminal sanction to which the rest of us are subject is not for their good, but for our common good.
> The New York Times Editors this morning announced: "It is a dark day for the rule of law." There is, said the NYT editors, "no doubt that the wrongdoing at HSBC was serious and pervasive." But the bank is simply too big, too powerful, too important to prosecute.
https://www.theguardian.com/commentisfree/2012/dec/12/hsbc-p...
You've as a country determined that an institution is too important to your population and your country's stability to have it go bankrupt. But instead of growing your economy through it, you through actions deem it okay to siphon money to the private owners instead of the people paying for it through taxes.
The existing common equity (and IIRC preferred stock) in a number of entities was massively diluted by issuing new preferred stock and warrants to the US government.
Here are two examples, they were among the worst offenders. Look at the share price for Citigroup and AIG:
https://finance.yahoo.com/quote/C?p=C https://finance.yahoo.com/quote/aig/?p=aig
If you owned pre-crisis C common stock, you're still down about 84%. If you owned pre-crisis AIG common, you're still down about 95%. (that's approximate, done by eyeballing the charts). Edit: Yahoo Finance charts have been getting worse and worse, you need to click "Max" to see the proper timeline.
I don't follow UK equities closely, but I think the same thing happened to a number of UK banks at the time. E.g. RBS.
Unfortunately the whole thing was quite uneven. E.g. Goldman Sachs took advantage of the morons at AIG who sold them very cheap "insurance" such as credit default swaps. But Goldman was made whole. What should have happened is that Goldman should have been made to share the pain.
Edit: I'm of course talking about the '08 financial crisis in general. I don't agree that the Libor scandal was significant enough to nationalize the banks as punishment. I'd much rather see a few bad actors taken out back and shot. That would be much more salutary in terms of deferring future bad behavior.
They should have just let the market work and the banks go under.
It would have been a financial loss but a moral victory. An important lesson about carefully choosing who you trust.
http://www.telegraph.co.uk/business/2017/09/07/nicky-morgan-...
If they have questionable ethics, so will the industries they run.
The real problem isn't banking, it's neoliberalism's sanctification of individualistic greed. When collective morality decides that almost any behaviour is acceptable as long as a few people make a big profit, the political and moral consequences are unlikely to be positive.
The paragraph before:
> … One of the things I found interesting researching this book is that there are a lot of people out there, experts in law enforcement and criminal justice, who really think that the situation we’re now in is a direct result of a lack of ambition and creativity and guts among prosecutors in some of the biggest countries in the world, including the U.S. The thing is, prosecutors do not like to lose cases, so they’ve taken, in general, a very conservative approach to what cases they’re going to bring because they don’t want to gamble on losing. They’ve built up these very impressive win/loss records as prosecutors. Some of them are undefeated. And they boast about that.
They went after low-level guys because the big fish have better connections and better lawyers and much riskier in terms of publicity if you lose your case.
That sounds like the opposite of the "rule of law", to me at least.
You can argue for more or less false positives at the expense of false negatives. But saying they should prosecute, not because they're likely to win, but because it'll act as a deterrent, seems wrong. For one, having lots of cases that get thrown out also hurts public trust. For another, losing cases reduces incentives to settle.
Making all prosecutors more likely to bring charges in cases they think they will lose sounds like a bad idea. The easy scary example is of prosecutors frequently bringing simple theft charges against people who just happened to be nearby a theft. It's obviously bad: huge numbers of potentially powerless, innocent people are exposed to extreme damage to their character, which they cannot fix and which may destroy their lives and health. The false positive dominates the situation, and its harm to society is clear.
In the specific case of top-level bank executives manipulating things like LIBOR, I think the balance just as clearly tips the other way. Consider the rarity of the crime, the impact of the crime, the size of the impacted group who may have charges brought against them (right or wrong), and the power of members of that group within society.
I posit that the crime is exceedingly rare (we're discussing a probable instance from over a decade ago), the impact of the crime is exceedingly high (by harming the entire financial apparatus of society, it can meaningfully cause real harm to millions, if not billions of people), the size of the group is exceedingly small (you could legibly write all of the potentially impacted people's names over decades on a small stack of A4 paper), and the power within society of members of the group is uniformly among the highest possible level in our society (they are by definition some of the richest and most well connected into the political, financial, and legal systems of the world).
Balance toward the false negative here implies that members of this class of potential perpetrator could feel more they are likely to get away with this specific crime. Balance toward the false positive implies that, when this massive crime is believed to have been committed, these few, powerful members are open to, let's say high chance of wrongful arrest, that they have the overwhelming ability to remedy the effects of via legal means after the fact.
The potential for meaningful harm to society seems to be decidedly on the side of allowing false negatives. In this specific, unbelievably narrow context, I am all for shifting the balance toward more prosecutions. I think that this is in line with the argument being put forward originally by the parent.
The article advocates prosecutors charging bankers even though they “might have lost those cases, but at least it would have struck some fear in the hearts of people.” If you lose the case, there was no crime. Charging people with unwinnable cases is bad.
OP is saying Enrich (the guy being interviewed) went too far when saying about cases that would be lost: “but at least it would have struck some fear in the hearts of people.” I agree with the point about prosecutorial conservatism. But part of the conservatism is a product of proper restraint. Drug crime prosecutors show the opposite end of the spectrum; our criminal justice system aspires to a default of innocence for a reason.
your interpretation = "we wouldn't have won but we would have scared them"
my interpretation "we may not have won every case but the very fact that cases were prosecuted would have been valuable"
Those moments felt to me like 'its not a conspiracy, it's Lowe grade decision making by people who aren't reminded of their obligations' so maybe the book tells it better.
Always a bit of a sad moment, when the journo realised they like their subject. How do you maintain objectivity once you humanize the devil? Gitta Serenyi had that with Albert Speer.
How convenient is to have such people around /s. Developers should learn from stories like this as well -- don't do anything illegal, even though your superiors tell you so, because when shit hits the fan, you will be the one held accountable.
"This is part of the reason I love Hayes as a central character for this book — because he’s not your cookie-cutter banker out of central casting. This is a guy who is much happier going home after a day of work and having a bucket of fried chicken and an orange juice and watching Seinfeld reruns than he is going out to Michelin-starred restaurants or a swanky club. To me, his massive social awkwardness — the fact that he would go to a dinner party, and sit next to a stranger, and start talking to her very loudly about his dandruff problem — he had no idea how to behave in normal society."
Political and cultural ostracism has real world consequences. They've found their scapegoat and they're piling on. It's pretty disgusting actually.
Why are you so sure he isn't responsible? Is it impossible for a mildly autistic mathematician that likes fried chicken and is socially awkward to have committed any crimes?
Enrich: I do want to make clear that [Hayes] is not an innocent victim here. He is someone who was participating, and he was not acting properly. He was acting illegally, and I think deserves to be punished. I just find it galling that he is alone in being punished.
Also Enrich: This is part of the reason I love Hayes as a central character for this book — because he’s not your cookie-cutter banker out of central casting. This is a guy who is much happier going home after a day of work and having a bucket of fried chicken and an orange juice and watching Seinfeld reruns than he is going out to Michelin-starred restaurants or a swanky club. To me, his massive social awkwardness — the fact that he would go to a dinner party, and sit next to a stranger, and start talking to her very loudly about his dandruff problem — he had no idea how to behave in normal society.
That makes him slightly endearing as a character, I think, but it also kind of helped explain how he stumbled into this. He was just completely unable to pick up on any subtle cues or social boundaries that normally would help moderate someone’s behavior.
So he deserves punishment for doing something bad when he is inherently dependent on others to help him separate the right thing from wrong?
I believe as of today LIBOR is set based on actual transactions. But who was the genius who created the original LIBOR? Perhaps it all started as something hacky in the 60s and they could not foresee how important LIBOR would become?
I don't doubt what they did was immoral, but most of the articles I've seen skip over the murky aspect of what exactly was illegal.
Thinking of an absurd parallel, if you had a dinner club and had to say how much you were going to pay before the restaurant was picked, it's hard to see how manipulating your decision to influence the restaurant chosen would be illegal if there wasn't some firm agreement in the process being deterministic or formally defined. And that wouldn't change even if others were making money on the back of the restaurant choice!
What I'd like to see explained is how LIBOR went from an ill-defined process to one where the way some participants set it was no longer legal. What had the participant banks signed up to do /not do which they then failed to do?
Or is the illegality all on the part of those trading on it? (ie insider trading, given that it was based on non-public information)
Huh? That's not what inefficiency means. It means that an asset costs more (or less) then it's worth.
If I temporarily have a large amount of cash in the account then they send me brochures trying to lure me into some premium 'exclusive' club which feels more than slightly greasy.
I would switch banks but it's a lot of hassle. Plus I don't get the sense that any of them would be working for me. They're working for the regulator, or for the forces of darkness, or for someone else.