Banking scandal – manipulation of Libor has the potential to become one of the most costly and consequential in the history of banking.
Investigators in the U.S., Canada, Europe and Asia are piecing together a breathtaking portrait of avarice and deceit. To hide their institutions’ problems during the financial crisis, or often to boost their traders’ profits, bankers knowingly submitted false data for the calculation of the London Interbank Offered Rate, a benchmark interest rate that influences the value of hundreds of trillions of dollars in financial contracts around the world, including floating-rate mortgages, corporate loans and interest-rate swaps.
The roughly $450 million in fines paid by Barclays Plc, the first bank to fess up, is only the beginning. Regulators can and should hit more banks with large fines to prevent a repeat. More important, criminal charges for the first time could threaten a significant number of bankers and traders with jail terms for their actions during the financial crisis — a much needed comeuppance that could help reset the industry’s moral compass.
It is the lawsuits, though, that have the potential to turn a necessary catharsis into a systemic disaster. Plaintiffs ranging from investment firms to municipal governments, many of which bought bonds or entered into contracts that provided payments tied to Libor, are demanding compensation from banks for intentionally pushing down the benchmark. Attempts by traders to rig Libor on specific days, portrayed in detail in the Barclays case, will undoubtedly elicit more legal actions.
Estimates of payments related to lawsuits are currently in the billions or tens of billions of dollars. The full scope of possible litigation, though, won’t be known until the details of civil and criminal investigations emerge.
To get a sense of magnitude, consider this: If Libor was understated by an average of only 0.1 percentage point for a year, the discrepancy on the roughly $300 trillion in interest- rate swaps outstanding at the time would add up to $300 billion. That’s about a fifth of the aggregate capital of the 16 banks whose reports were used to calculate Libor in 2008. Much of that amount wouldn’t be actionable, but it also doesn’t account for other types of financial contracts or potential punitive damages.
Read More: Bloomberg