LIBOR Scandal; More on Swaps

October 1942. Engine installers at Douglas Aircraft in Long Beach, California. 4×5 Kodachrome transparency by Alfred Palmer.

(This post’s “possibly irrelevant image” comes from an incredible series of Kodachrome photos at English version of Pavel Kosenko’s blog. The images are beautiful and interesting. Definitely irrelevant to the post, though.)

(1) A bit on Libor:  I’ve asked a couple of people to do guest posts on the whole Libor scandal, since I’m out of my depth. The basics:  Libor (or LIBOR, the London Interbank Offered Rate) is an average of the interest rates that banks charge each other (i.e. the price of lending money) that serves as a benchmark for loans and securities (notably including derivatives like interest-rate swaps–more on this in part two of this post).  How is it determined? A bunch of the biggest banks report to the British Bankers Association (BBA) what the cost of borrowing is for them; some committee of the bank throws out the outliers (top four and bottom four) and averages the rest and that’s Libor. It’s more complicated than that, because there are various Libor rates–for different currencies and different time-periods.  Anyhow, Barclays, one of Britain’s megabanks, stands accused of changing what it reported to the BBA (lowering the rate it reported) at the request of Barclays traders in the U.S. whose derivatives trades would go better if Libor were lower.  So that’s about as far as I’ve gotten–our guest posters will help us understand the significance of the scandal.  Meanwhile, here are some links I’ve accumulated that might be helpful in the meantime:

The New York Times had a good Q&A on Libor earlier this week, and also a good infographic on the Libor scandal.

The Times also had this piece about the expected fallout of the scandal: cities that have gotten screwed by banks on Libor-linked derivatives deals (e.g. interest-rate swaps discussed in our May/June cover story; more on this below), are lining up to litigate against the banks if the scandal widens.

People are talking about how Libor is tied to $800 trillion in loans and securities.  When I first started reading about the scandal, my mind boggled at the notion of a bank (or many banks) manipulating a multi-trillion dollar market, and at the notion that Barclays getting fined a puny $450 million. But this post at Naked Capitalism and this piece from the Financial Times help  sort out the fact that not everything that is tied to Libor is affected by the manipulation (at least by what’s been established so far).  According to Yves Smith: “So far, the e-mail disclosures indicate that one month and three month Libor were manipulated, not six month Libor, which is a benchmark used for adjustable mortgages.” So it looks like derivatives were affected but not mortgages.  But as Yves also points out, it shouldn’t be about who is hurt, but about the fact that they broke the rules and undermined trust in the benchmark.

According to Media Matters for America, U.S. teevee news has only devoted twelve minutes so far to the Libor scandal.

Anyhow, that’s all I have for now.  More soon for our experts.

(2) More on Interest Rate Swaps:  One of the people I’m waiting to hear back from about the Libor scandal is Darwin BondGraham, author of our May/June cover story on interest rate swaps. Meanwhile, check out this video (Copyright, Reprinted with permission. Original link: by documentary filmmaker David Zlutnick; it tells the story (partially related in our feature story) of how the city of Oakland was screwed by interest-rate swap deals, and how activists and the city government are fighting back:

Here’s the video at David’s site. We’ll keep following this story.  I have some items on the Philly city schools that I need to post soon, but that’s all for now.

–Chris Sturr

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