What is the LIBOR Scandal?
The LIBOR scandal, which came to light in 2012, involved a scheme by bankers at many major financial institutions to manipulate the London Interbank Offered Rate (LIBOR) for the purposes of profit. The LIBOR, which is calculated daily, is supposed to reflect the interest rate that banks pay to borrow money from each other. It is also the basis for determining the rates charged on many other kinds of loans. Evidence suggested that this collusion had been going on since at least 2005, possibly earlier than 2003.
In the LIBOR scandal, some banks reported artificially low or high interest rates to benefit their derivatives traders, undermining a major benchmark for interest rates and financial products.
Among the financial institutions that became caught up in the scandal were Deutsche Bank, Barclays, UBS, Rabobank, HSBC, Bank of America, Citigroup, JPMorgan Chase, the Bank of Tokyo Mitsubishi, Credit Suisse, Lloyds, WestLB, and the Royal Bank of Scotland.
Understanding the LIBOR Scandal
The LIBOR scandal was significant because of the central role the LIBOR plays in global finance. The LIBOR is used to determine everything from the interest rates that giant corporations will pay for loans to the rates individual consumers will pay for home mortgages or student loans. It is also used in derivative pricing.
- In the LIBOR scandal, bankers reported false interest rates to manipulate the markets and boost their own profits.
- The scandal, which went undetected for years, involved many major financial institutions.
- After 2021 the LIBOR may be phased out in favor of alternative rate-setting systems.
The LIBOR is not a single interest rate, but an array of them, based on different currencies and different loan durations. As the ICE Benchmark Exchange, which currently administers the LIBOR, explains, "It is produced for five currencies (CHF, EUR, GBP, JPY and USD) and seven tenors (Overnight/Spot Next, 1 Week, 1 Month, 2 Months, 3 Months, 6 Months and 12 Months) based on submissions from a reference panel of between 11 and 16 banks for each currency, resulting in the publication of 35 rates every applicable London business day."
In the LIBOR scandal, some banks reported artificially low or high interest rates to benefit their derivatives traders. Because LIBOR is also used as an indicator of a bank’s health, some banks were able to make themselves appear stronger than they actually were by reporting fictitious rates.
The brashness of bankers involved in the scandal became evident as emails and phone records were released during investigations. Evidence showed traders openly asking others to set rates at a specific amount so that a particular position would be profitable. Regulators in both the United States and United Kingdom levied some $9 billion in fines on banks involved in the scandal, as well as a slew of criminal charges. Because LIBOR is used in the pricing of many of the financial instruments used by corporations and governments, they have also filed lawsuits, alleging that the rate fixing negatively affected them.
Following the exposure of the LIBOR collusion, Britain’s Financial Conduct Authority (FCA) took the responsibility for LIBOR supervision away from the British Bankers Association (BBA) and turned it over to the ICE Benchmark Administration (IBA). The IBA is an independent U.K. subsidiary of the private U.S.-based exchange operator, Intercontinental Exchange (ICE). LIBOR is now commonly known as ICE LIBOR.
However, the FCA has announced that it will support LIBOR only untll 2021, at which point it hopes to transition to an alternative system. The New York Federal Reserve launched a possible LIBOR replacement in April 2018 called the Secured Overnight Financing Rate (SOFR).