Many of us were introduced to the term LIBOR for the first time this week, when it was revealed that some banks might have been manipulating the dull but vital interest rates to gain an edge in the market.
LIBOR – the London Interbank Offered Rate – is a series of interest rates determined by a handful of representatives from the biggest banks in London. The rates are what the banks would charge other banks to borrow on different loan categories, which determines the global flow of billions of dollars and perhaps even the interest rate on your savings account or home mortgage.
"We're talking about the reference rate by which ... the most complex derivative to the credit card in your pocket is actually set," says Mark Blyth, an economist at Brown University.
The scandal forced chairman Marcus Agius and CEO Bob Diamond of British banking giant Barclays to resign, and the company has agreed to pay $455 million in fines to regulators in the U.K. and U.S. It was at Barclays that emails appeared to show bankers willing to manipulate the rate, but several other banks — including American ones — are now under investigation.
To sort through the rubble of the LIBOR scandal and find out more about potential fallout, weekends on All Things Considered host Guy Raz talked with Matt Taibbi, a contributing editor at Rolling Stone, and MIT economist Simon Johnson. Johnson's most recent book, White House Burning, is about America's national debt.
On why people in the U.S. should care about the LIBOR scandal
Matt Taibbi: "Because the scale is just mind-boggling. Every town and municipality in America probably has investment holdings that are pegged to LIBOR. I think The Wall Street Journal calculated $800 trillion of financial products. So if there's cartel-style corruption that is affecting the LIBOR rate, it is just impossible to imagine a financial corruption scandal that is bigger in scope than this."
Simon Johnson: "Pensioners. Everyone who has saved [or] ... put any kind of money into products that [are] linked to a fixed interest rate – you may not even know that that is where your pensions come from, but it typically is – all of those people are losing when interest rates are manipulated down."
On the rationale by banks for the manipulation
Taibbi: "[Barclays] released an email the other day that suggested that they were actually quasi-suggested by the Bank of England to do this because during that crisis period ... everybody was worried about the appearance of financial soundness of these banks. The problem is: Where does it end? When the government can just step in and change numbers to suit itself, or the banks can do that, then we're really not dealing with a free market anymore. If they're going to make that argument I don't think that's going to hold up.
On how to resolve the problem
Taibbi: "They gave Barclays a record fine ... but that's not going to be enough to change the way these banks do business. There have to be high-level criminal prosecutions for them to really make changes, and I worry that's not going to happen."
Johnson: "Criminal prosecutions where appropriate would absolutely begin the process of changing the culture. LIBOR should not be based on what a banker tells you in principal he or she could borrow at, it should be based on actual transaction data. That's what we do in other financial markets. It should be exactly the same thing for [LIBOR] rates: real transaction data without rigging, without cheating [and] without any kind of cartel operation.
The people in charge of overseeing how banks operated have failed us again, on an enormous scale. I worry a great deal about the impact on the confidence in the banking system."
GUY RAZ, HOST:
It's WEEKENDS on ALL THINGS CONSIDERED from NPR News. I'm Guy Raz.
(SOUNDBITE OF PHONE RINGING)
MARK BLYTH: Hello.
RAZ: Hello, Mark.
BLYTH: Hello there.
RAZ: How you doing, man?
BLYTH: Not so bad.
RAZ: Where are you?
BLYTH: I am sitting in a basement apartment in Brooklyn. The AC's off, and it's still remarkably cool.
RAZ: So Mark Blyth is an economist. He was just visiting Brooklyn. He normally teaches at Brown University in Providence. And we called him up...
Okay. You have a computer in front of you, right?
BLYTH: I do, indeed.
RAZ: ...to ask him to explain a number and why we should care about that number.
OK. Can you do me a favor and look up the latest LIBOR rates?
BLYTH: Surely. So I'm just going to Google "daily LIBOR," and I'm getting to globalrates.com, and I got them all here. I got all 15 contracts that are out there...
RAZ: OK. What Mark is doing, he is doing something banks all over the world do every day: They check out these numbers from LIBOR. It stands for the London Interbank Offered Rate.
BLYTH: These are the rates on different loan categories and maturities, denominate in different currencies...
RAZ: In simple language, LIBOR sets about 150 interest rates a day - rates like what a bank would pay the borrowed dollars for a fixed period of time or the interest rates at which huge multinational banks can borrow money from one another.
BLYTH: And it's a whole series of five decimal numbers going from 0.2378...
RAZ: And those numbers, they determine the global flow of billions of dollars, maybe even the interest rate on your savings account or your home mortgage. LIBOR comes up with those numbers based on what a handful of representatives from the biggest banks in London say they should be.
BLYTH: This is the so-called reference rate. So basically, what happens is the British Bankers Association says to them, hello, chaps. I was wondering if you could tell us how much it would cost to borrow some money from you for, let's say, 24 hours or a month or three months or whatever it happens to be. And they report all of this at 11 o'clock every day.
Then two guys in the room, and apparently it really is two guys in the room, sit down and work out the mean of this by lobbing off the top bids, the top 25 percent, and the low bids on the bottom 25 percent. And what you're left with when you average it out is the LIBOR number for a specific loan of a specific duration.
RAZ: You do a good English accent.
BLYTH: Thank you.
RAZ: OK. So that's LIBOR. Maybe you've never heard of it. I certainly hadn't until a week ago. But this week changed all of that.
(SOUNDBITE OF NEWS REPORTS)
UNIDENTIFIED WOMAN #1: The latest banking scandal in Britain has forced a top CEO to quit this morning. Bob Diamond is the second top official to be forced out of Barclays...
UNIDENTIFIED WOMAN #2: Pressure is mounting on Barclays after it admitted to manipulating interest rates.
UNIDENTIFIED WOMAN #3: Regulators in the U.S. and Britain fined the bank nearly half a billion dollars for manipulating lending rates.
RAZ: That was news this week that Barclays, Britain's second largest bank, admitted to lying deliberately about its LIBOR numbers from 2005 to 2009. Sometimes Barclays would manipulate the numbers to make it easier to lend money. Other times, they'd make it harder, all to make sure that Barclays would come out ahead.
Now, in its wake, the bank's CEO, Bob Diamond, resigned this past week. The company agreed to pay $455 million in fines to regulators in the U.K. and in the U.S. And now, several other banks, including American ones, are under investigation for doing the same thing.
Our cover story today: why the LIBOR scandal matters here and how Barclays bank is just the tip of the iceberg.
So how did investigators uncover all of this? Emails sent between Barclays bankers who submit the LIBOR rates and the bank's own traders, people who stand to make more money depending on how they can manipulate those rates.
And, Mark, do you have this email in front of you?
BLYTH: Yeah. I've got it on the phone.
BLYTH: Do you want to play the trader and I'll play the submitter?
RAZ: Yeah. Let's do that.
BLYTH: OK. Go for it.
RAZ: This is from March 13, 2006. The trader writes an email to the submitter. He says, hey, the big day has arrived. As always, any help would be greatly appreciated. And then the submitter helps him, and the trader from Barclays writes to him and says, hey, when I retire and write a book about this business, your name will be written in golden letters.
BLYTH: And having just sent in a false bid or something that if it's not false, at least it's in my friend's interest, I replied back, I would prefer this not to be in any book.
RAZ: I bet he would. March 27, 2005, you are the submitter. You are going to have to come in a bit late. I want to be the trader here. And I say, noonish, who's going to put my low fixings in? Ha, ha, ha, ha.
BLYTH: And the submitter says, don't worry about it. I'll get someone else to do it.
RAZ: April 7, 2006, the trader is asking for, again, a low submission. And he writes, he says, he promises, copies will be coming your way. Either way, just to say thank you for your help.
BLYTH: And I would respond, of course, done, for you, big boy.
RAZ: And these are all real. These are all real emails.
BLYTH: Yup. Oh, there's another one about Bollinger champagne floating around all the rest of it, yeah.
RAZ: Yeah. We'll crack open a bottle of Bollinger for you.
RAZ: So then you might say, well, what's the big deal about a bunch of bankers in London manipulating some obscure interest rates?
BLYTH: Well, the big deal about it is even if the attempts to manipulate this aren't successful, you're still talking about the reference rate for - by which practically every contract in the world - from the most complex derivative to the credit card in your pocket - is actually set. Your car loan's probably set in reference to LIBOR. Your mortgage is set in reference to LIBOR. Subprimes in particular.
So if these guys were pushing this rate around, then there's a case for manipulation. If they were doing it with lots of guys in other banks at the same time, it's collusion, if not conspiracy.
RAZ: So you're telling me that the bankers in London are basically determining the interest rates of some of the loans that I hold?
BLYTH: Oh, yeah. Those bankers in London are doing this not just for you, they're doing it right around the world. LIBOR's a benchmark standard.
RAZ: What was the point of the Revolutionary War?
BLYTH: Well, the point was you guys got it wrong. You were just meant to show up and pay your taxes and you've never been very good at that.
RAZ: Well, to help us sort through the rubble of the LIBOR scandal, I'm joined by Matt Taibbi. He's a contributing editor at Rolling Stone magazine. Matt, welcome to the program.
MATT TAIBBI: Thank you. Hello.
RAZ: Also with me here in our studios in Washington is Simon Johnson, a professor at MIT, a former chief economist at the International Monetary Fund. Simon, welcome to you.
SIMON JOHNSON: Nice to be with you.
RAZ: Matt, let me start with you. Before the holiday this week, you posted a blog post, and your headline was "Why Is Nobody Freaking Out About the LIBOR Banking Scandal?" Why should people in the U.S. really care about this or worry about this?
TAIBBI: Because the scale is just mind-boggling. You know, every town and municipality in America probably has investment holdings that are pegged to LIBOR. I think The Wall Street Journal calculated $800 trillion of financial products. So if there's cartel-style corruption that is affecting the LIBOR rate, it's just impossible to imagine a financial corruption scandal that's bigger in scope than this.
RAZ: Simon Johnson, you and others have written that the problem is not just LIBOR, but it's a culture of what you call lie more.
JOHNSON: That's right. The expression is from Dennis Kelleher of Better Markets. But lie more is the strategy. Lying as a business model, lying as a systematic approach to reporting on interest rates.
RAZ: I mean, essentially, you're saying that the banks have had an incentive to lie, to cook the books.
JOHNSON: They've had an incentive and an opportunity, both in terms of the structure of how the British banking association runs the reporting system on which they base the calculation of LIBOR, but also the lack of internal controls within Barclays, and presumably other banks have also either had fail of internal controls or complicit senior management or both.
RAZ: This is what Mervyn King, the governor of the Bank of England, had to say about the whole culture of the financial sector of this past week.
MERVYN KING: From excessive levels of compensation to shoddy treatment of customers, to a deceitful manipulation of one of the most important interest rates, we can see that we need a real change in the culture of the industry.
RAZ: That's Mervyn King, the governor of the Bank Of England, essentially the equivalent of our Fed chairman, Ben Bernanke. Matt Taibbi, you've written a lot about the culture of the industry. And we saw this past week with this LIBOR scandal, emails from traders at Barclays asking their colleagues to manipulate borrowing rates - emails that said, dude, I owe you big time. I'm opening a bottle of Bollinger.
RAZ: One trader in his daily calendar, his diary, wrote, ask for a high six-month fix, as if to remind himself that he's got to ask his colleagues to cheat for him.
BLYTH: He needs a Post-it note to remind himself to rig world interest rates. That's like melting Antarctica to water your lawn, which is another reason, I think, that this scandal hasn't quite gotten the press it deserves yet because it's so hard to contemplate.
RAZ: Let me ask you sort of a counterintuitive question - to both of you. If the banks were artificially keeping interest rates down, could one make the argument that there's a silver lining there, that it actually kept borrowing costs lower for consumers and for other, you know, small business owners and so on?
TAIBBI: Well, this is, I think, what the rationale was of Barclays. They released this email the other day that suggested they were actually quasi-instructed by the Bank of England to do this, because during that crisis period in fall of 2008, everybody was worried about the appearance of financial soundness of these banks. But the problem is, where does it end?
When the government can just sort of step in and change numbers to suit itself, or the banks can do that, then we're not really dealing with a free market anymore. And if they're going to make that argument, I don't think that's going to hold up.
JOHNSON: Pensioners. Everyone who has saved...
JOHNSON: ...spent their life saving, has put money into any kind of product that's linked to a fixed interest rate, you may not even know that that's where your pensions come from, but it typically is. All of those people are losing when interest rates are manipulated down. I would also say and emphasize the people in charge of overseeing how banks operated have failed us again on an enormous scale. So I worry a great deal about the impact on confidence in the banking system.
RAZ: How do you resolve this? I mean, right now, as it stands, the banks are still arbitrarily - essentially arbitrarily determining these borrowing rates. Is there a way to create a mechanism, a formula to make this authentic and transparent and not rigged?
TAIBBI: This, to me, is analogous to something I just wrote about, which is there was this scandal that kind of surfaced in the last few years about systematic rigging of municipal bond service auctions. And what they did in that case is they just sort of gave semi-substantial fines to the banks involved. But it wasn't nearly enough to alter the behavior of the companies.
And what I'm worried about in this case is that's what's going to happen here. I mean, they gave Barclays a record fine, $450 million, but that's not going to be enough to change the way these banks do business. You know, there have to be high-level criminal prosecutions for them to really make changes, and I worry that that's not going to happen.
RAZ: Simon, changes?
JOHNSON: Well, criminal prosecutions where appropriate would absolutely begin the process of changing the culture here. But I think Mervyn King, the governor of the Bank of England, said it very well recently. He said, quote, "My word is my LIBOR is dead." In other words, LIBOR should not be based on what the banker tells you in principal he or she could borrow at. It should be based on actual transaction data.
That's what we do in other financial markets. It should be exactly the same thing for interest rates: real transaction data without rigging, without cheating, without any kind of cartel operation.
RAZ: That's economist Simon Johnson of MIT. His recent book on the national debt is called "White House Burning." Simon, thanks for coming in.
JOHNSON: Thank you.
RAZ: And thanks also to Matt Taibbi of Rolling Stone magazine, who joined us from our New York bureau. His most recent book is called "Griftopia." It tells the story of the financial crisis. Matt, thanks so much.
TAIBBI: Thank you.
RAZ: And you're listening to ALL THINGS CONSIDERED from NPR News. Transcript provided by NPR, Copyright NPR.