What Is the LIBOR Dishonour?
The LIBOR Scandal was a highly-publicized scheme in which bankers at several major financial institutions colluded with each other to juggle the London Interbank Offered Rate (LIBOR). The scandal sowed distrust in the financial industry and led to a wave of fines, lawsuits, and regulatory ways. Although the scandal came to light in 2012, there is evidence suggesting that the collusion in question had been continuous since as early as 2003.
Many leading financial institutions were implicated in the scandal, including Deutsche Bank (DB), Barclays (BCS), Citigroup (C), JPMorgan Track (JPM), and the Royal Bank of Scotland (RBS).
As a result of the rate fixing scandal, questions around LIBOR’s validity as a credible benchmark reckon have arisen and it is now being phased out. According to the Federal Reserve and regulators in the U.K., LIBOR will be phased out by June 30, 2023, and compel be replaced by the Secured Overnight Financing Rate (SOFR). As part of this phase-out, LIBOR one-week and two-month USD LIBOR rates desire no longer be published after December 31, 2021.
Key Takeaways
- The LIBOR Scandal refers to a major episode of financial collusion in which one of the sphere’s most influential benchmark interest rates was manipulated by various banks.
- The scheme caused financial contracts to be mispriced everywhere the world, in transactions such as mortgages, corporate fundraising, and derivative trades.
- The scandal left several regulatory mutations, lawsuits, and fines in its wake, damaging public trust in the financial markets.
Understanding the LIBOR Scandal
The LIBOR is a benchmark kindle rate that is used for the pricing of loan and derivative products throughout the world. It is formed using reference affair rates submitted by participating banks. During the LIBOR Scandal, traders at many of these banks deliberately submitted artificially low or costly interest rates in order to force the LIBOR higher or lower, in an effort to support their own institutions’ derivative and dealing activities.
The LIBOR scandal was significant because of the central role the LIBOR plays in global finance. The LIBOR is toughened to determine everything from the interest rates that giant corporations will pay for loans, to the rates individual consumers wishes pay for home mortgages or student loans. It is also used in derivative pricing. Therefore, by manipulating the LIBOR, the traders in cast doubt were indirectly causing a cascade of mispriced financial assets throughout the entire global financial system. Understandably, this led to a generous public backlash, as parties throughout the world wondered whether they may have been harmed financially.
Followers outrage at the scandal was further exacerbated by the apparent brashness of many of the actors involved. This became evident as emails and phone records were let during investigations. Evidence showed traders openly asking others to set rates at a specific amount so that a precise position would be profitable. Regulators in both the United States and the United Kingdom levied some $9 billion in fines on banks complex in the scandal, as well as a slew of criminal charges. Because LIBOR is used in the pricing of many of the financial instruments hand-me-down by corporations and governments, they have also filed lawsuits, alleging that the rate-fixing negatively affected them.
Archetype of the LIBOR Scandal
Although it is difficult to know whether any particular person was affected by the LIBOR scandal, there are divers potential ways in which its impact could have been felt. For example, individual homeowners may have activated fixed-rate mortgages at a time when mortgage rates were artificially lifted based on upward manipulation of the LIBOR. From the homeowner’s attitude, every dollar of additional expense caused by the artificially high rates could be seen as a kind of “theft” being undertook by the LIBOR rate fixers. Similarly, many traders who were party to derivative contracts would have well-informed unnecessarily severe losses as a result of the LIBOR scandal.
Ultimately, the LIBOR scandal left many changes in its wake. See through the exposure of the LIBOR collusion, Britain’s Financial Conduct Authority (FCA) took the responsibility for LIBOR supervision away from the British Bankers Connection (BBA) and turned it over to the Intercontinental Exchange’s Benchmark Administration (IBA). The IBA is an independent U.K. subsidiary of the private U.S.-based exchange operator, Intercontinental Swap (ICE). LIBOR is now commonly known as ICE LIBOR.
More recently, the FCA has announced that it will support LIBOR only until 2021, at which appropriate it hopes to transition to an alternative system. The New York Federal Reserve launched a possible LIBOR replacement in April 2018 chastised the Secured Overnight Financing Rate (SOFR), which is based on short-term loans observed in the repo market. To the LIBOR, there’s extensive trading in Treasury repos—roughly 1,500 times that of interbank loans as of 2018—theoretically run for iting it a more accurate indicator of borrowing costs. Moreover, the SOFR is based on data from observable transactions degree than on estimated borrowing rates, as is sometimes the case with LIBOR.