18 Oct 2012
In June of this year, one of the biggest banking scandals in recent history exploded in the UK, having immense repercussions for Europe’s largest banks. It had been hoped in the global banking community that the scandals that had marred the previous four years had come to an end, and the reputational kicking that the industry had taken was being addressed by tougher regulations across the markets. However, the Libor scandal that emerged from the UK brought about a whole new level of criticism for the industry, and caused many to ask if enough has been done to change the culture of financial markets.
“I don’t feel personally culpable, but what I do feel is a strong sense of responsibility, a very strong sense that when we find mistakes we recognise them, we are open about them”
Libor, the ‘London Interbank Offered Rate’, acts as the global benchmark for short-term interest rates across the world, and represents what rates banks would be charged when borrowing amongst each other. It is estimated that as much as €600trn is tied to Libor, and it is the most widely used interest rate across the world, covering commercial loans, mortgages and many other forms of loan. It is calculated each day and published through Thomson Reuters.
Breaking in 2008, the Wall Street Journal published an article that claimed some banks had been misreporting their Libor borrowing costs. This was firmly denied by the British Bankers Association (BBA), as well as other reputable institutions that included the IMF.
Concerns were, however, raised by Bank of England Governor Sir Mervyn King in 2008, when he described Libor as “in many ways the rate at which banks do not lend to each other… it is not a rate at which anyone is actually borrowing.” There had been talk of questionable meddling with the Libor rate since 2007, when, ironically, Barclays notified US regulators that other banks had been misreporting their rates. However, it was not until 2010 that the FSA began its investigation.
Reporting in June this year, the FSA announced that it had fined Barclays £59.5m for rate fixing, alongside the US Commodity Futures Trading Commission and the US Department of Justice, who fined the bank $200m and $160m respectively. The announcement came as a shock to the industry, and immediately triggered a British parliamentary investigation into the actions of the bank. Barclays was fined for manipulating rates as far back as 2005, when traders were adjusting their rates to enhance their financial positions. The most serious cause of the fine, however, was the banks low rate submissions during the global financial crisis that began in 2007, and aimed to make its performance seem relatively secure. Within days of the announcement, the two most senior figures at Barclays, Chairman Marcus Agius and CEO Bob Diamond, jumped ship, after immense pressure from politicians and the press.
A number of key figures, including Agius and Diamond, were subsequently called before the UK Treasury Committee investigating the scandal. Diamond described feeling ‘physically ill’ when he learnt what traders at Barclays had been doing, but maintained that he had only become aware of the scandal in June 2012, telling the committee: “I don’t feel personally culpable, but what I do feel is a strong sense of responsibility, a very strong sense that when we find mistakes, we recognise them, we are open about them.”
Falling from the top
Diamond claimed that the Deputy Governor of the Bank of England, Paul Tucker, had back in 2008 suggested the bank adjust its Libor submissions, saying in an email that: “it did not always need to be the case that we [Barclays] appeared as high as we have recently.” Diamond said that a senior manager at Barclays, Jerry del Missier, had assumed that this message was an instruction to lower the bank’s Libor submissions. Committee chairman Andrew Tyrie went on to describe Diamond’s submission as ‘less than candid,’ which the former CEO said was “totally unfair and unfounded.”
Del Missier, in his own testimony to the committee, said: “I expected that the Bank of England’s views would be incorporated into our Libor submissions. The views would have resulted in lower submissions.” Tucker, however, claimed he was merely making sure Barclays was managing its business correctly, and further added: “I wanted to make sure that Barclays’ day-to-day funding issues didn’t push it over the cliff.”
Within weeks, other banks were also drawn into the scandal. RBS said that it had fired staff because of suspected rate fixing, while Deutsche Bank admitted that it too had taken part in the manipulation. With Germany’s largest bank now part of the controversy, it was clear that this crisis was not just confined to the UK. UBS, HSBC, and a number of US banks also came forward and said they would cooperate with investigators.
It appeared that many of the banks were trying to spread the blame, while claiming that their actions had not been as bad as some of their rivals. UBS chairman, Axel Weber, told reporters in August that as his bank had been upfront about the scandal in 2010, and it was not required to pay any form of settlement: “UBS was the first bank to go to the authorities when we had grounds for suspicion in 2010. As a result, we received conditional immunity, meaning we are a key witness.”
Further condemnation came from EU policymakers in late July. In a statement, the EU’s Vice-President Justice Commissioner, Vivien Reding, said action was needed to address the Europe-wide scandal: “Public confidence has taken a nosedive with the latest scandals about serious manipulations of lending rates by banks. EU action is needed to put an end to criminal activity in the banking sector and criminal law can serve as a strong deterrent. This is why we are today proposing EU-wide rules to tackle this type of market abuse and close any regulatory loopholes. A swift agreement on these proposals will help restore much-needed confidence of the public and investors in this crucial sector of the economy.”
“It will be a great step forward if the regulators get away from box-ticking and endless data collection, and instead devote more careful thought to where risk really lies”
This sentiment was echoed by Internal Market and Services Commissioner Michel Barnier, who announced that the European Commission would be introducing a series of amendments to directives on regulating the banking industry. He said: “The international investigations underway into the manipulation of Libor have revealed yet another example of scandalous behaviour by the banks. I wanted to make sure that our legislative proposals on market abuse fully prohibit such outrages. That is why I have discussed this with the European Parliament and acted quickly to amend our proposals, to ensure that manipulation of benchmarks is clearly illegal and is subject to criminal sanctions in all countries.”
Towards the end of August, the British parliamentary report into the scandal was published. In the report, the Treasury Committee attacked the management of Barclays for their role in the rate fixing, while calling for immediate reforms: “There was something deeply wrong with the culture of Barclays. Such behaviour would only be possible if the management of the bank turned a blind eye to the culture of the trading floor. “Now exposed, their actions are to the detriment of Barclays’ reputation and the reputation of the industry. The standards and culture of Barclays, and banking more widely, are in a poor state. Urgent reform, by both regulators and banks, is needed to prevent such misconduct flourishing. Such misconduct is a sign of a culture on the trading floor, and higher up, that had gone badly awry.”
The report went further to describe the actions of those involved as ‘disgraceful’, and had occurred after ‘a prolonged period of extremely weak internal compliance and board governance at Barclays, as well as a failure of regulatory supervision.’ It went on to point out that other banks were almost certainly involved in rate manipulation, saying: “It is unlikely that Barclays was the only bank attempting this.”
Diamond, for his part, attempted to defend the actions of Barclays during the years that preceded the crisis, saying that they had been one of the first to actually raise concerns about the issue: “It should be recorded that broader issues with Libor have been a subject of discussion among regulators for years, and there is little dispute that Barclays was both aggressive in its investigation of this matter, and engaged in its cooperation with the appropriate authorities.” Much of the report’s criticism was aimed at regulators for their lack of foresight and action over the scandal. Tyrie said: “The manipulation was spotted neither by the FSA nor the Bank of England at the time. That doesn’t look good.” He went on to condemn the FSA for its lack of action in dealing with the scandal initially, and called on the regulator to re-examine the way it conducts itself: “It will be a great step forward if the regulators get away from box-ticking and endless data collection, and instead devote more careful thought to where risk really lies. This could reduce the regulatory burden and, at the same time, provide more effective oversight. It will involve a change in culture on the part of the regulators and is a major challenge for the future.”
Tyrie laid out a range of changes to the regulatory system that he wanted to see implemented, including, “higher fines for firms that fail to co-operate with regulators, the need to examine gaps in the criminal law, and a much stronger governance framework at the Bank of England.” He added: “The sustained rigging of a crucial benchmark rate has done great damage to the UK’s reputation. Public trust in banks is at an all time low. Urgent improvements both to the way banks are run, and the way they are regulated, is needed if public and market confidence is to be restored.” While it was agreed that the resignations of Diamond and Agius were necessary to restore public confidence, the Treasury Committee did add that the FSA should not always cave to media hysteria in its decisions. “Regulators should not decide the composition of boards in response to headlines.”
Dealing with the aftermath
The crisis continues to develop further, with other banks being drawn deeper into the controversy. Barclays has now appointed a new CEO, Antony Jenkins, and chairman, Sir David Walker, who has a reputation for being an expert in financial regulation, and someone who will not take kindly to any reports of mismanagement by employees.
The broader theme of the culture in the banking industry has been discussed by many, and where it goes next to try to reverse the public’s already hostile attitude to the industry is unclear. Investment guru Warren Buffett told CNBC he believed the scandal was significant: “It’s a big deal. You have got the base rate for the whole world, including some loans we have in the past. The idea that a bunch of traders can start emailing each other or phoning each other and play around with that rate is an important thing and it is not good for the system.
“You get Libor and you are talking about the whole world. Everything is tied and of course you are in this terrible position, if you have millions of these contracts based on Libor and one side profits from a given price being out of line and the other side loses.” The wider implications of the scandal points toward the culture in the industry and the reticence of regulators to act seriously. Writing in The Observer in July, political commentator Naomi Wolf lambasted those in charge of the financial system for allowing yet another scandal to occur, saying: “The notion that the entire global financial system is riddled with systemic fraud–and that key players in the gatekeeper roles, both in finance and in government, including regulatory bodies, know it, and choose to quietly sustain this reality – is one that would have only recently seemed like the frenzied hypothesis of tin hat-wearers.
“It is very hard, looking at the elaborate edifices of fraud that are emerging across the financial system, to ignore the possibility that this kind of silence is simply rewarded by promotion to ever higher positions, ever greater authority. If you learn that rate-rigging and regulatory failures are systemic, but stay quiet, well, perhaps you have shown that you are genuinely reliable and deserve membership of the club.” The future of Libor it seems, is still fundamentally unclear, and opinions will continue to circulate as long as banks operate in the manner in which they have up until now.