This paper examines how the banks manipulated the London Interbank Offered Rate (LIBOR) and the reasons behind to why they had decided to premeditatedly adjust their submission rates. Moreover, I will give a brief insight of LIBOR in the introduction whilst section one solely focuses on what LIBOR is, and what economists call the “LIBOR scandal”. Contrarily, section two focuses on policies to reconstruct LIBOR and solutions that will prevent a scandal as such from occurring in the future. Lastly, section three will give an overview of all solutions that will preclude LIBOR from being exposed to manipulation in the future, reducing the volatility of LIBOR. Nevertheless, this paper aims to find a suitable and efficient reform proposal that is most feasible and competent without any other problems arising that could potentially make the situation worse.
The global manipulation of LIBOR became under public scrutiny mid-2012 when allegations had arisen that banks purposefully falsified their borrowing costs by substantial amounts in order to portray a sense of financial strength amidst market uncertainty and instability. Following the onset of the financial crisis of 2007, Barclays, Deutsche Bank and Union Bank of Switzerland (UBS) were amongst the banks who had falsified their submissions of interest rates to depict a sense of trustworthiness and stability to businesses and individuals. Furthermore, the submission of the immensely low interest rate illustrated to those distressed markets whose investors at the time would have been seeking for any signs of a liquidity crisis, that they are in fact secure and credible.
What Is LIBOR?
Determined by the British Bankers’ Association (BBA), LIBOR, a benchmark rate, is published daily at approximately 11 am. Additionally, it is based on filtered average rates in which contributing banks are prepared to lend to one another. The arithmetic of the LIBOR rates is conducted via putting all the rates obtained from banks into ascending order, discarding the highest and lowest rates, and taking the mean of the remaining rates and thus excluding all outliers. Additionally, LIBOR is considered a key benchmark for banks and financial institutions and acts as a reference for the pricing of financial products such as mortgages, government bonds and many more. It is worth an estimation of $350 trillion a very crucial aspect of not just the national economy, but in-fact globally. Due to the scandal, LIBOR has been taken over the ICE benchmark
The “LIBOR scandal”
According to the Financial Services Authority (FSA), the smallest manipulation, such as 0.01%, would have resulted in Barclays accumulating $2 million during the year of 2006 “Jeremy C. Stein. (2015)”. Such miniscule modification will impact the economy in many ways as banks make by obtaining deposits at an appropriate rate and lending at a much higher one to acquire profit. A lower LIBOR rate further translates into a lower interest rate on many loans. More importantly, what we learn from this scandal will help us come up with solutions for the future to stop this from occurring again