Is Your Mortgage Payment Based on Lies? Read Here
Anyone who thinks it's a good idea to trust a group of banks in London to set a benchmark borrowing rate that affects the value of some $360 trillion in mortgage loans, derivatives and other financial contracts around the world should consider the following e-mail from a Barclays Plc employee to his supervisor in October 2008:
I will reluctantly, gradually and artificially get my libors in line with the rest of the contributors as requested. … I will be contributing rates which are nowhere near the clearing rates for unsecured cash and therefore will not be posting honest prices.
The message, made public by the Commodity Futures Trading Commission as part of a process that resulted in a $451 million fine for Barclays, was written by the employee responsible for reporting the bank's borrowing rates for the purpose of calculating the London Interbank Borrowing Rate, or Libor. Barclays is one of a panel of banks that submits rates every weekday morning London time. An adjusted average of the rates determines the size of payments on mortgage and corporate loans worldwide, and serves as an indicator of the health of the entire banking system.
Talk about a smoking gun. As Bloomberg reports today, the Barclays employee was ordered to report the erroneous rates to make the bank look healthier than it was amid the market turmoil of 2008. In other cases, false rates were reported to benefit the positions of the bank's trading desks.
What's amazing is that the Libor system still operates pretty much as it did back then. It's still overseen by the British Bankers' Association, the trade group that kept insisting Libor was reliable even as the media brought attention to evidence of manipulation. The BBA has done little of import to improve oversight, which is not surprising given that a representative of the reporting banks chairs the committee responsible for Libor.
It’s hard to imagine how Libor can be fixed. The best solution, as Bloomberg View has advocated, is to dump it entirely. Move to a benchmark that would employ data from actual loans, rather than relying on banks to tell the truth about their borrowing costs. It will take a while, but given how much money is riding on a broken benchmark, it's worth the effort.
(Mark Whitehouse is a member of the Bloomberg View editorial board. Follow him on Twitter.)