Libor, the New Asbestos

Barclays headquarters in the Canary Wharf business district of London Photograph by Simon Dawson/Bloomberg

These are parched times for law firms. Clients just aren’t willing to pay what they used to for associates’ billable souls.

How fortuitous then that a multitrillion-dollar financial scandal promises to throw the lawsuit industry beaucoup fees, from both the alleged aggressors and their aggrieved. Thanks to the Barclays blowup, we now know that Libor, the most widely used and quoted benchmark for valuing about $360 trillion in financial products, has been rather rigged. Throw in the fact that this gauge is set by Wall Street, the villain à la mode, and a heretofore harmless interest rate could join the likes of asbestos and tobacco in one-word liability infamy.

Let the litigating begin. On Monday, word got out that the Berkshire Bank, a small New York-area lender, was suing 21 banks including Bank of America, Barclays, and Citigroup for damages over alleged Libor manipulation. In a July 25 filing in Manhattan federal court, Berkshire sought undisclosed compensation and punitive damages and the right to represent other lenders in a class action. Berkshire claims that Libor fraud ate into its interest payments.

“Tens, if not hundreds, of billions of dollars of loans are originated or sold within this state each year with rates tied to [U.S. dollar] Libor,” Berkshire Bank said in its complaint. The New York banks “were unable to collect the full measure of interest income to which they were entitled,” Berkshire said. Berkshire wants to represent the several hundred banks, savings and loan institutions, and credit unions headquartered in or predominantly run out of New York.

Meanwhile, the Justice Department is investigating criminal activity related to Libor. Civil probes of the banks are being handled by the U.S. Commodity Futures Trading Commission, the Securities and Exchange Commission, and U.K. regulators.

Libor is so ubiquitously baked into the world of financial products that it is hard to get a sense of the extent of who exactly was done wrong and by how much. Libor-related litigation “has the potential to be the biggest single set of cases coming out of the financial crisis, because Libor is built into so many transactions and Libor is so central to so many contracts,” says Harvard Law School professor John Coates. “It’s like saying reports about the inflation rate were wrong.” Or like asbestos, which was built into everything from ships to cars to houses before blowing up into the most expensive mass tort action in history.

Last year, Charles Schwab sued a long roster of Libor-involved banks, alleging that it got shortchanged on the returns of mutual funds and short-term debt. According to a story by Bloomberg’s Christopher Condon and Alexis Leondis, the ginormous likes of Fidelity and BlackRock potentially want recompense, as does the city of Baltimore. The Financial Times’s Cardiff Garcia illustrated the slippery task of both proving—and defending against—Libor wrongdoing.

Not that this will stop Wall Street from attempting to price-tag the hit to the banks. Analysts at Keefe Bruyette & Woods estimate the implicated banks will be on the hook for $30 billion to $50 billion to settle all of the fines, penalties, and civil cases. In a feat of if-then, top-down vs. bottom-up scenario interpolation, Morgan Stanley recently bandied about an estimated “potential cost to industry at $6 billion, or $0.4 billion per bank, for every 1 basis point that Libor was suppressed daily over 4 years” to achieve a global settlement of Libor litigation. Morgan Stanley also took a crack at estimating “potential cost per bank based on size of rate derivative book, 35 basis points of Libor suppression over 4 years and 1 percent probability of payout.”

Analyst Esperanto aside, expect to hear about this for years.

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