RECENT DISPUTES ARISING FROM LIBOR
CD: Could you briefly explain the history and significance of the LIBOR scandal? Why did banks seek to manipulate LIBOR rates and how did they achieve this?
Wheatley: The London Inter-Bank Offered Rate, or LIBOR, is an interest rate benchmark produced by the British Bankers Association intended to reflect banks’ costs of unsecured borrowing of funds in a number of key currencies over various periods of time. The process for administration scrutiny and governance of rate setting has recently been reformed in the light of inadequacies exposed by the scandal but basically banks are recruited to a panel for a particular currency and each day are required to submit to an administrator the rate of interest at which they can borrow funds in that currency on the interbank market over specified borrowing periods. The administrator then trims off outlying submissions for each time period and calculates an average rate for each currency which becomes the published LIBOR rate. In 2008, during the financial crisis, questions began to be asked about whether LIBOR rates submitted by panel banks were an accurate reflection of their true unsecured borrowing costs and whether some Panel Banks might in times of stress be submitting LIBOR rates that were lower than they ought to be to disguise the true cost of their borrowing and therefore the extent of their liquidity problems, a practise which became known as ‘lowballing’. Regulators have now investigated and found Barclays and UBS did engage in this. However this was not the end of the matter. Financial instruments, such as interest rate derivatives contracts are often referenced to LIBOR so that payments made under the contracts can be affected by movement in the LIBOR rate. Findings have been made by regulators that some Panel Banks were making high or low submissions in an attempt to affect the LIBOR rate to benefit their own trading positions.
Jul-Sep 2014 issue