Lies, damned lies, and LIBOR: Barclays, Diamond, and a devalued benchmark

The story of how Barclays tried to rig an interest rate benchmark called LIBOR, which cost CEO Robert Diamond his job today, may seem obscure. But it's the latest evidence of bankers taking every inch regulators leave to them.

A pattern of deception extending over a period of years. A flouting of the law to profit at the expense of others on three different continents. And a belief that the rules did not apply to them.

No, not the latest mafia family to be taken down by a special prosecutor. But Barclays PLC, the sprawling British banking group that recently paid a $450 million fine for seeking to rig LIBOR, a benchmark interest rate used to value trillions of dollars of investments. Barclays' brash and fabulously wealthy CEO Bob Diamond finally resigned today after a storm of press and public outrage, as did Chief Operating Officer Jerry del Missie. They were preceded by chairman Marcus Agius yesterday. Today, US and UK regulators have requested more time to look at other banks and individuals who participated in the LIBOR fraud.

But for the moment, that's where accountability, and the similarity to how other complex cons are prosecuted, appears to end. A number of other, as-yet-unnamed banks are being investigated for participating in the fraud. Barclays' experience in handling this late unpleasantness will provide a helpful template for them when regulators come knocking at the door: Offer to pay a fine that amounts to a fraction of annual profits, and your executives and employees will avoid being named, let alone prosecuted. Barclays made $14 billion net profit in 2009, at the height of the LIBOR rigging scheme, and $4.7 billion net in 2011.

Regulators are seeking to spin the Barclays story into one of effective government oversight. The head of the UK's Financial Services Authority, Tracey McDermott, said yesterday she hoped the fine levied on Barclays will amount to a "watershed moment" for the financial industry. But both Mr. Agius and Mr. Diamond remain millionaires many times over; the bonuses paid out to the traders and supervisors involved in fraud in years past have not been clawed back. And no one is facing jail time. The regulatory message so far amounts to: "Don't get caught, or else we'll ask you to stop doing what you're doing."

Public confidence in the probity of banks is not being done any favors, particularly in the UK, where the reputation of "The City" is approaching all-time lows among average folks, as Mian Ridge writes today.

Mr. Diamond has long been a symbol of a greedy banker in the UK press and politics. Two years ago Peter Mandelson, then the UK cabinet secretary in charge of business affairs, complained that Diamond gave British bankers a bad name, singling out his compensation package. "He's taken £63m not by building business or adding value or creating long-term economic strength, he has done so by deal-making and shuffling paper around," he said.

Diamond has frequently defended himself and bankers more generally, insisting that financial institutions are good at self-regulation. He insists that fears that the trading desks of banks take big risks that compensate them when they pay off, but leave the public holding the bag when they go bad, were overblown.

"We've got to end this rhetoric around casino banking," he told a conference in Dec. 2009. "The facts aren't there, the rhetoric is just too loud. Trading is incredibly important to the success of financial institutions. Ninety-eight percent of the losses that we've seen in the banking system to date have started with loans and not trading. Big and systemic are not synonymous."

The details

What happened? The LIBOR story has a veneer of complexity over it: Word salads of unfamiliar acronyms and impenetrable jargon that bankers have created to conceal what they do. But it's actually a simple tale of incompetence, greed, and galloping arrogance that, like most cases of financial theft, will probably not end in jail time for any concerned.

The US government's Commodity Futures Trading Commission outline of Barclays' behavior makes for damning reading.

"Over a period of several years, commencing in at least 2005, Barclays PLC, Barclays Bank and Barclays Capital, by and through their agents, officers and employees located in at least New York, London and Tokyo, repeatedly attempted to manipulate and made false, misleading or knowingly inaccurate submissions concerning two global benchmark interest rates, the British Bankers' Association's (BBA) London Interbank Offered Rate (LIBOR) and the European Banking Federation's (EBF) Euro Interbank Offered Rate (EURIBOR)," the commission writes.

In simple English, that's an assertion that Barclay's employees on at least three continents spent years lying in order to fix benchmark interest rates that help determine the value of about $10 trillion of global debt and $350 trillion in derivatives, mostly swap contracts. For instance "Barclays based its LIBOR submissions for US Dollar... on the requests of Barclay's swaps traders, including former Barclays swaps traders, who were attempting to affect the official published LIBOR, in order to benefit Barclays' derivatives trading positions."

The daily LIBOR fixing by the BBA is based on self-reporting from major financial institutions on the cost of short-term unsecured borrowing. Though it's based on the honor system (a regulatory failure if ever there was one) that daily fixing is used as a benchmark that effects the prices of swaps and debt instruments in dollars, pounds, yen, and euros. So if you can fiddle the LIBOR number, you can manipulate markets to your advantage.

Barclays employees were lying to help the bank's derivative traders control prices, and thereby steal from the investors on the other side of their trades. And they weren't alone. The US government says a group of Barclays traders focused on the euro swaps market "coordinated with, and aided and abetted traders at certain other banks to influence the Euribor submissions of multiple banks, including Barclays, in order to affect [published EURIBOR rates] and thereby benefit their respective derivatives trading positions." These other banks haven't been named.

Regulators have released redacted messages between Barclays traders and the employees who reported LIBOR rates. One New York trader in May 2006 wrote, "We have another big fixing tomorrow and with the market move I was hoping we could set the 1M and 3M LIBORS as high as possible." (The fixing is when the daily LIBOR rates are calculated; "1M" means "one-month," referring to the rate for interbank loans of that duration.) A submitter in London in April 2006 responds to a trader's request to manipulate one-month and three-month LIBORS with a "done for you big boy."

In other cases, Barclays management told employees to lie in their LIBOR submissions to make it look like other banks viewed Barclays as particularly credit worthy. 

Whose fault?

Who knew what and when? The British press has reported that Diamond knew of some of the lies. Mr. Agius said on a conference call today that ousted COO Jerry del Missie was involved in directing the deception. Barclays has said that most of the traders and middle managers accused of wrongdoing have since left the firm. But the extent of managerial involvement in the scheme is unclear. In fact, it seems that upper management at Barclays took a studied disinterest in knowing too much about how the bank reported LIBOR.

In a footnote on page 9 of the CFTC report on Barclays, a US regulator muses on the "common and pervasive" practice of Barclays in London tailoring its reporting of interest rates for LIBOR to the trading needs of Barclays' swaps desk in New York.

"Appropriate daily supervision of the desk by the supervisors, as well as periodic review of the communications, should have discovered the conduct. However, Barclays lacked specific internal controls and procedures that would have enabled Barclays' management or compliance to discover this conduct." How pervasive? Regulators have turned up emails from traders demanding lies on the LIBOR reporting so they could profit, though they've elected to withhold their names. 

Why would they not have controls or procedures for something so obviously open to abuse, and so important to both the trust in the institution and in the financial markets more generally? Those are good questions to which no good answers have yet been provided.

Mr. Diamond, in a letter to employees a few days ago that amounted to his swan song, maintained that the systematic rigging of a key world interest rate over a period of years was unfairly reflecting on the whole bank. "More than anything, though, I am angry because the impression has been given that the behaviour revealed in the documents last week is indicative of the culture at Barclays generally," wrote Diamond. "I love Barclays, and I am proud of all of you. We all know that these events are not representative of our culture, and it is my responsibility to get to the bottom of that and resolve it. Make no mistake the actions taken in this incident were against all of the principles we live by."

None of this is Diamond's responsibility any longer. Where exactly the buck is going to stop on this one is unclear, with indications starting to emerge that senior politicians, and not just bankers, were aware of the LIBOR manipulation.