LIBOR Fraud: Are Banks Still Too Big To Fail?

First, let’s cut to the chase as they say. Kevin Drum has the money quote on where the LIBOR rate-fixing scandal is headed: one of two paths.

Either this scandal will explode way beyond the financial press, where it’s mostly played out so far. Or it will turn out that declining to cooperate makes it really hard to prosecute the other banks and Barclays will look like idiots for [co-operating with regulators]. I’m not sure which to put my money on.

Now, some explanation. LIBOR is the London Interbank Operating Rate, the rate at which banks loan money to each other. It’s meant to be sacrosanct as a free market and firewalled from the bank’s trading arms dealing in stuff like toxic derivatives but it turns out it isn’t. This matters to you because the LIBOR rate is the effective base rate for $350 trillion worth of contracts worldwide, probably including your mortgage, loan, credit card and savings account. If the LIBOR rate was fixed, you got stiffed – and the LIBOR rate was being fixed like a cheap prize fighter.

There is a supposed to be a separation between the bankers who help set LIBOR and the traders who bet money in the market. But the emails show they routinely talked to each other.

In one, a trader says: Who’s going to put my low fixings in hehehe. He wrote the evil laugh right in the email.

In another, traders offer to buy people Bollinger, expensive champagne, or to bring them coffee in exchange for fixing the number.

One trader thanks another banker for the manipulation in an email and says, “I’ll put your name in a book in golden letters.” The other banker responds, “I would prefer not to be in any book!”

…Gary Gensler, the chair of the U.S. Commodity Futures Trading Commission, says the emails include contact with other banks. He hasn’t revealed which ones, but they have nicknames. “It’s safe to say its a least four other banks to benefit their profits,” he says.

The scandal is already exploding beyond the financial press, but whether this scandal creates a new banking crisis will depend on whether fraud is provable and prosecutable. Without court cases, there will still be a lot of noise and banks will still have to submit to far more regulation but it will eventually stop there. People need to bank and the bank shares that are in freefall today will recover in time, the miscreants will not only get away with it but keep collecting bonuses and the “culture of casual dishonesty” this scandal has exposed will continue until the next scandal comes along.

We know that the British Serious Fraud Office has opened an enquiry involving at least three British banks and that German regulators have opened a special investigation of Deutsche Bank, while Citigroup, JPMorgan Chase and HSBC were mentioned by the New York Times recently as being under investigation by U.S. authorities. British based but 80% Quatari owned Barclay’s Bank co-operating with investigators makes successful court cases far more likely – their email chain extends into these other banks, enabling enough just-cause to subpoena those other banks’ records too. Court cases will mean more revelations, top executive heads rolling and fines that should dwarf the $450 million Barclay’s has paid. Then the civil suits will roll in. The city of Baltimore and a pension fund in Connecticut are already the first to sue, claiming the LIBOR manipulation cost them millions.

There can be no bailout this time. Whereas toxic derivative debt could be written off to zeal and incompetence, there’s no doubt that LIBOR fixing was deliberately and maliciously venal. Even if populaces would stand for it in the midst of austerity budgets there’s no money for bailouts anyway. If this scandal explodes, as I think it now will, we’re going to find out if the big banks are too big to fail after all.

(On a more horse-racey note – there’s plenty of time before November for this scandal to expand to the point where backing big banks and advocating giving their ultra-rich executives and traders tax breaks could play very negatively indeed with the U.S. electorate. Just saying.)