LIBOR Rigging

LIBOR (the London inter-bank offered rate) scandal that involves Barclays, a 300-year-old British bank, is beginning to assume global significance. Over the past weeks damning evidence has emerged, in documents detailing a settlement between Barclays and regulators in America and Britain that employees at the bank and at several other unnamed banks tried to rig the number time and again over a period of at least five years. And worse is likely to emerge. Investigations by regulators in several countries, including Canada, America, Japan, the EU, Switzerland and Britain, are looking into allegations that LIBOR and similar rates were rigged by large numbers of banks.

The LIBOR that the traders were toying with determines the prices that people and corporations around the world pay for loans or receive for their savings. It is used as a benchmark to set payments on about $800 trillion-worth of financial instruments, ranging from complex interest-rate derivatives to simple mortgages. The number determines the global flow of billions of dollars each year. Yet it turns out to have been flawed.

On July 3rd, Barclays PLC Chief Executive Robert Diamond caved in to intense pressure to quit after the U.K. bank became embroiled in a bitter political row over its role in the Libor rate-rigging scandal. Robert Diamond resigned amid a deepening dispute about whether the Bank of England pushed the lender to submit artificially low Libor rates during the financial crisis.

Like many of the City’s ways, LIBOR is something of an anachronism, a throwback to a time when many bankers within the Square Mile knew one another and when trust was more important than contract. For LIBOR, a borrowing rate is set daily by a panel of banks for ten currencies and for 15 maturities. The most important of these, three-month dollar LIBOR, is supposed to indicate what a bank would pay to borrow dollars for three months from other banks at 11am on the day it is set. The dollar rate is fixed each day by taking estimates from a panel, currently comprising 18 banks, of what they think they would have to pay to borrow if they needed money. The top four and bottom four estimates are then discarded, and LIBOR is the average of those left. The submissions of all the participants are published, along with each day’s LIBOR fix.

In theory, LIBOR is supposed to be a pretty honest number because it is assumed, for a start, that banks play by the rules and give truthful estimates. The market is also sufficiently small that most banks are presumed to know what the others are doing. In reality, the system is rotten.

First, it is based on banks’ estimates, rather than the actual prices at which banks have lent to or borrowed from one another.

A second problem is that those involved in setting the rates have often had every incentive to lie, since their banks stood to profit or lose money depending on the level at which LIBOR was set each day. Worse still, transparency in the mechanism of setting rates may well have exacerbated the tendency to lie, rather than suppressed it. Banks that were weak would not have wanted to signal that fact widely in markets by submitting honest estimates of the high price they would have to pay to borrow, if they could borrow at all. Read full article “LIBOR Rigging” at smartinmoney.com

Rising European Debts

The debts of the European Union (E.U.) countries have been rising to dangerously high in the past decade causing the current Europe's debt crisis. Greece and Italy have had high levels of debt since 2000, according to Smartinmoney.com. Now more than a half of the E.U. countries carry debts exceed the European Commission limit, which is 60 percent of gross domestic product (GDP).

Greece’s debt problems are not new. The country had high debt as percentage of GDP, even as it prepared to join the euro zone in 2000. Italy and Belgium have long wrestled too with large debt loads. The debt-to-GDP ratios of Greece and Italy have been dangerously high, which are 109% and 103% respectively, since 2000.

Greece In Default

~ Smartmoney.com ~ Ratings agency Standard & Poor's (S&P's) cut Greece's long-term credit rating on Monday to selective default from already junk-level CC category. It is a result of debt write-off deal with private creditors that is part of a second EU bailout of the country.

The rating firm says their move was triggered by the terms Greece put in the tentative deal agreed last Tuesday, which amounts to a 53.5 percent write-down. Following the February 21 debt deal, Greece amends its sovereign bond documentation with collective action clauses (CACs). Greece has been seeking to avoid an outright default on its massive debt by negotiating a "voluntary" debt exchange with creditors.

A CAC binds all bondholders of a certain series to amended payment terms in the event that a certain quorum of creditors has agreed to the terms, S&P explained. If a large majority of creditors accept the new terms then all the creditors need to agree, which would have consequences for bondholders.