THE LIBOR RATE: SHOULD THE GLASS-STEAGL ACT BE REVIVED?

UPDATED April 28, 2015
UPDATED July 8, 2013
UPDATE: Timothy Geitner, US Treasury Secretary, knew of Libor corruption in 2008, but used the rigged Libor rate to back up bail out funds. See this:
http://www.huffingtonpost.com/2012/07/26/timothy-geithner-libor-in_n_1707012.html
I guess the fox is looking after the chicken coop.

For those of you that think corruption is the purview of low income countries, consider the Libor scandal of last year and ongoing. According to Bloomberg.co,  the survey system Libor was established 26 years ago to determine banks’ daily estimates of how much it would cost them to borrow from one another for different time frames and in different currencies. Banks self-reported  their interest rates. Libor was not regulated or monitored by an outside, independent agency.

Recall that the current Western-based business model allows the high-street bank to speculate using clients’ monies. 

The  US Banking (also known as Glass-Steagall) Act of 1933 made speculation and investment banking illegal and introduced government-backed insurance for bank deposits.   The Act is often referred to as part of the New Deal, to restore credibility and fairness in the banking industry.

It was repealed in 1999 under President Clinton, under the principle of free trade. In fact, the repeal led to an orgy of gambling with savings and checking accounts of ordinary people, which some analysts say is a cause of the 2008 economic crisis.

Investment banking led to interbank borrowing to maintain investments in money markets. 

The financial crisis of 2008 made inter bank borrowing more difficult. There was less liquid cash. This in turn led investment bankers to lie to each other through Libor, about their interest rates – fixing them at virtually identical lower rates.   

This gave the impression that more liquid cash was available  to banks in the short term,  and that interbank loans were secure even though actual borrowing costs were higher. Individual bankers themselves stood to gain personally from bonuses and their own investments.

On Sept. 13, 2006, a senior Barclays trader in New York e- mailed the person who submitted a falsely low rate, “Hi Guys, We got a big position in 3m libor for the next 3 days. Can we please keep the lib or fixing at 5.39 for the next few days. It would really help.”

At least a dozen firms are being probed by regulators worldwide for colluding to rig the Libor rate. Barclays bank in the UK is being investigated for this fraud, by the UK Parliament. Anyone who purchased derivatives based on an artificially lowered Libor rate, has lost money.  Barclay's president Bob Diamond has stepped down in disgrace.  Barclays was fined a record $451 million. A friend of mine's  Barclays “relationship manager” said he was under orders not to comment, and referred to an incomprehensible statement by Diamond.

Since 1997, Diamond had built up Barclays Capital - the banks' investment wing – producing $4.7bn profits in 2011. 

An editorial in the Financial Times stated: 'For all the diversification benefits, the cultural tensions between investment and retail banking can only be resolved by totally separating the two, of formal Glass-Steagall-style lines.'

LIBOR FIXING PROMPTED BY FEARS OF NATIONALIZED BANKING

The revival of the Glass-Steagl Act is not the only threat to ‘free market’ banking. The biggest fear, according to Diamond himself, is that the government might nationalize Barclays as a response to the global economic crisis.

"If Whitehall was told 'Barclays is at the highest of Libor', they might say to themselves, 'My goodness, they can't fund, we need to nationalize them,' as they had nationalized other British banks," said Mr. Diamond. "We were desperate. We had £6.7 billion of equity being raised. If rumors got on the market that we couldn't fund, then maybe we wouldn't have been able to complete the equity raising."

According to James Cox, an expert on securities law at Duke University Law School: "The other shoes have finally dropped in the LIBOR investigation. Seven other shoes, in fact. Attorneys general in New York and Connecticut have subpoenaed seven of the world's biggest banks, including Citigroup and JPMorgan Chase here in the U.S. In broad strokes, the allegations are similar to the ones Barclays settled last month: that the banks abused their power when self-reporting the LIBOR interest rate -- the rate banks use when lending to each other."

Bloomberg.com suggests that US banks will be let off the hook, see:

http://www.bloomberg.com/news/2013-06-27/where-are-the-libor-cases-against-u-s-banks-.html

The Volcker  Rule of 2013 attempts to restrict some kinds of speculative investment by US banks, i.e. curb big risky bets. 

Sources:

http://www.marketplace.org/topics/business/libor-scandal-reaches-major-us-banks

http://online.wsj.com/article/SB10001424052702304141204577506602345146644.html

Read more: http://www.dailymail.co.uk/news/article-2168716/Libor-scandal-live-Bob-Diamond-physically-sick-evidence-Barclays-staff-fixing-rates.html#ixzz1zfWg9PXD