[Note: This item comes from friend David Rosenthal. DLH]
Taibbi: Is LIBOR, Benchmark for Trillions of Dollars in Transactions, a Lie?
While nuke kooks rage, British regulators reveal rip in financial space-time continuum and $350 trillion headache
By Matt Taibbi
Aug 11 2017
It was easy to miss, with the impending end of civilization burning up the headlines, but a beyond-belief financial story recently crept into public view.
A Bloomberg headline on the story was a notable achievement in the history of understatement. It read:
LIBOR’S UNCERTAIN FUTURE TRIGGERS $350 TRILLION SUCCESSION HEADACHE
The casual news reader will see the term “LIBOR” and assume this is just a postgame wrapup to the LIBOR scandal of a few years back, in which may of the world’s biggest banks were caught manipulating interest rates.
It isn’t. This is a new story, featuring twin bombshells from a leading British regulator – one about our past, the other our future. To wit:
• Going back twenty years or more, the framework for hundreds of trillions of dollars worth of financial transactions has been fictional.
• We are zooming toward a legal and economic clusterfuck of galactic proportions – the “uncertain future” Bloomberg humorously referenced.
LIBOR stands for the London Interbank Offered Rate. It measures the rate at which banks lend to each other. If you have any kind of consumer loan, it’s a fair bet that it’s based on LIBOR.
A 2009 study by the Cleveland Fed found that 60 percent of all mortgages in the U.S. were based on LIBOR. Buried somewhere in your home, you probably have a piece of paper that outlines the terms of your credit card, student loan, or auto loan, and if you peek in the fine print, you have a good chance of seeing that the rate you pay every month is based on LIBOR.
Years ago, we found out that the world’s biggest banks were manipulating LIBOR. That sucked.
Now, the news is worse: LIBOR is made up.
Actually it’s worse even than that. LIBOR is probably both manipulated and made up. The basis for a substantial portion of the world’s borrowing is a bent fairy tale.
The admission comes by way of Andrew Bailey, head of Britain’s Financial Conduct Authority. He said recently (emphasis mine):
“The absence of active underlying markets raises a serious question about the sustainability of the LIBOR benchmarks. If an active market does not exist, how can even the best run benchmark measure it?”
As a few Wall Street analysts have quietly noted in the weeks since those comments, an “absence of underlying markets” is a fancy way of saying that LIBOR has not been based on real trading activity, which is a fancy way of saying that LIBOR is bullshit.
LIBOR is generally understood as a measure of market confidence. If LIBOR rates are high, it means bankers are nervous about the future and charging a lot to lend. If rates are low, worries are fewer and borrowing is cheaper.
It therefore makes sense in theory to use LIBOR as a benchmark for borrowing rates on car loans or mortgages or even credit cards. But that’s only true if LIBOR is actually measuring something.
Here’s how it’s supposed to work. Every morning at 11 a.m. London time, twenty of the world’s biggest banks tell a committee in London how much they estimate they’d have to pay to borrow cash unsecured from other banks.
The committee takes all 20 submissions, throws out the highest and lowest four numbers, and then averages out the remaining 12 to create LIBOR rates.
Theoretically, a fine system. Measuring how scared banks are to lend to each other should be a good way to gauge market stability. Except for one thing: banks haven’t been lending to each other for decades.
Up through the Eighties and early Nineties, as global banks grew bigger and had greater demand for dollars, trading between banks was heavy. That robust interbank lending market was why LIBOR became such a popular benchmark in the first place.