Ever wonder why surveys about very personal topics (think sex and money) are done anonymously? Of course you don't, because it's obvious that people wouldn't tell the truth if they were identified on the record. That's a key point in understanding the latest scandal to hit the banking industry, which comes, as ever, with much hand-wringing, assorted apologies and a crazy-sounding acronym--this time, LIBOR. That's short for the London interbank offered rate, the interest rate that banks charge one another to borrow money. On June 27, Britain's Barclays bank admitted that it had deliberately understated that rate for years.
LIBOR is a measure of banks' trust in their solvency. And around the time of the financial crisis of 2008, Barclays' rate was rising. If a bank revealed publicly that it could borrow only at elevated rates, it would essentially be admitting that it--and perhaps the financial system as a whole--was vulnerable. So Barclays gamed the system to make the financial picture prettier than it was. The charade was possible because LIBOR is calculated not on the basis of documented lending transactions but on the banks' own estimates, which can be whatever bankers decree. This Kafkaesque system is overseen for bizarre historical reasons by an association of British bankers rather than any government body.
The LIBOR scandal has already claimed Barclays' brash American CEO, Bob Diamond, a man infamous for taking huge bonuses while his company's share price and profit were declining. Diamond resigned, but his head may not be the only one to roll. As many as 20 of the world's largest banks are being sued or investigated for manipulating over the course of many years the interest rate to which $350 trillion worth of derivatives contracts are pegged. Bank of England and former British-government officials accused of colluding with Barclays to stem a financial panic may also be caught up in the mess.
What's surprising is that individual consumers may actually have benefited, at least financially, from the collusion. Not only the central reference point for derivatives markets, LIBOR is also the rate to which all sorts of loans--variable mortgage rates, student loans, even car payments--may be pegged. To the extent that banks kept LIBOR artificially low, all those other loan rates were marked down too. Unlike the JPMorgan trading fiasco of a few weeks ago, which has resulted in a multibillion-dollar loss, the only apparent red ink so far in the LIBOR scandal is the $450 million in fines that Barclays will pay to the U.K. and U.S. governments for rigging rates (though pension funds and insurance companies on the short end of LIBOR-pegged financial transactions may have lost a lot of money).