Steven C. Kyle, an expert in macroeconomic policy and an associate professor of management at Cornell’s Dyson School of Applied Economics and Management, comments on the burgeoning scandal involving LIBOR and the New York Federal Reserve.
He says:
“LIBOR — the London Interbank Offered Rate — is perhaps the most important single interest rate in the world. Though little known to most Americans, it acts as a sort of international prime rate, with trillions of dollars of financial assets having their own adjustable rates reset according to the latest level of LIBOR.
“The current scandal is dismaying in its dimensions. It was previously unimaginable that banks would collude to rig the rate reported, but it now seems clear that they did. The method of calculation of LIBOR — it is computed as an average of the rates reported by 16 of the world's largest banks with the four highest and four lowest reported rates discarded — virtually requires that for a rate rigging scheme to work it would have to involve most or all of the banks used as a reference.
“This means that the largest banks in the world have been colluding among themselves to rig world interest rates at levels more favorable to themselves. This is entirely consistent with other scandals that have surfaced over the past five years in which bankers have sought to rig or game the system to their own advantage — the mortgage industry, credit default swaps and others come to mind — but is a new dimension in that LIBOR sits at the very foundation of a huge portion of the global financial system.
“Worse still, there are indications that regulators both in the United States and the United Kingdom knew about it! If these allegations turn out to be true, it gives reason to doubt that regulators truly understand what their job is intended to be and that they are able to actually perform it."
“To rig the market in this way is fraudulent. Criminal prosecutions are the appropriate response, and while they may well spook the markets, such behavior cannot be countenanced. If regulators did indeed know and fail to respond, then they have been negligent at best and should be replaced. Indeed, our entire regulatory apparatus merits review and reform if even a portion of what is currently alleged turns out to be true.”
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