Friday, February 3, 2012

Have Financial Markets Colluded once Again against Consumers?

Advocates of protection of financial consumers might be interested in recent news about the Swiss probe of LIBOR rates. Today the Swiss Competition Commission, COMCO, announced that it has opened an investigation against 12 international banks asking about possible manipulation of LIBOR rates.

The London interbank offered rate (or LIBOR) has been used for decades as a reference rate for short-term bank loans to businesses. With the growth of consumer finance, particularly over the last twenty years, LIBOR has also become the most commonly used base rate for the calculation of variable rate residential mortgages, particularly in the U.S.

Originally LIBOR was calculated by asking (at 11 am London time each day) a group of about eight major banks what they would charge to lend to each other. The highest and the lowest rates were thrown out and an average was calculated using the remaining six banks.

In the early 1980s, traders also started using LIBOR to calculate interest rate swaps and other “derivatives” of financial instruments. In 1984, the British Bankers Association (to its credit) stepped in and developed a more formal system for calculating LIBOR rates. Since then the market for financial derivatives has exploded into $615 trillion, according to the Bank for International Settlements. Gazillions in laypersons' terms.

In its official statement, COMCO said that, “Collusion between derivative traders might have influenced” Libor and its Tokyo-based equivalent, Tibor, “coordinating their behavior, thereby influencing these reference rates in their favor.”

COMCO further noted that, “Market conditions regarding derivative products based on these reference rates might have been manipulated too… Derivative traders might have colluded to manipulate the difference between the ask price and the bid price of derivatives based on these reference rates to the detriment of their clients.” In total, 12 banks have been named including UBS and Credit Suisse

This is serious stuff.

It is also potentially very important for anyone who has borrowed – or plans to borrow – a residential mortgage at adjustable interest rates. Collusion among market traders could result in borrowing rates that are higher than the market would otherwise determine – and this hurts anyone who is planning to sell their house or struggling to pay off a home loan.

Safe and Fair Blog argues that financial markets should safe, fair and competitive. Collusion among traders in the marketplace undermines competition. It just ain't fair.

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