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The LIBOR Scandal



LIBOR has an influence on interest rates around the world; but recently there have been some questions raised about the rigging of interest rates. Barclays already had to pay over $45 million in fines and it looks like there may be many more fines, and possibly lawsuits to come. Many say that regulators should impose more fines on some of the other 16 banks that are members of the British Bankers Association in hopes that there will never be a repeat.

LIBOR is the London Interbank Offered Rate which is the rate which these 16 banks charge one another for short term deposits and loans. This rate becomes a benchmark for interest rates set worldwide. It influences literally hundreds of trillions of dollars. LIBOR has an influence on various financial contracts corporate loans such as those managed by companies such as Effi Enterprises, interest rate swaps and floating rate mortgages.

Presently, there is much talk about criminal charges and possible jail terms for those involved. Asia, Europe, Canada and the US are investigating what looks like a huge picture of deceit and avarice. Banks must submit their data to be used in calculating the LIBOR; but in order to hide their own institution’s financial problems, or to boost profits for traders, they have submitted falsified data. Remember, that the LIBOR influences interest rates around the world so the repercussions of these devious acts are felt worldwide. Because it affects interest rates, investment firms like Effi Enterprises have been affected by the lowered benchmark.

Lawsuits are pending but as they are pursued they can mean global financial disaster. Municipal governments and investment firms purchased bonds or have entered into financial contracts which were based on LIBOR. They are now asking for compensation from the banks since they intentionally manipulated the benchmark. If the suits take place as it is assumed they will we are talking about potentially tens of billions of dollars that will have to be paid out.

Just so we understand how large of an impact this could have let’s say that LIBOR was only 0.1 percent off for one year. In that time the incongruity on the $300 trillion of swaps could easily mean that the rates were off by up to about $300 billion. This is just one type of contract; it doesn’t even take into account all the other types of contracts or any punitive damages that might be sought. It’s big enough the entire banking system could be crippled.

One suggested option would be for the banks to set up a compensation fund for the victims of LIBOR so that all the banks could pool resources to pay out. An administrator would need to be independent but he could generate a transparent formula which could estimate and calculate the damages that have been done. If the banks at least attempt to right the wrong clients might be more willing to settle instead of pursuing litigation which would be much more costly.

Of course this would take much cooperation among these banks. They would need to decide how much LIBOR had been skewed because of the misreports. Then they would also have to decide how much of the financial liability each bank should be responsible for. Government involvement could help to expedite the process. There may be more regulations set by governments which could help improve the bank’s transparency. Had they maintained transparency this would have never happened in the first place. Perhaps this is a lesson for all of those who deal with financial institutions. Consumers and businesses can benefit from open and honest transparency.

The Dodd-Frank Wall Street Reform Act

Wall Street

Wall Street

There is no doubt that the world of finance needed an across the board overhaul from the small business to the entrepreneur all the way up to the largest of financial institutions. The Dodd-Frank Wall Street Reform Act was a broad piece of legislation which was created to help form and maintain financial stability. The intent was to create new organizations and rules on the federal level which will offer stricter oversight for most financial companies as well as the products that are sold by them. There are several key factors that are thought to be beneficial for the state of the financial world.

Safeguarding Consumers

The Wall Street Reform Act created the Consumer Financial Protection Bureau (CFPB) which is responsible for educating consumers by creating documents and financial curriculum and making them available to the general public. The CFPB operates under the Federal Reserve and is able to create and enforce applicable rules for various types of financial transactions that consumers may engage in. This includes things like credit cards, home or car loans, payday loans and bank accounts. The intent is to protect the public from various types of scams while assuring the consumer that they will still receive quality financial services which are available and priced in a fair manner in every community. The CFPB provides constant oversight of various organizations such as mortgage companies, debt collectors and credit unions.

The new educational documents help clear up definitions for consumers. The goal is to clearly define financial topics such as penalties, fees, risks and credit scores. This offers an extra layer of protection for consumers since it is less likely that one who is informed will fall victim to frauds and scams. Consumers will also likely experience some changes to their existing accounts. Many banks have stopped charging overdraft fees and not honor payments made which will overdraw the account. Guidelines for qualifying for loans are more stringent, but when you do qualify for a loan you will be able to afford it. This may put pressure on different types of financial institutions to be more creative in order to make a profit. This will mean some new services for their customers, for an additional fee of course.

Insurance, Securitized Investments and Derivatives

Some of the complex financial products are regulated more uniformly for various risks. Financial and safety organizations are held responsible for risks. This means there is additional reviews conducted by the government to ensure product safety but this should make insurance more available in communities which have been underserved. Since the passing of the Dodd Frank Act, derivatives are treated closer to securities which require full disclosure of any involved risks as well as exchange trading which is centralized. Mortgage-backed securities and other creators of various securitized investments are required to maintain what is termed an equity stake.

New Indicators for the Economy

The government guarantees no bailout and those acquisition industries and traditional mergers must have a growth strategy and are now required to have an exit strategy. This restricts the size as well as the complexity of financial institutions. There are several new evaluation measures in place which prevent financial upheaval in larger companies which of course, has a wide range of economic repercussions.

Economic Impact

This is simply a brief overview of the economic benefits that have been realized from the passing of the Dodd Frank Act. In one way it makes consumers be more hands-on with their own finances and for some this means that they now must hire a financial expert. The goal of this legislation was to provide protection for consumers by requiring higher standards of financial institutions. It puts much more information into the hands of consumers and makes financial institutions more accountable for their products and services.