The US government has long known that one way out of an economic downturn is to mine the “grey areas” of the law to reap rewards. Practices that have traditionally been loosely interpreted suddenly are strictly interpreted, and fines imposed.
That was the basis for voluntary disclosure in taxing (mostly overseas) residents. The message went out: dot every i, cross every t, or we’ll fine you. On a corporate level, the US showed its hand when it tightened its interpretation of the pharmaceutical industry’s practice of off-label marketing of drugs in late 2011, which resulted in a $3 billion settlement payout on July 2 by GlaxoSmithKline. And now we’ve got Liborgate, which will not only prove to be a cash cow for governments, but class-action lawyers and every Tom, Dick or Harry who has invested in a debt product or lost money in a general downturn and now wants to sue.
The news flash here isn’t the US government — it’s that the UK and, it seems now, Germany, have clocked onto this scheme. As our readers know, the UK has fined Barclays a record £290 million for attempting to manipulate Libor. This is a cross-border regulatory cooperative operation between the Financial Services Authority in the UK and the Commodity Futures Trading Commission and the US Department of Justice. The joint findings of their investigation into Barclays suggest that as many as 20 other financial institutions are under investigation too. On Friday, Deutsche Bank was roped into the fray when the German financial regulator, Bafin, was revealed to be investigating it.
British politicians will not be sad to see the back of Barclays CEO Bob Diamond. To some, he is the epitome of the 1980s-era Gordon Gecko-style banker — a master-of-the-universe who didn’t exactly discourage a culture of smashing champagne bottles to celebrate big-bonus-achieving successes. And he did not win any friends in parliament when it was revealed in February that Barclays had short-changed the Treasury by £500 million through “aggressive tax avoidance” schemes.
Barclays had hoped that the resignation of its chairman, Marcus Agius, would placate the powers that be, but reports in the British press during the weekend suggest that Mervyn King, governor of the Bank of England, personally intervened to push for the American chief executive’s resignation.
Diamond is reportedly shocked at the way he has been treated, and there is an impression that Barclays has been singled out despite apparently cooperating with the investigation, but the other banks may yet face stiff penalties too.
“The action against Barclays should leave firms in no doubt about the serious consequences of this type of failure,” said Tracey McDermott, the FSA’s acting head of enforcement. However, other banks probably won’t lose their top executives — even politicians are reluctant to risk a wholesale change of upper management across Britain’s banking industry. They won’t press to have everyone fired; just the guy they didn’t like in the first place. And then they’ll fine away, happily collecting more cash.
Some say this won’t encourage banks to step forward to admit wrongdoing in the future, hastening a backward slide to an era of shredding every paper in the office and banning emails. Time will tell on that account.
Time will also tell on whether Barclays’ strategy of coming forward first was the right one. The offences Barclays has admitted to in the UK are essentially that traders helped each other out by manipulating the rates they reported to the British Bankers Association from about 2005; and that Barclays massaged its submissions lower during the banking crisis in 2008 to protect the bank’s public image and prevent the government from stepping in to “rescue” it.
The incentive to do so was huge. Each bank stood to benefit millions for every basis point reduction in the borrowing rate, yet Diamond claimed during his appearance at parliament last week that he had been unaware of any manipulation until this month.
The government could, of course, establish real rules as to how to set this rate — or do it themselves — and get into arguments with banks as to whether or not that’s fair. Instead, it has attacked a practice that it had to know was going on, safe in the knowledge that establishing the government’s implied culpability would be difficult to prove. Furthermore, officials knew that the way Libor has been set would look utterly reprehensible to the average man on the street.
Indeed, what the banks were doing was certainly reprehensible, as Diamond himself stressed time and again during his three-hour grilling. On another level, investors should long have understood that Libor is, at best, a loose guideline created by the self-interested. It is a grey area.
And politicians have plenty of incentive to target such grey areas — blaming bankers for all our economic woes is an easy sell, and also helps distract attention from politicians’ own role in managing the economy and creating the regulatory framework.
That is, until politicians recognise it hurts them too. Well before that happens, though, the average Joe, whom this is supposed to protect, will be hurt most of all: a higher Libor rate will make the prime rate go up; strict interpretations of drug-use rules will ensure fewer options are available. And more stringent taxation will ensure more people decide not to try to earn more (and give it all to a government). This isn’t a blueprint for success.