Systemic Operational Risk - The Libor Manipulation Scandal

Abstract

The manipulation of LIBOR rates was not a localized event. Unscrupulous traders and managers in some of the largest banks around the world deliberately and systematically manipulated borrowing rates. It was not the work of isolated 'rogue traders' but part of business-as-usual in the international money markets. This paper describes the LIBOR Scandal and argues that it is an example of Systemic Operational Risk, in particular People Risk. The paper first describes the LIBOR setting process. The explosive growth over the past 25 years in the use of Interest Rate Swaps (IRS) and the process of resetting rates on IRS, which ultimately led to the unethical manipulation of the underlying LIBOR rates, is then described. The paper then looks at official inquiries into manipulation of LIBOR at three banks: Barclays, UBS and RBS to identify examples of Operational Risk. The transcripts of conversations unearthed by these investigations show rampant illicit activities that were apparently a normal part of doing business, as traders, LIBOR submitters and brokers colluded to manipulate LIBOR for their own interests. Finally, the paper makes some suggestions as to how the management of Systemic Operational Risks may be addressed by banks and regulators.

Keywords: LIBOR, Operational Risk, Basel II, Systemic Risk, People Risk

JEL Classification: G21, G28