Thursday 5 July 2012

LIBOR and the bailout

In my previous post I asked some obvious questions about the LIBOR scandal, which are beginning to be picked up on. From going through the news archives for October 2008, I've now got some answers. So, here's a narrative :-

In September 2008, things had got quite bad already, with banks being unwilling to lend to each other - which is to say LIBOR was too high. We now know that this figure was an underestimate, disguising the magnitude of unhealthiness.

The UK government announced a massive rescue plan on Wednesday October 8, 2008, including central banking interest rate cuts from the Bank of England, the ECB and the Fed. The main aim of this co-ordinated measure was to reduce LIBOR.

It did not immediately work. By the end of the week it instead went up. Of course, they had been lying about it before, and they were lying about it now. Maybe the true rate had decreased, it's just that they had to lie less about it.

It not having lowered spooked the central banks, so the next Monday they (this time the BoE, the ECB and the Swiss National Bank), announced unlimited emergency loans. The same day the government agreed to pump capital into RBS, Lloyds and HBOS. This second intervention did have the effect of making the rates drop. Meanwhile, Barclays was able to decline government money and get new money from Qatar. This was seen as the end of the immediate crisis.

We of course know now that this key element - LIBOR - that policymakers were so worried about, and was sold to us as the justification for these massive bailouts, was rotten to the core because the bankers had been lying to each other and to us. Make no mistake: this was not using a back-channel to manipulate arbitrage to get slightly better margins in risky deals. This was the deliberate manipulation of state policy by massive lying, for financial gain.

We're never going to know what would have happened otherwise. Two things are certain: The problems in the financial industry would have been fully revealed, and therefore central banks' actions would have been different. Would the central banks have made Wednesday's offer bigger? Would they have gone straight to Monday's offer? Would they have just said "actually, no, you're not too big to fail", and made good on those deposit guarantees? Would Barclays' new investors have done so if Barclays had not been lying about LIBOR?

A banking sector that had completely failed and was mostly in state hands would have been a very different thing to what we got. Perhaps the idea of publicly-traded retail banks would be utterly discredited and we'd be talking of mutualising the entire sector by now? They just narrowly avoided an utter rout, and this is how - by scamming us.

7 comments:

  1. But "not losing confidence in the banking system" was part of the policy (both govt and BoE) objective as well!

    This is the core issue of the BoE phone call relating to "do your LIBOR submissions so high?", which is a pitch-perfect bit of instruction by innuendo to get Barclays to lower their submissions to avoid panic.

    After all, if reducing LIBOR is your aim, a quick ring round to get everyone to put their thumb very slightly on the scale achieves the policy goal, does it not?

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    1. In that case, why did we even need to bother with sending them enormous piles of money, in the process wrecking the economy? We could have just cooked the books.

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    2. Note that the money has either been loaned (usually against collateral), or in the case of the nationalised banks, exchanged for ownership in the bank (which admittedly may cost in the long run, but if you're looking at nationalisation then that's the cheapest way of doing it). Loaning money to the banks from the BoE emergency liquidity process does not even appear on the Treasury balance sheet, I believe.

      It's one of those things where, if faced with an overheating nuclear reactor, it's important to scram it first and have the planning inquiry later.

      To a great extent the banks are the victims of the property bubble bursting, just like the rest of the wider economy. Whether the government should have done anything about this (given that a majority of voters might well have opposed it!) is an open question.

      http://ftalphaville.ft.com/blog/2012/07/05/1071671/pariah-profits-in-an-age-of-negative-carry/ is an interesting heretical article of the day which suggests that banking simply may not work any more (although it totally fails to mention inflation; running slightly higher positive inflation seems as if it would solve that issue).

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    3. Considering it was the banks who were fronting the money for the property bubble, I can't have much sympathy with them.

      There were certainly votes to be lost by acting against the housing housing bubble, and unfortunately those were exactly the same votes which decide an election. I doubt they'd have actually voted to stuff the rest of us in a referendum, but they're not too capable of indirection.

      That's an interesting article. I don't know whether it's right or not, but we pretty clearly need new thinking if we're going to find out what's going on. I half-think we now have a high enough tech level and installed capital base that we ought to be in a post-scarcity economy already.

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    4. I don't understand the economics, but I think I'm safe in saying that even if we ought to be in a post-scarcity economy now (which I'm unconvinced about), we really won't be when fossil fuels start to run out[1]. Unless the word "scarcity" is being used in a specialist way and means something different.

      [1] Or start to be left in the ground, which would be a much better solution that I don't have much hope of being adopted.

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    5. Although there's only a finite amount of it, the marginal cost of extracting Arabian oil is practically zero. Combined with the massive automation in factories, farming, transport, etc, from the point of view of 1912, we have ridiculous amounts of material goods. The only remaining thing that is scarce is housing, and that's only really a problem of ownership of them, rather than a lack of houses per se (see my next post). Anyhow, that's why we have transitioned to a service economy, of course, but I think there's something to be said there about the inherent fragility of a service-based economy where a large number of people are involved in the production or distribution of luxury goods. And that's only going to get worse and worse with time and automation.

      We certainly are going to fuck the planet, I have no doubt of that now. But I think our energy use can be transitioned before we've actually burned everything. I see the amount of wind power installed in the UK has increased massively over the last few years, which I find very encouraging. What do you think the limiting factor in that now is? Engineering and construction capacity? Planning permission? Capital coming in?

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    6. A quick nerd outbreak here but according to the hitchhikers guide to the galaxy series the planet was originally populated by the low end of the service industry :D
      "I don't understand the economics" - no one does but they won't admit it.
      If you want an historical account of the 2008 crash try "The Great Crash 1929: The classic account of financial disaster by John Kenneth Galbraith" as there are a lot of similarities. It also fries your brain with the fallacious theory behind the ludicrous investment ideas. Galbraith said the only defence against another crash was remembering the last one but it seems the financial markets are suffering from a shrinking attention span these days.

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