Barclays and the LIBOR Scandal

LIBOR is an incredibly important benchmark reference rate, and it is relied on for many, many hundreds of thousands of contracts all over the world. And the market needs to have confidence that those who are involved in submitting numbers to set LIBOR are thinking about the integrity of the market, and confidence in the market, and not their own interests.

— Tracey McDermott, Director of Enforcement, U.K. FSA, June 27, 2012¹

The idea that one can base the future calculation of LIBOR on the idea that "my word is my LIBOR" is now dead.

— Sir Mervyn King, Governor, Bank of England, June 29, 2012²

"I don't feel personally culpable. What I do feel is a strong sense of responsibility."³ These were Bob Diamond's sentiments as he testified on July 4, 2012, before the Treasury Select Committee of the U.K. House of Commons, one day after he stepped down as CEO of Barclays pic (Barclays), one of the world's largest banks.

A few weeks earlier, Barclays had settled with U.K. and U.S. regulators and agreed to pay $450 million in fines. Central to the settlement was Barclays' acknowledgement that it had manipulated LIBOR (the London Inter-Bank Offered Rate) — a bomb mark reference rate that was fundamental to the operation of international financial markets and was the basis for trillions of dollars of financial transactions. It had done so on hundreds of occasions between 2005 and 2009 to gain profits and/or limit losses from derivative trades. In addition, between 2007 and 2009, the firm had made dishonestly low LIBOR submission rates to dampen market speculation and negative media comments about the firm's viability during the financial crisis. While Barclays was the first bank to settle with regulators, as many as 20 big banks were under investigation or named in lawsuits alleging misconduct related to LIBOR.⁴

Testifying, Diamond blamed a small number of employees for the derivative trading-related LIBOR rate violations and termed their actions as "reprehensible."⁵ As for rigging LIBOR rates to limit market and media speculation of Barclays' financial viability, Diamond denied any personal wrongdoing and argued that, if anything, Barclays was more honest in its LIBOR submissions than other banks — questioning how banks that were so troubled as to later be partly nationalized could appear to borrow at a lower rate than Barclays.

Diamond was a controversial figure within the London financial markets and among the British political class. On this day, he drew the ire of some members of the committee by addressing them by their first names rather than their full titles, as protocol suggested. Teresa Pearce, a Labour member of Parliament and a member of the committee, was put off. She said, "I was surprised that he continually addressed us by our first name, especially as I've only met him once before and that was in a formal setting.... So it seemed inappropriate and showed a lack of respect.... [I]t was annoying to most members of the committee."⁶

LIBOR

According to Minos Zombanakis, a former banker at Manufacturers Hanover, he made the very first LIBOR loan in 1969 — $80 million extended by a group of banks to Iran. "We had to fix a rate, so I called up all the banks and asked them to send to me by 11 a.m. their cost of money," he recalled. "We got the rates, I made an average of them all and I named it the London interbank offer rate."⁷ For more than 15 years, the rate was set more or less as Zombanakis described. He later commented that it was a sense of responsibility and trust among large banks that underpinned the rate's pervasive use throughout the financial system.

LIBOR^a was intended to represent the cost of unsecured funding in the open market for the largest financial firms. Whereas central banks (i.e., the Bank of England, the U.S. Federal Reserve, and the European Central Bank) would periodically fix official lending (or base) rates, LIBOR was designed to reflect the rates at which large banks borrowed money from one another each day; these rates were the foundation for what they would then charge their customers.⁸ Mortgages, credit cards, student loans, and other consumer and commercial lending products often used LIBOR as a reference rate.⁹ In addition, vast numbers of derivative instruments that traded in the over-the-counter (OTC) market and on exchanges worldwide were settled based on LIBOR.¹⁰ Loans amounting to $10 trillion, including half the adjustable rate mortgages in the U.S., and interest rate swaps with a notional value of approximately $350 trillion were indexed to LIBOR.¹¹ On the Chicago Mercantile Exchange (CME), over $564 trillion of futures contracts tied to the value of LIBOR traded in 2011.¹²

In 1986, the British Bankers Association (BBA) took over the process of managing, defining, and setting LIBOR, as the club of "gentlemen bankers" making syndicated loans in the City of London had evolved into a global, multitrillion-dollar market.¹³ The BBA was a trade association with over 200 member banks that addressed issues involving the U.K.'s banking and financial services industries (see Exhibit 1 for details about BBA). The BBA published the first official LIBOR rates in three currencies: U.S. dollar, Japanese yen, and British pound. By 2012, LIBOR was produced for 10 currencies, with 15 maturities quoted for each —ranging from overnight to 12 months —thus producing 150 rates each business day.¹⁴

Setting the Rate

The BBA defined LIBOR as the hypothetical rate at which a bank could borrow from another bank in a specific maturity for an indeterminate amount. Its specific definition of LIBOR was:

The rate at which an individual Contributor Panel bank could borrow funds, were it to do

so by asking for and then accepting inter-bank offers in reasonable market size, just prior to

11:00 [a.m.] London Lime.¹⁵

^a Pronounced "lie-bore.'

There were different panels of banks that contributed submissions for each currency for LIBOR. For the U.S. dollar LIBOR, there were 16 banks, including Barclays, that submitted rates. Each bank submitted its rates into an electronic spreadsheet each day between 11:00 a.m. and 11:10 a.m. London time, which was sent to Thomson Reuters (Thomson), the organization that managed the LIBOR rate­setting process for the BBA. Thomson then created a LIBOR rate for each maturity, using the "trimmed mean" structure dictated by the BBA. For the U.S. dollar LIBOR, the "trimmed mean" involved throwing out the four highest and four lowest rates that were submitted, and then averaging the remaining eight submissions¹⁶ (see Exhibit 2 for the rate-setting process). Thomson then distributed the calculated LIBOR rates (as well as all 16 submissions) by midday in London to a range of news and financial information services around the world.¹⁷

A similar process existed for EURIBOR (the Euro Inter-Bank Offered Rate), the rates for maturities from overnight to one year for borrowing in euros. Although the European Banking Federation, rather than the BBA, oversaw EURIBOR, its process was similar to the BBA's LIBOR process. Forty to 50 banks submitted rates, the top 15% and bottom 15% of the rates were eliminated, with the balance averaged to determine EURIBOR in a given maturity.¹⁸

Concerns about LIBOR

In September 2007, an article in the Financial Times titled "Libor's value called into question" noted the complaint of the treasurer of one of the largest U.K. banks that " [t]he Libor rates are a bit of a fiction. The number on the screen doesn't always match what we see now."¹⁹ In April 2008, the Wall Street Journal published an article called "Bankers cast doubt on Key Rate amid crisis."²⁰ Discussion of the potential for manipulating LIBOR was occurring not only in the media, but academics and international authorities were also looking at weakness in the LIBOR rate-setting process.²¹

From November 2007 through October 2008, at a Lime of diminished liquidity and great uncertainty in the market, Barclays' employees had raised concerns with the BBA, U.K. Financial Services Authority (FSA), Bank of England (BoE), and Federal Reserve Bank of New York (NY Fed) that the rates submitted by panel banks for the U.S. dollar LIBOR were too low and did not accurately reflect their true cost of borrowing. In some of those communications, these employees said that all panel banks, including Barclays, were contributing rates that were too low.²²

In May 2008, the NY Fed issued a report that raised questions about the LIBOR rate-setting process. Because panel banks quoted the rate at which they "could borrow funds" (rather than rates actually incurred), the NY Fed concluded the process could lead to some deliberate misreporting.²³ Furthermore, the NY Fed concluded that panel banks were asked to provide quotes that were subject to ambiguity along two dimensions — transaction size, which was not clearly specified; and maturities in which there was little or no interbank term activity.²⁴ NY Fed President Timothy Geithner had e- mailed BoE Governor Mervyn King on June 1, 2008, with recommendations on how to enhance the accuracy and credibility of LIBOR.²⁵ King sent the recommendations to the BBA for use in its review of the rate-setting process.

Later in June, the BBA published a consultation paper in response to concerns about LIBOR accuracy, setting out several issues for discussion that could lead to more improved accuracy. After reviewing comments from banks and others, the BBA decided to retain its existing process, although it reiterated that LIBOR submissions should be "the rate at which each bank submits must be formed from that bank's perception of its cost of funds in the interbank market."²⁶

Regulators

U.K. Financial Services Authority Prior to and through the financial crisis, the FSA was the primary regulator for banks and other financial service firms in the U.K., which numbered 29,000 in 2012. It was an independent body, accountable to the U.K. Treasury and, through it, to Parliament. The FSA had been given a wide range of rule-making, investigatory, and enforcement powers in order to meet the four statutory objectives granted to it as part of the Financial Services and Markets Act 2000 (see Table A below). Lord Adair Turner was appointed chairman of the FSA in 2008.

Table A FSA's Four Statutory Objectives

Maintaining confidence in the U.K. financial system

Contributing to the protection and enhancement of stability of the U.K. financial system

Securing the appropriate degree of protection for consumers

Reducing the extent to which it is possible for a regulated business to be used for a purpose connected with financial crime

Source:    Statutory Objectives, FSA,      http://www.fsa.gov.uk/pages/about/aims/statutory/index.shtml,      accessed December

4, 2012.

The financial crisis that began in 2007 revealed flaws in the FSA's regulation of the financial industry, and sweeping changes were mandated by Parliament. Most important among them: the Prudential Regulation Authority (PRA) would become part of the BoE, and the Financial Conduct Authority (FCA) would replace the FSA in 2013.²⁷

Bank of England²⁸ The BoE was the U.K/s central bank and had two basic mandates — providing monetary stability and financial stability. Regulatory oversight of banks was not among its responsibilities. In 2012, King was the BoE governor, and Paul Tucker was deputy governor in charge of financial stability, appointed in March 2009. Tucker was seen as the odds-on favorite to become BoE's next governor when King stepped down as scheduled in 2013.²⁹

Commodity Futures Trading Commission The CFTC, created by Congress in 1974, regulated the futures and option markets in the U.S. Its mission was to protect market users and the public from fraud, manipulation, abusive practices, and systemic risk related to instruments that were subject to the Commodity Exchange Act, and to foster open, competitive, and financially sound markets.³⁰ Gary Gensler, a former Goldman Sachs partner and U.S. Treasury official, was sworn in as CFTC chairman in May 2009.

Barclays

Barclays pic was one of the largest banks in the world and the sixth-largest in Europe based on total assets (see Exhibit 3 for the top banks and banking groups in Europe). It traced its origins back to 1690, and for most of the next 300 years, Barclays was primarily a retail and commercial bank. By 2011, it had become a "universal bank," engaged in retail, commercial lending, credit cards, investment banking, wealth management, and investment management services.

In 2011, Barclays had a total income of £32.3 billion (a 2.7% increase over 2010) with a net profit of £4.0 billion (a 13.1% decrease from 2010) (see Exhibit 4 for Barclays' income statement). Thirty-five percent of Barclay's total revenues came from its investment bank, known as "BarCap," and of BarCap's total income, 51 % came from trading. Prior to 2008, the investment banking business was focused on debt trading and underwriting. However, when Lehman Brothers filed for bankruptcy in September 2008, Barclays bought its U.S. business for $1.75 billion, giving BarCap substantial equities and mergers and acquisitions (M&A) capabihties to add to its leading fixed-income business.³¹ Retail banking (including business banking), which operated under the Barclays Bank name in the U.K., accounted for 16% of 2011 total income and 17.3% of 2011 total operating profit. Barclays' retail system was the top-ranked U.K.-based bank in terms of deposits,³² and according to one market analysis, its retail bank was the seventh most-valuable bank brand in the world prior to the LIBOR scandal (see Exhibit 5 for rankings based on brand value) ³³

Change at the Top

On January 1, 2011, American-born Robert Diamond took over as Barclays CEO. Diamond was the oldest of nine children and the son of two teachers. He was a lecturer in business at the University of Connecticut before turning to Wall Street. Attracted to bond trading, he joined Morgan Stanley and moved up the ranks during his 13 years with the firm. Four years followed at Credit Suisse First Boston, which he left to join Barclays in 1996, reportedly after a disagreement over his bonus, to become head of the investment bank's Global Markets division at a time when the investment bank was struggling to compete as a full-service investment bank. A year later, Diamond became head of BarCap, after Barclays disposed of its equities and M&A departments to concentrate on building its debt markets and foreign exchange businesses.³⁴

Under Diamond, BarCap grew in size, profitability, and stature (see Exhibit 6 for BarCap financials, 2008 to 2011). With the firm's takeover of the U.S. operations of Lehman Brothers, BarCap reentered the M&A and equities businesses, providing it with the capabihties to compete with other full-service firms like Goldman Sachs and JPMorgan Chase.³⁵ In 2009 and 2010, BarCap ranked No. 3 in bond manager league tables based on number of issues, and had market shares of 7.7% and 7.9%, respectively, based on total proceeds.³⁶ In M&A advising, BarCap worked on 82 deals in 2009 and 131 deals in 2010, ranking it No. 21 and No. 17, respectively, in league tables.³⁷

Because of some combination of Diamond's style, his compensation, and his national origin (he became a dual U.S./U.K. citizen), he was a lightning rod for criticism among U.K. politicians. Diamond, 59, had been one of Europe's best-paid bankers and as such became the focus of anger in Britain toward the industry's big pay awards. While he had not taken a bonus in 2008 and 2009, he had been paid £21 million in 2007.³⁸ For 2010, he was the highest-paid banker in London, with a compensation package of £10.1 million.³⁹

In early 2010, a senior government minister, Peter Mandelson, branded Diamond the "unacceptable face" of banking for his high compensation.⁴⁰ When Diamond's appointment as CEO was announced in September 2010, the reaction from some British lawmakers was less than favorable. The Financial Times reported:

This week, hackles rose among British politicians as one of the world's highest-paid investment bankers, Barclays' Bob Diamond, was named as the UK group's next chief executive. . . . "Mr. Diamond illustrates in a particularly graphic way what happens when you have an extremely high-paid head of an investment bank taking over one of these major

international banks," said a clearly peeved Vince Cable, business secretary in Britain's

Conservative-Liberal Democrat coalition government.⁴¹

Lord Oakeshott, the Liberal Democrat Treasury spokesman, described the appointment in less than glowing terms: "He's a great gambler but he has no experience of retail banking. Barclays should be demerged. We have pledged to tackle unacceptable bonuses and reduce risk and 'Bonus Bob' Diamond personifies both of those things."⁴² Oakeshott said Barclays was "sticking two fingers up" at the government.⁴³

In January 2011, shortly after taking over as CEO, Diamond appeared before a Parliamentary Committee and stirred up sentiment when he pushed back on the continued criticism of the banks with respect to their responsibility for the financial crisis, saying, "There was a period of remorse and apology for banks but I think that period needs to be over."⁴⁴

Following Diamond's ouster in 2012, former Barclays CEO Martin Taylor wrote in the Financial Times that under Diamond's leadership of BarCap, traders had manipulated and violated internal guidelines that led to huge trading losses in 1998. "BarCap turned out to have an exposure significantly beyond the country limit that had been established," Taylor said. "It had marked some Russian banking counterparties as Swiss or American and had blasted through the ceiling (limits on amounts to be traded). [Diamond] maintained he had known nothing about what was going on. He felt terrible. He loved Barclays. He offered to go. I concluded that the embryonic business that BarCap then was would fah apart without him, and that he should stay."⁴⁵

The Financial Crisis

The financial crisis began to emerge in the U.K. during 2007, as the Newcastle-based bank, Northern Rock, required substantial liquidity support from the BoE in September. This led to a full- scale "run on the bank," with panicked customers lining up outside branches to withdraw their savings. This was the first run on a U.K. bank since Victorian times.⁴⁶'⁴⁷ In early 2008, Northern Rock was nationalized. Later in the year, the Royal Bank of Scotland and Lloyds Banking Group (the No. 1 and No. 6 banks, respectively, in the U.K. in 2008 based on total assets)⁴⁸ were partly nationalized to prevent their collapse.

In August 2007, Barclays twice drew on the BoE's emergency lending facility, borrowing approximately £1.6 billion the second time. Barclays explained that it had been forced to tap into the BoE's emergency credit line because of a technical glitch in its operations, discovering a capital shortfall too late in the day to borrow in the open market.⁴⁹ Using the BoE's emergency line was a very unusual event, and with the pervasive fear in the market more generahy, it raised concerns about Barclays' liquidity and viability.

On September 3, 2007, Bloomberg featured Barclays in a news article titled "Barclays Takes a Money-Market Beating," speculating that Barclays may have been experiencing liquidity problems, both because it used the BoE facility and because of Barclays' relatively high LIBOR submissions in sterling, euros, and U.S. dohars. The article posed the question, "So what the heh is happening at Barclays and its Barclays Capital securities unit that is prompting its peers to charge it premium interest in the money market?" Other newspapers, including the Financial Times and the Evening Standard, ran similar articles. By November 2007, Barclays' shares had fahen to three-year lows amid fears over the bank's vulnerability to the credit crunch.⁵⁰

Barclays Admits Its Violations

The Findings

With the announcement of the settlements between Barclays and the FSA, CFTC, and U.S. Department of Justice (DOJ) individually on June 27 and 28, 2012, the bank acknowledged that it had done two things wrong: (1) rate manipulation—between 2005 and 2009, it had submitted incorrect LIBOR rates to generate profits or reduce losses for its derivative trading desk, and for the benefit of traders at other banks, and (2) low-balling LIBOR—between 2007 and 2009, it had submitted LIBOR rates that were lower than they should have been to try to avoid the perception that the bank was financially weaker than its competitors. Because it was intended to represent a bank's true cost of borrowing in the open market, LIBOR was a critical metric used by the market and regulators to gauge a firm's financial health. The FSA, CFTC, and DOJ had worked in concert on the investigation, part of a larger inquiry into the problems with LIBOR (and EURIBOR) that was initiated in 2008 by the CFTC. Barclays was the first bank to acknowledge wrongdoing and to settle with the authorities.

The FSA, Barclays' primary regulator, found the firm's manipulation of its rate submissions had violated several of the FSA's "Business Principles" (see Exhibit 7). The violations centered on submitting rates that were known not to be the best estimates of the bank's true borrowing costs, as influenced by the derivative traders and to avoid market scrutiny. In addition, Barclays failed to have adequate risk management and control systems in place to prevent the fraudulent submissions; the FSA noted that when LIBOR issues were escalated to Barclays' compliance group on several occasions in 2007 and 2008, the group did nothing to address the issues. Finally, the FSA found the firm failed to adhere to the principles by not conducting its business with due care and diligence.⁵¹ The FSA imposed a fine of £59 million ($93 million) on Barclays, its largest ever. However, the FSA noted the bank's excellent cooperation in the investigation, and because it had settled early, the original penalty of £85 million was discounted by 30% ,⁵²

Because LIBOR was widely used in derivative contracts that traded on U.S. exchanges and with U.S. participants in the OTC market, the CFTC also had regulatory jurisdiction over the bank. The CFTC investigation found improper behavior and actions identical to those articulated by the FSA, with Barclays acknowledging that it violated the Commodity Exchange Act by knowingly manipulating and falsely reporting its rate submissions. The CFTC imposed a penalty of $200 million and also noted the "significant cooperation" that it received from the firm in its investigation.⁵³

The DOJ had been pursuing a fraud charge against Barclays and agreed not to criminally prosecute the firm if it complied with CFTC requirements that Barclays strengthen its compliance and internal control systems.⁵⁴ Barclays also paid a penalty of $160 million to settle with the DOJ. In its settlement agreement, the DOJ wrote:

Barclays was the first bank to cooperate in a meaningful way in disclosing its conduct relating to LIBOR and EURIBOR. Its disclosure included relevant facts that at the Lime had not come to the government's attention. Barclays's cooperation has been of substantial value in furthering the Fraud Section's investigation. ... From the outset of the investigation to the present, Barclays's cooperation has been extraordinary and extensive, in terms of the quality and type of information and assistance provided.⁵⁵

The Money Market Desk

Like many other banks, Barclays delegated responsibility for determining its cost of borrowing in various currencies and maturities to its Money Market Desk (Desk). As such, the Desk was responsible for submitting LIBOR (and EURIBOR) rates to Thomson. Among other tasks, the Desk helped manage the liquidity needs of the bank, acting as a central clearing place for all the groups within the firm that needed funds and had excess liquidity; the Desk would turn to the open market to source liquidity and to lend it, both intraday and overnight. Through its management of the firm's liquidity needs, it was best positioned to judge the firm's cost of borrowing, even if it was in a position of excess liquidity and not borrowing on a given day. The Desk, and its brethren across the financial industry, was best thought of as a "utility," performing a low-return, low-cost service for other businesses within Barclays. The Desk was located on the same trading floor with the derivative traders.

Rate Manipulation

The investigation found that from at least mid-2005 through the fall of 2007, and sporadically thereafter into 2009, derivative traders, located primarily in New York and London, regularly requested that the Desk submit a particular rate or adjust its submitted rates higher or lower in an attempt to affect the rate at which LIBOR was set, generally in the one- and three-month maturities.⁵⁶

Barclays' derivative traders were trying to improperly benefit their own trading positions and the profitability of their particular trading books and desks.^[1] As an example, in one e-mail, a derivative trader sent to the Desk a request for a low submission for three-month LIBOR because of rate setting on a LIBOR-based futures contract traded on one of the exchanges within the CME: "We have an unbehevably large set on Monday (the IMM). We would need a really low 3m fix, it potentially could cost us a fortune. We would really appreciate any help."⁵⁷

The regulators did not quantify the gains (or avoided losses) that the traders were presumed to have made, nor did they provide evidence that trader compensation was affected.

Many OTC interest rate derivatives were based on exchanging ("swapping") one set of interest payments for another. For example, one such transaction might have one party exchanging a set of fixed payment obligations (10% per annum on the "notional amount" of the swap for 10 years) for a set of floating payment obligation (three-month LIBOR plus 100 basis points [bp] on the notional amount for 10 years) —a "fixed/floating interest rate swap."^c In the majority of these swaps in the market, LIBOR was used as a benchmark for the floating interest rate. On the days when the floating rate would be reset (e.g., monthly, quarterly), a lower LIBOR rate would mean a lower payment by the floating rate payer, and a higher LIBOR would mean a higher payment by the floating rate payer. LIBOR-based exchange-traded futures contracts were often used by derivatives traders to hedge OTC derivative positions, and changes in the rate on the days when the LIBOR-based futures contracts were set could also affect the profitability of a trader's position.

The derivative traders generally asked the Desk to adjust its LIBOR submissions by a few basis points.^58d Changing the submission did not guarantee that the LIBOR rate that was actually set

would be altered, but that was the goal, and it could be accomplished either by having the Barclays' manipulated rate get thrown out as an outlier, thereby causing another bank's rate that would otherwise have been thrown out to be included, or by having the manipulated Barclays rate included in the "trimmed mean" calculation. If the manipulated Barclays submission caused one of the eight remaining rates to be one bp different from the correct rate, then the effect would be an actual LIBOR rate that was different by one-eighth of one bp (as there were eight firms in the "trimmed mean" calculation of the actual LIBOR rate).

The U.S. dollar (and other currency) volumes to which the actual LIBOR rates were applied could be substantial. At year-end 2007, Barclays had about $18 trillion in notional value of U.S. dollar interest rate swaps outstanding, and about $1 trillion in face value of exchange-traded interest rate futures contracts.⁵⁹'⁶ While not all of these swaps involved a floating rate leg, and not all involved LIBOR, most did. It appeared that Barclays' derivative traders focused their request at Limes when they had substantial U.S. dollar amounts of the floating rate legs of a swap that were resetting. For example, in one e-mail, a Barclays derivative trader told the Desk that he needed a "very very low 3m fixing on Monday (because he had) 80 yards" — market slang for $80 billion —resetting. In this case, if the trader were successful in changing the actual LIBOR rate by one-eighth of one bp, it would result in an additional $2.5 million of profit/ Between 2005 and 2007, the FSA and CFTC identified at least 173 instances where 14 different Barclays' derivative traders (including senior traders and managers) asked the Desk to manipulate the U.S. dollar LIBOR, and in 70% of the Lime, the Desk submitted LIBOR rates consistent with the traders' requests.⁶⁰ There were 58 requests to manipulate EURIBOR; over 80% of the Lime submitters put in rates that were consistent with the traders' requests.⁶¹ The investigation found that there was no effort on the part of the derivative traders or the Desk to conceal their discussions with respect to the manipulation, which occurred over e-mail, the phone, and in face-to-face conversations on the trading floor.

Barclays' swaps traders also facilitated the desire of former Barclays swaps traders to alter LIBOR submissions by passing along the former traders' requests to the Money Market Desk as if they were their own.⁶² At least 12 of the U.S. dollar LIBOR requests were made on behalf of traders previously employed at Barclays who were working at other banks that were not submitting rates for LIBOR.⁶³ In addition, Barclays' traders tried to influence LIBOR and EURIBOR submissions at other banks via traders at those firms. Sixty-three requests went to external traders to pass on to their submitters between February 2007 and October 2007.⁶⁴

In September 2007, Barclays' managers raised concerns about the improper requests from the derivatives traders to the Desk. The issues were raised with the compliance function at that time and again in December, but the group concluded that there was nothing inherently inappropriate about the Desk having knowledge of the exposure other groups within the firm had to LIBOR and

EURIBOR rates. They did view it as inappropriate for the Desk to consider any requests from derivative traders in determining what rates to submit. However, they did not discuss these issues with the submitters on the Desk, nor did they draft any policies or procedures relating to this conflict.⁶⁵ The regulators found no evidence that Barclays senior management was aware of this rate- submission manipulation.

Zero Sum Game?

While the requests may have benefited an individual trader's position, given the complexity of Barclays' aggregate funding needs, it was far from clear that the firm benefited from any change in rates.⁶⁶ In addition, there were trillions of dollars of assets and matching liabilities with their value tied to LIBOR (as well as hundreds of trillions of dollars in derivative contracts) that were held by or owed to households, investment firms, corporations, and governments. For one side of these transactions (e.g., a homeowner with a mortgage) where the payer would benefit from a LIBOR that was set lower than otherwise because of manipulation, there was the other side that lost money it was legitimately owed (e.g., a pension fund investing in a mortgage-backed security).

Low-balling LIBOR

At various points from August 2007 through January 2009, Barclays submitted rates to Thomson that it knew to be below its presumed cost of borrowing in order to manage the market's perception of its financial viability; the goal was to not have a higher submission than peer firms, which would have indicated a higher borrowing cost and potentially more limited access to vital liquidity. The rates were manipulated by as little as a few bp, but often it was more than 20 bp and as high as 50 bp.⁶⁷ Managers in the Treasury Department and on the Desk directed that the U.S. dollar LIBOR submitted be closer to the expected rates of other panel banks.⁶⁸ These managers instructed that the Barclays U.S. dollar LIBOR submissions not be an "outlier" compared to other panel banks; Barclays could be "at the top of the pack" but not too far above the next-highest contributor.⁶⁹ Barclays often submitted rates that were not outliers compared to the other panel banks, but were nevertheless higher than the rates included in the average for the LIBOR fix. Barclays employees stated in internal communications that the purpose of the strategy of underreporting submissions for U.S. dollar LIBOR was to keep Barclays' "head below the parapet" so that it did not get "shot off."⁷⁰

On December 4, 2007, a Barclays LIBOR submitter sent an internal e-mail that raised concerns about the U.S. dollar LIBOR rates submitted by panel banks, including Barclays. The banks had submitted a rate for a one-month U.S. dollar LIBOR that was lower than if they had been "given a free hand" in determining Barclays' borrowing cost. The e-mail went on to express concern that the panel banks' submissions, including Barclays', were false.⁷¹

On December 6, Barclays raised its concerns about systemically improper rate submissions with the FSA, although it did not inform the FSA of Barclays' own incorrect submissions. The compliance manager who discussed the issue with the FSA then summarized the conversation in an internal e- mail to several members of Barclays' management. He said that the FSA was told that the one-month to three-month U.S. dollar LIBOR settings seemed incorrect and that Barclays had consistently been the highest (or one of the two highest) rate provider in recent weeks, but was reluctant to go higher, given its recent media experience.⁷²

In their findings, the regulators concluded that "less senior managers" in the Treasury and on the Desk ordered the lower rate submissions because of ongoing concerns expressed by Barclays' senior management over the press reports and market speculation about the firm's financial health and

signals that a high LIBOR submission suggested. One employee responsible for the submissions told a colleague that there were "internal political pressures on him not to set the rate higher."⁷³ The investigation was unable to find evidence, before late October 2008, that the firm's senior management had ordered the lower rate submissions or was aware they were taking place.

The Phone Call

For the first nine months of 2008, Barclays' U.S. dollar LIBOR rate submissions were close to the actual fixed LIBOR rate and comfortably below the higher submissions; however, in late September, its submissions again started getting significantly higher than those of the other panel banks, which prompted a call on October 29 from the BoE's Tucker to Diamond, then head of BarCap.

The call took place against the full-throated onset of the financial crisis. Lehman Brothers had filed for bankruptcy, and shortly thereafter AIG had received a bailout from the U.S. Federal Reserve. Merrill Lynch was sold to Bank of America, and Goldman Sachs and Morgan Stanley became bank holding companies to ensure they had access to liquidity.⁷⁴ A large U.S. money market fund, the Reserve Primary Fund, "broke the buck," creating panic and forcing the U.S. government to guarantee all money market fund holdings. The crisis was not limited to the U.S.; it was global and included the U.K. The credit markets had been virtually shut down, and banks and other financial institutions found it very challenging to obtain funding.

Following the call from Tucker, Diamond sent an e-mail to Barclays CEO, John Varley, copying Jerry del Missier, then BarCap's chief operating officer, which chronicled the conversation:

Further to our last call, Mr Tucker reiterated that he had received calls from a number of senior figures within Whitehall^ to question why Barclays was always toward the top end of the Libor pricing. Fhs response was "you have to pay what you have to pay". I asked if he could relay the reality, that not all banks were providing quotes at the levels that represented real transactions, his response "oh, that would be worse".

I explained again our market rate driven policy and that it had recently meant that we appeared in the top quartile and on occasion the top decile of the pricing. Equally I noted that we continued to see others in the market posting rates at levels that were not representative of where they would actually undertake business. This latter point has on occasion pushed us higher than would otherwise appear to be the case. In fact, we are not having to "pay up" for money at all.

Mr Tucker stated the levels of calls he was receiving from Whitehall were "senior" and that while he was certain we did not need advice, that it did not always need to be the case that we appeared as high as we have recently.⁷⁵

What Was Really Said?

When Diamond testified before the Treasury's Select Committee in 2012, he said that he did not take from the conversation that Tucker was directing Barclays to lower its rate submissions. Tucker agreed and told the committee that the key message he wished to convey to Diamond was to make "sure that the senior management of Barclays was overseeing the day-to-day money market operations, treasury operations and funding operations of Barclays so that Barclays' money desk did

S "Whitehall" referred to the U.K. government.

not inadvertently send distress signals."⁷⁶ Tucker told the committee that no government minister asked him to "lean on" Barclays over its LIBOR submissions, but he did reveal the BoE had feared, at the time, that Barclays would need a bailout.⁷⁷

While Diamond did not take Tucker's words as an instruction to lower the firm's LIBOR submission, del Missier did. Del Missier had worked closely with Diamond at BarCap for many years. He became BarCap's president when Diamond became the firm's CEO.

Del Missier told the committee that he had spoken with Diamond on October 29 and took from that conversation that the BoE was getting "pressure from Whitehall around Barclays — the health of Barclays — as result of the LIBOR rates, that we should get our LIBOR rates down, and we should not be outliers.... What was communicated to me by Mr. Diamond was ... about political pressure on the bank, regarding Barclays' health and, as indicated by our LIBOR rates, that we should get our LIBOR rates down, and not be outliers."⁷⁸ As a result, he "passed the instructions as I had received it, onto the head of the money markets desk." When asked whether he believed he was "acting on an instruction from the Bank of England or from other Whitehall [government officials] sources," del Missier replied, "yes."⁷⁹ (See Exhibit 8 for Barclays' LIBOR submissions in British sterling before and after the telephone call.)

Barclays' rate submissions were lowered as a result of del Missier's order, until November 6 when there was a massive and coordinated effort by global central banks to flood the financial system with liquidity to ease the funding needs of banks.⁸⁰

Fallout

In a letter sent on June 28, 2012, to the chair of the Treasury Select Committee, Diamond acknowledged that the rate manipulation for the benefit of the derivative traders was "wholly inappropriate," although he blamed it on a handful of individuals. In his testimony before the committee, he said, about this situation, "I am sorry, angry and disappointed."⁸¹ He also said in his letter, regarding the efforts to manage media and market speculation about Barclays' financial health, "I accept that the decision to lower rates was wrong," but he pointed out that the motivation was to protect the bank's reputation, not generate profits.⁸² Barclays announced that Diamond, del Missier, and two other senior managers would forgo their bonuses for the year, but in the days that followed, the publication of the FSA's settlement (the "Final Notice"), there was much commentary in the U.K. media to the effect that surrendering their bonuses was not enough.⁸³

Diamond ignored growing calls for his ouster, insisting he would not resign. Barclays chairman, Marcus Agius, did, however, step down on July 2, 2012, saying, "The buck stops with me and I must acknowledge responsibility by standing aside."⁸⁴ (He also resigned as chairman of the BBA.) Barclays' board, The Economist reported, had apparently "decided that the chairman is dispensable, and Mr. Diamond is not."⁸⁵

On July 2, BoE Governor King summoned Agius and Michael Rake, the firm's senior independent director, to a meeting. Agius outlined the ensuing discussion between the three men: " [I] t was made very plain to us that Bob Diamond no longer enjoyed the support of his regulators. The Governor was very careful to say that he had no power to direct us, but he felt that this was sufficiently important, as indeed it was, for us to be told in absolute terms what the situation was."⁸⁶ After the meeting, Agius met with Diamond, who resigned the next day. Del Missier, who had been made the bank's COO on June 22, also resigned on July 3.

On November 27, 2012, the BoE announced that Mark Carney, the sitting governor of Canada's Central Bank, would succeed King as the BoE's next governor, beginning on June 1, 2013. He would be the first non-U.K. citizen to assume this role in the bank's history.⁸⁷

The Future of LIBOR

On September 28, 2012, a report commissioned by the U.K.'s Chancellor of the Exchequer was issued by Martin Wheatley. While it concluded that LIBOR should remain a global benchmark based on the cost of unsecured inter-bank lending, it set forth a series of proposed reforms for the LIBOR rate-setting process. Wheatley, the FSA's managing director responsible for the Consumer and Markets Business Unit, was the CEO-designate of the new regulatory body, the Financial Conduct Authority. These reforms, which were accepted by the government and were to be adopted, included:

1)     The administration of LIBOR should be subject to statutory authority, creating specific law to govern the process by which LIBOR is managed and set;

2)     The oversight of the rate setting process should move from the BBA to a new Administrator to be chosen by a body appointed by the government;

3)     Submitting banks should use market data in determining the rates submitted, and that data should be available and transparent;

4)      The LIBOR Administrator should develop a code of conduct for submitting banks;

5)     The BBA and new Administrator should not set LIBOR for currencies and/or maturities for which there is insufficient market data; and,

6)     The rates each bank submitted daily should not be published immediately, but should be embargoed for 3 months.⁸⁸

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1) Who is hurt and who benefits from the manipulation of LIBOR?
2) Who was most responsible for the manipulation of LIBOR?
3) As a leader, how should you respond when you know your competitors are cheating? How should you respond when you think regulators are asking you to cheat?