LIBOR rigging: Difference between revisions

We can see in any case that a swap trader who is “long” floating rates will wish floating rates to go higher. This prospect, we venture, was not wildly present in the minds of the Sir Bufton Tuftons who formulated the LIBOR rules defining how submitting banks should choose the rates they submit each day.

Under the “basic banking model”, a bank will always be “[[Axe|axed]]” for floating rates to be as low as possible. You would expect its submissions to reflect that. The question arose later, even though it did not arise then: when submitting a rate, what account should a bank take of its own derivatives trading book?   

On any day there would be a range of rates at which a bank ''could'' borrow. These might be firm offers from other lenders, good faith estimates or model outputs. There is an excellent [[subjunctive]] in there, by the way: “''were'' it to do so” implies that it need not ''actually'' do so.  

Say the range of available rates on a given day was, as the court hypothesised, between 2.50% and 2.53%. Which of these was “the rate at which it could borrow funds”? Plainly, a submitter could not submit all of them.  

The logical options (setting aside for now their legality) were:  

''Pick an “available” rate'': Choose one rate from those that were genuinely available per the bank’s good faith enquiry as above.  

''Manufacture a blended rate from the range'': Contrive some artificial rate from within that range, reflecting a weighted average, or some such thing.

''Make one up'': Submit a rate that did not fall within the estimated range, whether lower or higher.

“Making one up” plainly falls outside the scope of the LIBOR Definition. “Making a blended rate” does not quite conform to the text, but perhaps captures its spirit. But in any case, Hayes did neither of these things. “Picking one of the available rates” is what Hayes actually did. To an uncomplicated reading of the LIBOR Definition, Hayes fell squarely inside it. This was a rate at which the bank ''could'' borrow funds.  

The complication is that Hayes actively selected the available rate that best suited his derivative trading position. That is, he was guided by his desk’s commercial interest, and not, the bank’s “structural” commercial interest.  

This is the crux of the case. Having this ulterior motive — dishonest in light of the ''proper basis for the submission of those rates'' so the Crown alleged — was an imprisonable conspiracy to defraud.

{{drop|H|ayes was indicted}} on the ancient [[common law]] offence of “conspiracy to defraud”. Criminal law minutiae, perhaps, but he was not charged with a statutory criminal offence under the [[Fraud Act 2006]]. That Act followed a Law Commission survey of the criminal law of fraud, which had also recommended ''abolishing'' common law conspiracy to defraud, because it was “unfairly uncertain, and wide enough to ''have the potential to catch behaviour that should not be criminal''”.<ref>{{plainlink|https://www.gov.uk/guidance/use-of-the-common-law-offence-of-conspiracy-to-defraud--6|Attorney General guidance to the legal profession on use of conspiracy to defraud}}, November 2012.</ref> The government did not follow the Law Commission’s recommendation.

“The government decided to retain it for the meantime, but accepted the case for considering repeal in the longer term.” <ref>Ibid.</ref>}}

 

Being a common law offence, elements of the offence are not sharply delineated — a good policy reason to abolish all common law crimes, but anyway<ref>Shout out to my buddies in Kiwiland, by the way, where all criminal offences were codified and all residual common law crimes abolished in 1961. Good job, Kiwis!</ref> — but it seems to be along the lines that ''there was an agreement between persons who intended to defraud someone by doing something dishonest with a likelihood of resulting loss, even if no loss eventually arose''.<ref>This is in JC’s non-expert words. Not a criminal lawyer. May be missing something.</ref>.

The first instance court did not really dwell on the meaning of the LIBOR Definition, but rather whether Hayes’ intentions when choosing the rate he submitted were to reflect “the bank’s genuine perception of its borrowing rate”.  

This is interesting purely because of its scale — we’ll come to that — but also because of the fortunes of two Deutsche Bank submitters, also convicted for manipulating LIBOR in the United States in similar circumstances, who then appealed. There, too, the question boiled down to what the LIBOR Definition actually meant.  

{{drop|N|ow, an ocean}} away, an American appeals court had considered that very question in the matter of {{casenote|United States|Connolly and Black}},<ref>{{citer|United States|Connolly and Black|2d Cir. 2022|No. 19-3806|}}</ref> two Deutsche Bank submitters convicted for manipulating LIBOR.   

Followers of current events may even know that the US courts overturned their convictions, considering the question before them to be one of ''fact'': the text of the “LIBOR Definition” as filtered through the prisms of grammar, usage, subject matter expert opinion and industry practice.

The question of law — whether the submitters were dishonest — depended a great deal on matters of ''fact'' — such as what did those submitting rates believe was permitted within the LIBOR Definition, and if that seemed far-fetched, what a reasonable person reading the definition would think it required.  

This led the US courts to conclude that picking from a range of available rates, whatever your motivations for your choice could not be fraudulent. It was within the rules.  

{{drop|T|he Court of}} Appeal considered first a question of legal methodology: whose job was it to determine what the LIBOR Definition meant, and by reference to what?   

{{Quote|The court was not confining itself, even “principally”, to the language of the [LIBOR Definition] but was taking into account the evidence ... as to how those particular submitters arrived at their submissions in practice. ... This means ... that the question of how the LIBOR Definition was to be construed was being treated as an issue of fact for the jury.}}

The Court of Appeal disagreed. Under English law, contractual interpretation is a matter of law, to be resolved by the judge. Evidence of market practice, or the belief of submitters, did not enter into it.  

The Court of Appeal parsed the LIBOR Definition and interpreted it to mean the ''lowest'' of the submitted rates in the range:  

{{Quote|In the LIBOR Definition what is required is an assessment of the rate at which the panel bank “could borrow”.  ''That must mean the cheapest rate at which it could borrow''.  A borrower “can” always borrow at a higher rate than the lowest on offer.  But the higher rate would not reflect what the LIBOR benchmark is seeking to achieve, namely identification of the bank’s cost of borrowing in the wholesale cash market at the relevant moment of time.  If in a stable and liquid market a submitting bank seeks and receives offers for a reasonable market size at the very time it is to make its submission, and receives offers ranging from 2.50% to 2.53%, it would accept the offer at 2.50%. It would be absurd to suggest that the LIBOR question could then properly be answered by a submission of 2.53%. The bank “could” borrow at that rate in the sense that it was a rate which was available, but that is obviously not what “could” means.}}

{{Drop|B|ear in mind}} that the “legal question” to be answered here is one of criminal law, not contract. The contract is merely the factual background upon which a crime was allegedly committed. The LIBOR definition, as near as can be approximated, formed part of a contract.

Under the intellectual theory of criminal law, ignorance or misunderstanding of the law is no excuse. This is as axiomatic for an effective criminal justice system as “all interests in cash pass by delivery” is to finance. The system would not work were defendants allowed to plead ignorance, even presumptively. ''Ignorantia legis non excusat'', if you are blameless in your inadvertence, is a moral iniquity but still a logical imperative of government.  

This same imperative does not hold for a contract. Quite the opposite: the whole theory of contract is that the parties ''are'' materially cognisant of the whole thing. That is what [[offer]] and [[acceptance]] requires.  

One: plainly, what a contract means is, in some way, fact-dependent. It is not, purely, a matter of law. A contract testifies to the parties’ agreement. It cannot be sovereign to it.

Another: how ''everyone'' behaved when interacting with the LIBOR Definition helps work out what a reasonable person would have understood it to mean. There is no better indication of reasonableness than direct evidence of the behaviour of fellow [[Man on the Clapham Omnibus|passengers on the Clapham Omnibus]].

There is here the odd spectre of the law of [[contract]] forming the backdrop and comprising some of the elements of a criminal allegation. This is rare. Usually, the criminal authorities stay well out of commercial disputes, even where allegations of fraud are flying around — there is a civil tort of fraud — seeing it as a matter of civil loss between merchants perfectly able to look after themselves, and not one requiring the machinery of the state.

[[LIBOR]], on whom the mortgage repayments of unwitting retail punters depend, made things a bit different. This is no private matter to be sorted out between gentlemen with revolvers. Nevertheless, still one must apply contractual principles, not criminal ones, to matters of contractual practice.

And the argument here is not about economic reality but legal meaning, and legal meaning follows natural, ordinary meaning, and in the world of contractual interpretation, that is viewed from the perspective of the person performing the contract and [[Contra proferentem|against the draftsperson’s interest]], giving the benefit of the doubt to the reader.  

The same doubt, as it happens, is given to defendants in case of ambiguously framed crimes. For if the LIBOR Definition meant to sanction mandate this “obvious” outcome, it did not do a very good job of it. As a matter of plain English, “could borrow” does not rule out a higher rate, but rather implies it: the Court of Appeal concedes as much, at para 89:

{{Quote|The bank “could” borrow at that rate in the sense that it was a rate which was available, but that is obviously not what “could” means.}}

The “obviousness” to which the Court appeals here, is not a legal one — show me the authority for that — but one of a certain ''economic'' intuition. If that was the intended legal meaning it would have been really easy to fix it to it was clear.

But — per the wording in the LIBOR definition — there is an upper bound to that, delimited by the range of “inter-bank offers in reasonable market size just prior to 1100”. A submitter could not submit a rate higher than any actually offered, any more than it could submit a rate lower than the actually offered range. 

But to construe “the rate at which it could borrow funds” to mean “the ''lowest'' rate ... ”, involves implying a term into the contract that is not there. It would have been easy enough for the old grandees to have put the matter beyond doubt before knocking the top off that ''Château de Chasselas'', with a single modifying adjective:  

But they did not. If they wanted to isolate the risk of a bank talking its own book they could have invited LIBOR banks to submit the minimum rates they were prepared to ''lend'' to each other. They did not do that either.

As the system was configured, riven with inherent conflict of interest, there  were any number of ways banks could — and for all we can tell now, probably did — skew the data: from whom do you seek bids? How late or early do you seek them? How do you phrase your request?

In the absence of clearly drafted prohibitions, given a vaguely articulated common law crime seen as unsatisfactory even by the executive, it seems pretty rich to insist upon a literal reading of a set of rules which didn’t say a lot and to which, on the evidence, no-one paid a great deal of attention. There was a ton of room for flex. We should not be surprised to see people use it to their commercial ends. That is how markets work.

{{drop|A|nd after all}}, ''everyone'' was at it. A fun game, if you have twenty minutes, is to google the names of the {{plainlink|https://en.wikipedia.org/wiki/Libor|LIBOR panel banks}} to see which were ''not'' somehow implicated in so-called “LIBOR rigging”. If you haven’t got twenty minutes, the WSJ’s brilliant interactive {{plainlink|https://graphics.wsj.com/libor-network/|spider network}} will give you the answer in an instant. There were thirty-nine prosecutions for LIBOR manipulation.

Should LIBOR submitters should avoid conflicts of interest? How ''can'' they? The LIBOR rate is structurally fundamental to the economics of banking. In making LIBOR submissions, all banks had an inherent conflict of interest. Any submission must be at some level, in, counter to or magically neutral to the bank’s intrinsic interest rate exposure. A submission weighted to the lowest available rate structurally favours a bank that is not hedging its interest rate risk: why is that okay?

Is the LIBOR rate designed to protect investors, and if so which ones, and why are they special? As noted, classic bank customers would benefit from a higher rate, not a low one. This is of course, all very complicated because banks are very complicated. It is not obvious what is or is not in a bank’s interest.

 

 

On one hand, it should not make a difference that it is the same case. On the other, that makes a bit of a mockery of the appeal process if the appellate court is bound by the judgment being appealed against, which is what the Court found itself to be here. This should, at least, be a decent justification for a further appeal to the Supreme Court.