Manipulating financial markets

On September 15, 2008, Lehman Brothers declared bankruptcy the magnitude of which surpasses General Motors, Washington Mutual, Enron, and Worldcom combined according to CBS news. Being the largest bankruptcy in history, it no doubt worsened the unraveling of the U.S. financial system and the thrust of the global economy in the trough we still find ourselves in 4 years down the line.

Listed as causes for this debacle are mismanagement by the firm’s top managers, misinformation by top U.S. accounting firms and possible economic warfare orchestrated via a series of targeted bear raids. An argument against an economic warfare hypothesis is the assumption that markets are too big to manipulate. Is such an assumption correct?

LIBOR Scandal

LIBOR is an acronym for the London Inter-bank Offered Rate. “It is a base interest rate for hundreds of trillions of dollars in loans…supposed to represent the rate charged from one bank to another as reflective of the best available private-sector rates”– Kevin D. Freeman. According to a New York Times article, “At least an estimated $350 trillion in derivatives and other financial products are tied to it.” This gives us an idea of how large a market we are talking about.

2012 saw the revelation of massive collusion between banks in manipulating the LIBOR going back to 2005. Barclays was one of the banks implicated in the LIBOR mess. According to the New York Times, “from 2005 to 2007, swaps traders often asked the Barclays employees who submit the rates to provide figures that would benefit the traders, instead of submitting the rates the bank would actually pay to borrow money” It adds, “In 2008, Barclays submitted artificially low figures to deflect scrutiny about its health.” Why would Barclays commit such a crime? A Forbes magazine article suggests the likelihood that then Barclays group chief executive Bob Diamond Jr. manipulated LIBOR to protect Barclays’ interests with regards to a looming deal which was to help Barclays secure investments from two Middle Eastern Sovereign Wealth Funds.

Mr. Diamond was on record as saying Barclays was not alone. Other banks posted rates below that of Barclays. If there is anything the LIBOR scandal teaches us, it is that even large markets that manage trillions of dollars can be manipulated.

Bank run saga

In a Feb. 6, 2009 CSPAN interview with then Chairman of the United States House Financial Services Subcommittee on Capital Markets and Government Sponsored Enterprises, it was revealed that $550 billion was withdrawn from US money markets within a space of 2 hours on September 15 2008.

In countering the possibility that this could have resulted from market manipulation, it is argued that the cause of such a mass drain was entirely panic driven as a result of the collapse of huge financial firms and news of the Reserve Primary Fund, a giant money market fund which “broke the buck” meaning instead of customers receiving a dollar per share invested, they would receive less—in this case 97 cents.

But is this assumption true? Partly but not entirely! Though one cannot ignore the negative effects of the collapses of financial firms, neither can one discount the fact that panic which accompanied the decline of investor confidence began much earlier than the period after the incidents cited but never did it result in such a colossal drain within just two hours.

The Cox letter

The decline of investor confidence that led to withdrawal of large chunks of money from U.S. Money Markets did not suddenly emerge in the autumn of 2008. In a letter by former U.S. Securities and Exchange Commission Chairman, Charles Christopher Cox to Dr. Nout Wellink, Chairman of the Basel Committee on Banking Supervision, this occurrence was already ongoing and even contributed to the later collapse of Bear Stearns.

…the fate of Bear Stearns was the result of a lack of confidence, not lack of capital…Beginning late Monday, March 10, and increasingly through the week, rumors spread about liquidity problems at Bear Stearns, which eroded investor confidence in the firm.

Instead of blaming this mass blood-letting of the U.S. financial markets on solely panic, maybe additional variables should be considered such as a deliberate manipulation of the markets. But even if this is considered, the current opaque nature of transactions created by some financial regulations does not allow for easy identification of possible culprits.

Challenges

There is no question that the global financial system needs a reset with better transparency, accountability and regulations as some of its features. That said, regulation can be a double edged sword depending on how flexible or cumbersome it is. The problem is not more or less regulation. Quantity is not the problem. Quality, effectiveness and efficiency are. Current regulation should be either honed to reflect this or where not feasible, it should be replaced.

Another challenge is an excessive fetish with confidentiality. Until February 6, 2009 when Congressman Paul Kanjorski made public the tremendous bank run of September 2008, no information about this had reached the public and had he not done this during the CSPAN interview, it might have stayed confidential. Keeping a few technocrats in the information loop vis-à-vis opening up the information to all constrains society from benefitting from the potential gains of a well managed democratic network knowledge system.

Conclusion

Modern civilization will do well to glean some wisdom from those who have gone before us. George Washington was a Founding Father of the United States, served as commander-in-chief of the Continental Army during the American Revolutionary War, presided over the convention that wrote the American Constitution, signed it, presided over the framing of the Bill of rights and was the first President for two terms. After giving 45 years of his adult life to American public service, he gave a farewell address in 1796 in which he left us some words of wisdom. In this address he states, “Of all the dispositions and habits which lead to political prosperity, religion and morality are indispensable supports.”

That indicates that even if the world gets financial regulation and transparency issues right in global financial governance, but the people who run the system, especially the top managers still suffer from serious laxity in morality manifested through the unrestrained greed, lack of integrity and utter disregard for the consequence of individual actions on the global family—the crux of what has landed us in this quagmire in the first place—we will have accomplished nothing. Unfortunately for the globe, morality is not something we can regulate or legislate.


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Where is the $50 trillion lost in the financial crisis?

In an interview on CSPAN on January 27, 2009, Congressman Paul Kanjorski Chairman of the Capitol Markets Sub-committee told viewers of a 2008 electronic bank run reported by the Secretary of the Treasury and the Chairman of the Federal Reserve to members of Congress in which the US economy was literally drained of $550 billion within a space of only two hours. He explained that by the estimation of the Secretary and Chairman, had immediate action not been taken, then by 2pm that same day, 5.5 trillion dollars would have been drawn out of the money market system of the United States triggering a total collapse of the American economy and within 24 hours he said, “the word economy would have collapsed”  [ SEE VIDEO BELOW ].

Why did this not receive much more media attention and what was the cause of such a run? Additionally according to a report published under contractual arrangement with a sub-contractor of the US Department of Defense Irregular Warfare Support program, the Globe has lost about $50 trillion of global wealth since 2008 in the current financial crises. Money does not just evaporate into thin air.  It is currency (current) so it flows from one place to the other. Hence a better  statement would be to say that $50 trillion has changed hands. But where is this money now and how did such a travesty occur? Who was on watch and who should be held accountable? These are questions that many are grappling with now. Hopefully in upcoming posts we can consider some of the myriad of answers proffered by various actors worldwide. 

You can access the link to the CSPAN video here. To access Congressman Paul Kanjorski’s admission quoted above you can watch the video from about 22:45.