Commission’s feeble response to financial benchmarks fraud

Handshake between David Cameron, British Prime Minister and Herman van Rompuy, President of the European Council in the presence of José Manuel Barroso, President of the European Commission (in the foreground, from left to right). The two EU presidents received the British PM in the Extraordinary European Council where the MIFID II was almost killed. (EC Audiovisual Services 22/11/2012).

Handshake between David Cameron, British Prime Minister and Herman van Rompuy, President of the European Council in the presence of José Manuel Barroso, President of the European Commission (in the foreground, from left to right). The two EU presidents received the British PM in the Extraordinary European Council where the MIFID II was almost killed. (EC Audiovisual Services 22/11/2012).

On Wednesday 18 September the European Commission is expected to propose a draft legislation on financial benchmarks to protect their setting from fraud and collusion. The stakes are so big that surpass the wildest imagination. For example Libor, the London market interest rate benchmark, is used as a base for interest rates settlements all over the world with an estimated value of $250 trillion in derivatives.

Understandably the banks contributing their ‘doctored’ data to set the Libor quotes had an ‘arrangement’ between them to set it higher or lower than its ‘natural’ price (real spot market equilibrium) according to their interest of the day. The same is true for Euribor, the London market euro benchmark interest rate, used for euro denominated agreements. As for the Baltic Indices, the benchmark sea freight prices used globally for sea transport and ship charterers’ contracts, is thought to be also fraudulently set. In this respect the value of the markets ‘doctored’ is inestimable due to the fact that sea transport contracts are so widely spread that it is impossible getting near to real values.

All that makes one recall, that whatever market the major western banks touched during the last ten years, they turned it into a tool of book profit-making, using all the methods and the technology they could come up with. Most of the times their means were illegal and despite the fact that these fraudulent actions were uncovered, as in the cases of false information supplied to American investors and the falsified data used to rig financial benchmarks like Euribor, Libor and the Baltic Indices, no banker has yet been put behind bars. Only some individual Ponzi crooks have been jailed for doing exactly the same tricks as the major banks, but lacking the industry’s protection nor having the ability and the size to convince governments and central banks to recapitalise them and supply them with zero cost liquidity.

Recurrent cheaters

In any case, after the Libor and Euribor rigging scandals broke out one and half-year ago, the British regulators introduced very tough rules for their setting. Understandably there was very limited willingness from banks to contribute their data for Libor fair setting in the new environment. Under the new law Libor and Euribor the setting offers very limited rewards and provides for high fines in case of fraudulent behaviour.

Now the European Commission comes and is about to propose draft regulation on benchmarks on Wednesday the 18th of this month. With this initiative the Commission tries to “…set out new rules for the production and use of benchmarks referenced in financial instruments and financial contracts, in order to ensure their integrity by guaranteeing that they are not subject to conflicts of interest, reflect the economic reality that they are intended to measure and are used appropriately”.

The new EU legislation will come on top of the tougher British rules and will make sure that those who manipulate or try to manipulate benchmarks can be punished. As the Commission notes however this is not enough, “Benchmarks need to be calculated and supervised in an appropriate way”. The problem is that in today’s financial world it is quite impossible to control the quality and the integrity of the data supplied by banks to set reliable and authentic benchmarks.

Is it possible to control them?

Last June when the Coreper council, regrouping the ambassadors of the 28 EU member states, endorsed the political agreement between the Council and the European Parliament on tougher rules to better prevent, detect and punish market abuse, Commissioner Michel Barnier made a realistic statement. He said that, “In recent years financial markets have become increasingly global, giving rise to new trading platforms and technologies. This unfortunately has also led to new possibilities to manipulate these markets. The new market abuse rules adapt EU rules to this new market reality, notably by extending their scope to financial instruments only traded on new platforms and over the counter (OTC), currently not covered by EU legislation, and adapting rules to new technology such as High Frequency Trading”.

Reading this statement, ‘a contrario’ that is reversing the thought, the conclusion is that the European Union cannot enforce this new legislation on markets and financial instruments traded over totally uncontrolled and uncontrollable platforms. Then what is the purpose of this new EU legislation? Seemingly the Commission decision makers thought that from every respect and primarily from the political angle it is better to do something in these uncharted waters of global finance than doing nothing at all. Barnier’s recognition that those markets are outside EU’s reach is a solid proof of that.

Consequently it seems that the new British arrangement on the workings of the benchmark setting procedures is probably more effective than the Commission’s proposed legislation. This is so because of the poor prospects of this new draft Directive regarding adoption timetables and contents. In view of that Barnier noted, “I look forward to working with the Lithuanian Presidency and the European Parliament to conclude a trilogue agreement on criminal sanctions in the market abuse Directive, so that the package can enter into force along with the MIFID 2 proposals once those negotiations have been successfully concluded”.

Knowing that the MIFID II negotiations and the penal content of this Commission’s new draft Regulation will present important hurdles to its adoption, the timing and the content issues of this whole affair are quite unpredictable. Not to forget that discussions on MIFID II started almost two years ago.


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