The economy is the main event but the LIBOR scandal will be on the under-card when Fed Chairman Ben Bernanke testifies before Congress today and tomorrow. (See: Bernanke Ready to "Throw in the Towel on Inflation": Jim Rickards)
At issue is what the Fed, and other bank regulators, knew about manipulation of the key lending rate and whether they condoned banks giving low-ball estimates of LIBOR in order to make themselves look healthier during the crisis of 2008.
Bernanke is likely to face some inquires about this issue, but the U.S. regulator most questions are being asked about is Treasury Secretary Tim Geithner, who is set to testify about the matter before the House Financial Services committee next week.
In 2008, while President of the NY Fed, Geithner sent a memo to British regulators to raise concerns about potential manipulation of LIBOR, as has been widely reported and confirmed Friday by the NY Fed.
The question now is why Geithner didn't do more to follow up on that memo, considering the central role LIBOR plays in the financial markets. Literally hundreds of trillions of dollars of financial instruments -- including complex derivatives but also basic consumer loans are tied to LIBOR, technically the London Interbank Offered Rate.
The LIBOR scandal is "so big I don't think people have got their minds around it," says Jim Rickards, a partner at JAC Capital Advisors and author of Currency Wars: The Making of the Next Global. "This is the largest financial scandal I've seen in my career."
If $500 trillion of swaps are based on LIBOR and the rate was manipulated by 10 basis points over five years, that's $2.5 trillion of fraudulent transactions -- more than the combined capital of the nation's five largest banks, Rickards explains. "Congress may have to step in to limit the damages because it would threaten the banking system."
Led by the City of Baltimore, several U.S. municipalities have already filed lawsuits, seeking damages for interest rate swaps that were pegged to LIBOR, The NY Times reports. Analysts at Nomura Equity Research warn banks could be liable for "tens of billions" in related claims, while Morgan Stanley estimates the tab could be $22 billion.
Meanwhile, Rickards boldly claims Geithner could face "criminal liability" for failing to refer LIBOR manipulation to the Justice Department or FBI. "A fraud is a crime," he continues. "You can't witness a crime and not call the cops. Geithner might be guilty of aiding and abetting a crime."
Pressed on this, Rickards concedes it's highly unlikely Geithner will be charged with anything -- "the Justice Department will finesse it," he says. But that won't stop members of Congress from trying to score political points and put Geithner (and Bernanke) in the hot seat in the days and weeks ahead.
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