Financial Market Misconduct and Public Enforcement: The Case of Libor Manipulation

Home
/
Papers
/
Financial Market Misconduct and Public Enforcement: The Case of Libor Manipulation

Posted Content•

Financial Market Misconduct and Public Enforcement: The Case of Libor Manipulation

Priyank Gandhi¹, Benjamin Golez², Jens Carsten Jackwerth³, Alberto Plazzi⁴•Institutions (4)

Rutgers University¹, Mendoza College of Business², University of Konstanz³, University of Lugano⁴

01 Jan 2017-

TL;DR: Using comprehensive data on London Interbank Offer Rate (Libor) submissions from 2001 through 2012, evidence consistent with banks manipulating Libor to profit from Libor-related positio...

read less

Abstract: Using comprehensive data on London Interbank Offer Rate (Libor) submissions from 2001 through 2012, we document systematic evidence consistent with banks manipulating Libor to profit from Libor related positions and, to a degree, to signal their creditworthiness during the distressed times for banks. The evidence is initially stronger for banks that were eventually sanctioned by the regulators and disappears for all banks post-2010 in the aftermath of Libor investigations. Our findings suggest that public enforcement, with the threat of large penalties and the loss of reputation, can be effective in deterring financial market misconduct.

...read moreread less

Citations

PDF

Open Access

More filters

Federal Reserve Bank of New Yorkの制定せる財務諸表様式について

[...]

嘉一郎西野

01 Feb 1951

TL;DR: The Board of Governors' Semiannual Agenda of Regulations for the period August 1, 1980 through February 1, 1981 as discussed by the authors provides information on those regulatory matters that the Board now has under consideration or anticipates considering over the next six months.

...read moreread less

Abstract: Enclosed is a copy of the Board of Governors’ Semiannual Agenda of Regulations for the period August 1, 1980 through February 1, 1981. The Semiannual Agenda provides you with information on those regulatory matters that the Board now has under consideration or anticipates considering over the next six months, and is divided into three parts: (1) regulatory matters that the Board had considered during the previous six months on which final action has been taken; (2) regulatory matters that have been proposed for public comment and that require further Board consideration; and (3) regulatory matters that the Board may consider over the next six months.

...read moreread less

1,236 citations

Journal Article•DOI•

The Effects of Borrower-Based Macroprudential Policy - An Empirical Application to Korea

[...]

Thorsten Franz¹•Institutions (1)

Deutsche Bundesbank¹

26 Jan 2017-Social Science Research Network

TL;DR: In this article, the effects of mandatory loan-tovalue (LTV) and debt-service-to-income (DSTI) ratios on real estate markets in the Korean economy were investigated using a sign identified Structural Vector Autoregressive (SVAR) model with Bayesian inference.

...read moreread less

Abstract: The effects of mandatory loan-to-value (LTV) and debt-service-to-income (DSTI) ratios on real estate markets in the Korean economy are investigated using a sign identified Structural Vector Autoregressive (SVAR) model with Bayesian inference. Sign restrictions are drawn from a small open economy dynamic stochastic general equilibrium (DSGE) model with collateralizable housing. Results suggest that these borrower-based macropudential policies (BB-MaPP) have been successful in curbing real estate cycles in the form of real household credit and real house prices. Monetary policy shocks, on the other hand, do not have a significant influence on real house prices. Housing demand shocks turn out to be the main driver of real estate cycles in Korea with BB-MaPP shocks coming in second. Overall, the historically low volatility in real house prices and real household credit growth since 2002 in Korea might at least be partially owed to the implementation of BB-MaPP measures.

...read moreread less

10 citations

Journal Article•DOI•

International Shock Transmission: Does Bank Organizational Structure Matter?

[...]

Priyank Gandhi¹, George Issa², Elvis Jarnecic²•Institutions (2)

Rutgers University¹, University of Sydney²

05 Nov 2019-Social Science Research Network

TL;DR: In this article, the authors investigated the impact of the organization structure of global banks on how they respond to liquidity shocks and showed that international banks allocate funds to purchase securities sold in such fire sales and reduce credit supply, causing liquidity shocks to spill-over.

...read moreread less

Abstract: The organization structure of global banks affects how they respond to liquidity shocks and matters for international shock transmission. Liquidity shocks to global banks induces a fire sales of securities by their international branches that rely on parent banks for funding, but not by their international subsidiaries that are independently capitalized and domestically funded. Domestic banks allocate funds to purchase securities sold in such fire sales, but in turn reduce credit supply, causing liquidity shocks to spill-over. Our study contributes to the debate regarding optimal regulation of global banks and externalities arising from securities trading by such banks.

...read moreread less

5 citations

Journal Article•DOI•

An Empirical Assessment of Collusion in the Negotiable Certificates of Deposit Market in Korea: A Discriminant Analysis

[...]

Jiyoung Lee, Jung Jae Kim, Jinook Jeong

17 Jun 2022-Asian Economic Journal

TL;DR: In this paper , a general mixture regression model was proposed to discriminate the collusion period from the competitive period in negotiable certificates of deposit (CD) market during the period of Korea Fair Trade Commission (KFTC) investigation.

...read moreread less

Abstract: This paper econometrically evaluates if collusion actually occurred in the negotiable certificates of deposit (CD) market during the period of Korea Fair Trade Commission's (KFTC) investigation. We propose a general mixture regression model to discriminate the collusion period from the competitive period. We apply our method to Korean CD market data from 1 January 2009 to 23 May 2019 and forecast the probability of collusion for each day. We find that only a small portion—163 days out of 2579 days—of the whole sample is discriminated as a possible collusion. We also find that the banks did not issue the CD on almost all dates discriminated as colluded in our empirical results. Our findings imply a strong possibility that the stickiness of the CD rates was induced by the depressed CD market conditions rather than collusion.

...read moreread less

2 citations

Journal Article•DOI•

Interest Rate Swaps: A Comparison of Compounded Daily Versus Discrete Reference Rates

[...]

Robert A. Jarrow¹, Siguang Li¹•Institutions (1)

Cornell University¹

07 May 2021-Social Science Research Network

TL;DR: In this article, the authors studied the hedging effectiveness of interest rate swaps using different reference rates for eliminating interest rate risk from floating rate loans, and showed that the ∆-based interest rate swap provides a good static hedge, but the N-based swap does not.

...read moreread less

Abstract: This paper studies the hedging effectiveness of interest rate swaps using different reference rates for eliminating interest rate risk from floating rate loans. Two different reference rates are studied. The first is a reference rate whose maturity, ∆, matches the payment interval of the floating rate loan. The second is a reference rate whose maturity is ∆/N. The prime examples are LIBOR and SOFR, respectively. We show that the ∆-based interest rate swap provides a good static hedge, but the ∆/N-based swap does not. Although dynamic hedging with the ∆-based interest rate swap is possible under some conditions, it both introduces model risk and increases transaction costs, making it a less practical alternative.

...read moreread less

2 citations

Cites background from "Financial Market Misconduct and Pub..."

...…to obtain longer maturity reference rates, suitable for swaps, realized one day SOFR rates are compounded (in arrears), so a 1 month SOFR index rate is the 1The recent empirical work investigating the LIBOR manipulation includes Abrantes-Metz et al. (2012), Bonaldi (2017), and Gandhi et al. (2019)....
[...]

References

PDF

Open Access

More filters

Journal Article•DOI•

The Cross‐Section of Expected Stock Returns

[...]

Eugene F. Fama, Kenneth R. French

01 Jun 1992-Journal of Finance

TL;DR: In this paper, Bhandari et al. found that the relationship between market/3 and average return is flat, even when 3 is the only explanatory variable, and when the tests allow for variation in 3 that is unrelated to size.

...read moreread less

Abstract: Two easily measured variables, size and book-to-market equity, combine to capture the cross-sectional variation in average stock returns associated with market 3, size, leverage, book-to-market equity, and earnings-price ratios. Moreover, when the tests allow for variation in 3 that is unrelated to size, the relation between market /3 and average return is flat, even when 3 is the only explanatory variable. THE ASSET-PRICING MODEL OF Sharpe (1964), Lintner (1965), and Black (1972) has long shaped the way academics and practitioners think about average returns and risk. The central prediction of the model is that the market portfolio of invested wealth is mean-variance efficient in the sense of Markowitz (1959). The efficiency of the market portfolio implies that (a) expected returns on securities are a positive linear function of their market O3s (the slope in the regression of a security's return on the market's return), and (b) market O3s suffice to describe the cross-section of expected returns. There are several empirical contradictions of the Sharpe-Lintner-Black (SLB) model. The most prominent is the size effect of Banz (1981). He finds that market equity, ME (a stock's price times shares outstanding), adds to the explanation of the cross-section of average returns provided by market Os. Average returns on small (low ME) stocks are too high given their f estimates, and average returns on large stocks are too low. Another contradiction of the SLB model is the positive relation between leverage and average return documented by Bhandari (1988). It is plausible that leverage is associated with risk and expected return, but in the SLB model, leverage risk should be captured by market S. Bhandari finds, howev er, that leverage helps explain the cross-section of average stock returns in tests that include size (ME) as well as A. Stattman (1980) and Rosenberg, Reid, and Lanstein (1985) find that average returns on U.S. stocks are positively related to the ratio of a firm's book value of common equity, BE, to its market value, ME. Chan, Hamao, and Lakonishok (1991) find that book-to-market equity, BE/ME, also has a strong role in explaining the cross-section of average returns on Japanese stocks.

...read moreread less

14,517 citations

"Financial Market Misconduct and Pub..." refers methods in this paper

...We use non-overlapping average monthly submissions 20Financial stocks are typically excluded from the construction of Fama and French (1992) factors....
[...]

Posted Content•

CEO Incentives and Earnings Management

[...]

Daniel Bergstresser¹, Thomas Philippon², Thomas Philippon³•Institutions (3)

Brandeis University¹, New York University², National Bureau of Economic Research³

02 Feb 2005-Social Science Research Network

TL;DR: This article found evidence that the use of discretionary accruals to manipulate reported earnings is more pronounced at firms where the CEO's potential total compensation is more closely tied to the value of stock and option holdings.

...read moreread less

Abstract: We provide evidence that the use of discretionary accruals to manipulate reported earnings is more pronounced at firms where the CEO's potential total compensation is more closely tied to the value of stock and option holdings. In addition, during years of high accruals, CEOs exercise unusually large amounts of options and CEOs and other insiders sell large quantities of shares.

...read moreread less

1,771 citations

"Financial Market Misconduct and Pub..." refers background in this paper

...Bergstresser and Philippon (2006) and Burns and Kedia (2006) show that performance-based compensation incentivizes managers to manipulate prices through misreporting, earnings management, and fraudulent accounting....
[...]

Federal Reserve Bank of New Yorkの制定せる財務諸表様式について

[...]

嘉一郎西野

01 Feb 1951

...read moreread less

1,236 citations

"Financial Market Misconduct and Pub..." refers background or methods or result in this paper

...Recent banking scandals, such as the manipulation of the London Interbank Offer Rate (Libor) and the fixing of foreign exchange, have once again impaired trust in the financial markets. These cases of financial market misconduct are unprecedented in terms of the number of banks involved and the potential impact on the real economy. The regulators responded by large scale investigations and historically large penalties for the involved banks. However, it still remains a largely open question how effective are these measures. Is improved enforcement of existing regulations enough to prevent widespread financial market misconduct?1 How does financial market misconduct vary across countries with different enforcement intensity? Are the imposed penalties sufficient to outweigh the potential gains from misconduct? In this paper, we tackle these questions by analyzing the events surrounding the manipulation of Libor. We start by a comprehensive analysis of the extent and the main driving forces of Libor manipulation. Then we use differences in enforcement intensity over time and across regulatory regimes to assess the effect of enforcement intensity on the propensity to engage in Libor manipulation. Libor was introduced by the British Banking Association (BBA) in 1986 as a measure of the inter-bank borrowing rate and is now a crucial reference rate for spot and derivative contracts with notional value of several hundred trillion dollars. The allegations of Libor manipulation started with a 2008 Wall Street Journal article (Mollenkamp and Whitehouse (2008)) and eventually led to widespread investigations into Libor manipulation. Nine large international banks have already reached settlement agreements with regulators, and several banks are still under investigation.2 The case of Libor manipulation provides a unique opportunity to study the effects of enforcement on the propensity of market participants to engage in financial market misconduct for three reasons. First, while regulators launched formal investigations soon after the first allegation of Libor manipulation, no changes were implemented in the way Libor is computed until (1)For corporate fraud, Dyck, Morse, and Zingales (2014) argue that only one quarter of cases are detected and on average one out of seven large publicly-traded US firms are engaged in fraud....
[...]
...This is consistent with the mixed evidence for the signaling hypothesis in studies that compare Libor submissions to alternative proxies for banks’s borrowing costs (e.g., Abrantes-Metz, Kraten, Metz, and Seow (2012)). Having established the main channel for Libor manipulation as the cash flow hypothesis, we next test how the evidence for Libor manipulation varies with enforcement intensity. Theoretically, enforcement affects the level of financial market misconduct by altering the expected legal costs of misconduct. The expected legal costs depend on the size of the potential penalties and the perceived probability of being discovered. These costs are therefore difficult to measure ex-ante (Becker (1968)). In the case of Libor manipulation, however, the passage of time and (8)The USD, GBP, JPY, and CHF for the 1-, 3-, and 6-month maturities. (9)Deutsche Bank calculated that, as of September 30, 2008, it could gain or lose as much as 68 million Euro per one basis point change in Libor (Eaglesham (2013))....
[...]
...This is consistent with the mixed evidence for the signaling hypothesis in studies that compare Libor submissions to alternative proxies for banks’s borrowing costs (e.g., Abrantes-Metz, Kraten, Metz, and Seow (2012)). Having established the main channel for Libor manipulation as the cash flow hypothesis, we next test how the evidence for Libor manipulation varies with enforcement intensity. Theoretically, enforcement affects the level of financial market misconduct by altering the expected legal costs of misconduct. The expected legal costs depend on the size of the potential penalties and the perceived probability of being discovered. These costs are therefore difficult to measure ex-ante (Becker (1968))....
[...]
...Furthermore, not all the 150 Libor 15Note that manipulation in the Libor markets differs from manipulation in other financial markets....
[...]
...for a subset of banks, for which a more detailed interest rate data exist, we show that our measure of bank’s Libor exposure is correlated with a bank’s Libor exposure estimated from balance sheet data. Third, we present a number of tests to show that our results cannot be explained by the differences in banks’ general exposure to the interest rate risk. Finally, we show that our approach is robust to potential endogeneity in the estimation of the Libor sensitivities of banks. We use data on Libor submissions from 1999 through 2012 from Bloomberg for the 12 most important Libor currency-maturity pairs as identified by Wheatley (2012).8 We find strong empirical evidence consistent with the cash flow hypothesis....
[...]

Journal Article•DOI•

The Impact of Performance-based Compensation on Misreporting

[...]

Natasha Burns¹, Simi Kedia²•Institutions (2)

University of Texas at San Antonio¹, Rutgers University²

01 Jun 2004-Social Science Research Network

TL;DR: In this paper, the authors examined the effect of CEO compensation contracts on misreporting and found that the sensitivity of the CEO's option portfolio to stock price is significantly positively related to the propensity to misreport.

...read moreread less

Abstract: This paper examines the effect of CEO compensation contracts on misreporting We find that the sensitivity of the CEO's option portfolio to stock price is significantly positively related to the propensity to misreport We do not find that the sensitivity of other components of CEO compensation, ie, equity, restricted stock, long-term incentive payouts and salary and bonus have any significant impact on the propensity to misreport Relative to other components of compensation, stock options are associated with stronger incentives to misreport because convexity in CEO wealth introduced by stock options limits the downside risk on detection of the misreporting

...read moreread less

1,026 citations

"Financial Market Misconduct and Pub..." refers background in this paper

...Bergstresser and Philippon (2006) and Burns and Kedia (2006) show that performance-based compensation incentivizes managers to manipulate prices through misreporting, earnings management, and fraudulent accounting....
[...]

Journal Article•DOI•

The Effect of Interest Rate Changes on the Common Stock Returns of Financial Institutions

[...]

Mark J. Flannery, Christopher M. James

01 Sep 1984-Journal of Finance

TL;DR: In this article, the authors examined the relation between the interest rate sensitivity of common stock returns and the maturity composition of the firm's nominal contracts and found that the co-movement of stock return and interest rate changes is positively related to the size of the maturity difference between the nominal assets and liabilities.

...read moreread less

Abstract: This paper examines the relation between the interest rate sensitivity of common stock returns and the maturity composition of the firm's nominal contracts. Using a sample of actively traded commerical banks and stock savings and loan associations, common stock returns are found to be correlated with interest rate changes. The co-movement of stock returns and interest rate changes is positively related to the size of the maturity difference between the firm's nominal assets and liabilities.

...read moreread less

859 citations