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Benchmark boycott shows regulatory tail risk trumps common good

FT 1 October 2014, by Jonathan Guthrie

Fines are growing in tandem with presumptions of wrongdoing

Statistics are agreed to be triple-distilled dishonesty. But they give us the Dutch courage of bogus certainty in a chaotic world. That explains the movement by regulators to reform compromised financial benchmarks, rather than abandon them. Except that banks, spooked by regulatory risk, are bailing out anyway. Which could force investors to limp into a future where there are fewer statistical crutches to lean on.

Banks submit the price estimates on which numerous benchmarks are based. Infamously, some skewed their assessment of borrowing costs to influence London Interbank Offered Rates, against which a host of financial products are based. Watchdogs hit the likes of Barclays and Royal Bank of Scotland with fat fines. Evidence in settlement filings made plain that misdeeds took place. Banks such as Citigroup, JPMorgan and UBS, might therefore be criticised for timidity in quitting rate submission panels. So long as they act honestly, what’s to fear?

However, fines are growing in tandem with presumptions of wrongdoing. The pace has been forced by US regulators such as the New York Department for Financial Services, which compete for fines and influence. Banks can hardly withdraw from the 4pm London foreign exchange fix, which uses real deal data. Here, they seek to trade at prices close to the benchmark at clients’ insistence.

It is easier for nervous banks to boycott benchmarks based on their price estimates or second-hand reports of their deals. These include Libor, the Isdafix interest rate swap standard and some commodity fixes. However, tottering benchmarks would cause turmoil for investors no longer able to price contracts worth trillions. That would be just another negative unforeseen consequence of over-regulation. The need for governments to yank on the choke chains of watchdogs such as the NYDFS is clearer than ever.

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