Libor and the Destruction of Trust

In his Wall Street Journal MarketBeat post, Paul Vigna looks at the Libor scandal, its destruction of trust in both banks and regulators, and concludes that markets only work for society when they are open and honest.

The key characteristic of an open and honest market is that all market participants have access to all useful, relevant information in an appropriate, timely manner so they can make a fully informed investment decision.

In short, transparent markets work for the benefit of society; opaque markets work for the benefit of an elite few.

That investors shouldn’t trust the capital markets to safeguard their investments has been made painfully and abundantly clear the past decade. That investors have little choice but to put their money on those same markets is just as clear. Therein lies the dilemma. 

Today’s spectacle, a senior member of the Bank of England, Paul Tucker, testifying in Parliment about his role in the Libor scandal is the latest blow to any sense of trust in the marketplace..... 

The Libor scandal is mushrooming right now. The degree to which this one particular benchmark is being exposed as not only flawed, but widely gamed, is the latest scandal to undermine investor trust in the markets. 

This decade hasn’t been kind: misleading market research during the dot-com bubble, the insider trading scandals, high-frequency trading that freezes out average investors, Goldman’s double-sided Abacus trade, the Flash Crash, even Facebook’s IPO to some extent. 

It all points to one conclusion: The market is rigged and it’s not a safe place to put your money....

Not surprisingly, investors are heeding Mark Twain's advice and worrying about the return of their money and not the return on their money. 

It’s not just the scandals, or the limited options. The markets have changed in fundamental ways in the past decade-plus ...The markets are going dark.

 Opacity spreading far and wide.

The Libor scandal takes the cake, though. The Journal first uncovered this rigging four years ago, and what’s emerging now is a picture of a poorly kept-secret: That the key benchmark used to price literally trillions worth of investments was routinely being gamed by banks for their own profit. All of this most directly hurts investor trust. 

We need capital markets. We need open, honest exchanges where excess capital can be utilized efficiently to help build new companies. When that’s the overriding goal of the capital markets, they work fine. When the overriding goal becomes to make a select group of insiders fabulously rich at the expense of everybody else, crashes, panics, and depressions follow.