The recent news that the worldwide Libor interest rate is going to be replaced after years of scandals about it being fixed by some of the world’s largest banks has started a slow-motion earthquake that is going to rattle interest rate lending worldwide.

It also is going to be one of the most expensive fixes ever to be applied to the $350 trillion in derivatives, bonds, loans other financial products benchmarked to the index which began in 1986.  

The scope of this astounding price-fixing scam—$300 trillion worth of securities are pegged to the LIBOR interest rate and affect billions of borrowers—should translate into a no-faith vote in the world’s largest banks, including Barclays, Bank of America, BNP Paribas, Citigroup, Goldman Sachs, HSBC, Royal Bank of Scotland, and UBS.  In May 2015, five institutions, including JPMorgan Chase and Citigroup were fined roughly $5.7 billion combined, and four pleaded guilty to U.S. criminal charges over the currency market misconduct, authorities said Wednesday. A fifth bank, UBS, plead guilty to rigging benchmark interest rates, the U.S. Justice Department said.

And while the U.S. Financial Services Industry, including investment firms, banks, fund companies and insurance companies, are incessantly complaining about the high cost of complying with government regulations and their anti-competitive impacts on selling financial services, the billions in costs to replace the LIBOR benchmark will dwarf any expense ever traced back to pro-investor reforms originating from federal or state regulators.

In short, the financial services industry will now have to shoulder billions in accounting, borrower communications, servicing, re-pricing, technology and security changes just to accommodate the switch from LIBOR to a new and yet unnamed, new benchmark that will cover loans on everything from cars and homes to personal, construction and corporate loans.

(Since a replacement index has not been named, there are no reliable figures on how much it will cost to replace and recalculate the trillions in loans benchmarked to LIBOR.)

And as noted in numerous previous columns on this site, the cost from this huge re-benchmarking program, probably the largest ever done in the financial services industry, is due to mismanaged and corrupt business practices that were totally inside of the world’s largest banks that managed the daily benchmarking in the first place.

Just to get a scope of this problem, LIBOR offers daily average interest rates for five currencies (the U.S. dollar, euro, British pound, Japanese yen, and Swiss franc) and seven lending periods (ranging from overnight to 12 months). In total, there are 35 different daily LIBOR rates. LIBOR is governed by the International Exchange (ICE) Benchmark Administration. The ICE calculates the LIBOR rates every day by surveying participating banks, according to Investopedia.

This scandal was also done in an unregulated market, which exists alongside the regulated financial marketplace that has seen an even-increasing number of large, front-running and insider trading scandals.  The similarities have to be noticed. While many will deny it, front-running and insider trading are what drives the most profitable banks and trading firms over time.

As noted in an earlier Bloomberg article, the LIBOR price-rigging “has been going on for a least a decade and involved trillions of dollars in loans, including mortgage loans made to unsuspecting U.S. home buyers, tied to the rigged LIBOR rates.

“Employees have been front-running client orders and rigging WM/Reuters rates by pushing through trades before and during the 60-second windows when the benchmarks are set, said the current and former traders, who requested anonymity because the practice is controversial. Dealers colluded with counterparts to boost chances of moving the rates, said two of the people, who worked in the industry for a total of more than 20 years.”

Who Pays for Corruption?

Like any major shift in the financial markets, there are winners and losers.  The losers will be shareholders who will have to pay for their financial firms to should the huge expenses. But there will also be winners in the form of traders and some large banks who will make money on the interest rate spreads and fees associated with the huge task of re-configuring a global benchmark that affects billions of loans.

In the words of Bloomberg columnist Matt Levine, “The irony is too obvious: The banks created Libor, they manipulated it, they paid billions of dollars of fines for that manipulation, the manipulation effectively destroyed Libor, now all sorts of Libor trades will have to be replaced, and the banks will have just a grand old time doing that replacement.”

Levine said the banks will be able to victimize their own clients since they can effectively trade against them during the rate reconfiguration process for the simple reason that they will be more expert in the intricacies of the new benchmark than their clients.

This age-old asymmetrical information advantage works well for fund companies and banks that sell mutual funds to unsuspecting investors for their retirement accounts, and now this same asymmetrical advantage will work against more sophisticated institutional clients who don’t have any idea about the details of the new LIBOR-replacement benchmark.

This LIBOR event should renew the debate about the fiduciary standard, which is essentially about taking advantage of unsophisticated clients due to one side knowing more about the product than another.

The main difference with the LIBOR-re-adjustment process is that some of the unsophisticated clients will be pension funds and institutional investors who will be clipped for millions in fees, plus the money they pay for sophisticated consultants and advisors who will also be fooled.

It’s bad karma to let the fiduciary standard fail for the unsophisticated individual investors only to have it return to take advantage of the faux sophisticated institutional investors.