Grubstakers - Episode 190: Eurodollar, SOFR & the Origins of the Libor Scandal

Episode Date: September 11, 2020

Join us as we get into the weeds of Eurodollars, the Libor rigging scandal during the 2008-9 financial crisis, and the Libor replacement known as SOFR (the "secured overnight financing rate"). SOFR is supposed to be safe against manipulation that happened to Libor; but is it? We'll look at the mechanics of how Wall Street and London City bankers could still ruin wholesale credit for everyone, again, on Grubstakers CIA Paper on Soviet banks in the west in 1969: https://www.cia.gov/library/readingroom/docs/DOC_0000233857.pdf?fbclid=IwAR2GIP9__UuFi0eMddht7_xl83cplWQoW9oMspKNc7tD57WuzXNEvPkPhu8

We find people that basically can't make enough to eat before they go into the fields. I don't believe that. I think that you're looking at other places that are not Central Romana. People actually who focus on and who like getting an orgasm never get one. Pull up your socks and figure out what you're going to do. Any chance we'll ever get to be a complete red state? Oh, yeah. Well, the future is always uncertain. But more uncertain now.

Listen, Blue Ivy is six years old. Beyonce's days, she tried to outbid me on a painting. Everybody in Atlanta right now at the Louis Vuitton store, if you black, don't go to Louis Vuitton today. That's why you need to take a meeting with Kanye West, Bernard Arnault. Hello, everyone. Welcome back to Grubstakers. I'm Steve Jeffries. And today I'm joined by my co-hosts, Yogi Poliwalt, Sean P. McCarthy. Today, we're following up on a topic we mentioned briefly during an earlier episode covering offshore money.

It's a great episode and you can find it on our SoundCloud for Grubstakers. Namely, today we're covering euro dollars and the LIBOR scandal. The LIBOR rigging scandal during the financial crisis of 2008 and 2009 was uncovered in the immediate aftermath. If you've listened to our offshore money episode, or if you have heard of the Panama Papers, or are just generally interested in tax havens and what the rich are doing with that, you know it's a huge problem uh the rich have this ability to sock away billions upon billions of dollars settled funds offshore in tax haven countries they're given this safe route around regulations and the tax code that normal people like me and my hosts and you don't have access to.

Yes, we are not engaged in any tax fraud whatsoever. All of our books are in order. I don't know, Stephen. We might have some billionaires listening to this show. You never know who's listening and committing tax fraud and also enjoying Grubstakers. Yeah, well, if you're a billionaire listening to Grubstakers right now and you feel guilty, then you can always sign up

for our highest payment tier and we'll never do an episode about you. That's right. Look, if you work for the IRS, I don't care if you want us to do more episodes, if you want us to do less episodes, we can work something out. Just don't audit us.

Don't ask about what we did with the taxes this year. These Bermuda shell companies, I've never heard of them. Yes, we've noticed Grubsticker's LLC is connected to the corporation Really Good No Corruption Here LLC in Panama. Could you please explain that, Mr. Pollywall? It's right in the name of the corporation, in Panama. Could you please explain that, Mr. Pollywall? It's right in the name of the corporation. No corruption. They don't let you name the corporation that if there's corruption in it. That's false advertising.

That would be illegal. They told us it was going to cost more if we wanted a custom name and we went with something that was the gold standard, if you know what I mean. So if you stuck with us through the Offshore Money episode, then you necessarily had to go through some pretty complicated um descriptions of just how they would do these these uh financial operations and we mentioned one one such tool for offshore finance called euro dollar which is really just a word for when dollar denominated deposits are created

outside of the u.s as they are on the regular throughout the whole world now and it only has euro in the name just because back in the day it was chiefly done in london and so they just named all of it euro and stuck with that i like how laziness prevails in all industries it's not just podcasting or comedy it's it's banking it's the financial world yeah euro dollars fuck it who gives a shit it sounds to me like we need to decolonize offshore money laundering yeah it just needs more diversity so the rich's ability to sock away settled funds is already grotesque enough and also fairly complicated. So thank you for sticking with us if you listen to the Offshore Money episode on that.

And if not, check it out. offshore banking, namely lending of dollars on a credit basis outside of the U.S., not subject to most of the regulations that you would be if you were operating in the Federal Reserve System. Like if you're using FDIC insured funds you have to report where the money is going who it's going to, the nature of your business yada yada yada on the regular whereas with Eurodollar deposits you don't have to do that generally

and it's a very attractive investment like on a short term basis for people for a variety of reasons to use as a means of payment by countries to get necessary imports and other legitimate things like that but there's also illegitimate uses and such as what transpired with the libor rigging scandal and so it's kind of this mix it's it's not nearly as discussed as say the panama papers were and

the panama papers were shockingly showed up shockingly little in the news so you can imagine how much euro dollars come up in the general consciousness but we thought it would be useful just explain what they were if the fdic is like rubbing your ass with sandpaper, Eurodollars are like a bidet. It's just really easy. It lets you get that shit done with less regulation. It's European. So why do banks issue Eurodollars? Well, the simple answer is because they can make a ton of money doing it.

And we'll get into just how big this market is but it's enormous and but the longer answer is what basically we're talking about today which is that your dollars or like i was saying dollar denominated bank deposits that were originated outside of the U.S. What they literally are is short-duration time deposits and cashed-in CDs, which banks create outside of the U.S. And they generally only have a duration of like three months, if that. Oh, really? And people use them as like a short-term funding source nowadays for like banks use them as like a short-term funding source nowadays for, like banks use them as a funding source to settle their payments against each other.

And occasionally traders will even use them as a means to do what are called carry trades between currency options and stuff like that. And so in a lot of ways, they're like a really attractive investment. And Eurodollars have many legitimate uses also, such as buying imports that are available only in dollars that you otherwise wouldn't be able to on a credit basis. But they also have nefarious uses, so we'll get into that. So it's sort of like a strength,

but it's a strength of the system that you offer these things, and I'm not inherently against it in principle, but it's also a potential weak point in that it has this very little oversight over it. And there are a few huge players who do have incentive to manipulate things for their own purposes like in uh in for trading and stuff and such and so i guess in terms of the illegitimate uses one of the incentives of going outside of the united states to get your dollar deposited accounts is it's not subject to,

as we mentioned, FDIC and other U.S. regulators. I would assume the main illegitimate reason to do this is to get away from U.S. regulators of the dollar that you would be subjected to if you did dollar denominated accounts within the United States. Right. So there's onshore money. Onshore U.S. dollar creation is done almost entirely through the Federal Reserve System, which has all these regulations. And so big banks, some specialty lending outfits, and the very rich often use euro dollars as a way to get short-term dollars for relatively cheap without all of the skirt the regulatory scrutiny so going back to like the good uses of it is the reason why it's got less regulators so that you could do more things that were intended to be for good reasons or am i misreading that it's a bit complicated so the history of it was when we had the first bretton woods system that that uh famous conference at bretton woods new hampshire where they just decided we were going to be on a fixed exchange rate regime and have all these

uh gold convertibility rules and whatnot um that was soon after that happened is when euro dollars came into existence and they did so as a way it was partly born out of like you know obviously uh it was an area for banks to make money supplying this credit on a wholesale basis overseas but it was also giving like developing countries access to dollar markets that they wouldn't otherwise have. Gotcha. And if you need to buy a bunch of capital equipment to build your agricultural sector

or something like that in your developing country, and you need dollars to do it, then it's rather expensive to go to the Federal Reserve or a U.S. bank to do it. It would be cheaper to use the euro dollars. Gotcha. That makes sense. Yeah. So that's a legitimate use. Now, euro dollars are priced in LIBOR.

And LIBOR is something we also talked about in the episode I mentioned. There was a scandal in which it was rigged uh so libor just as a recap is an average of several large banks in the u.s japan and london what their of what their costs of funds are. And all these banks each day would submit their rate to the LIBOR committee. Right. And then they would use the average of whatever they were and say, all right, this is today's LIBOR rate. And then from there, lots of different other products in banking use it as a reference

rate. And a reference rate is just like when you're pricing a banking product, you say, here's my reference rate, here's the margin over that, the markup over my costs that I need in order to make a decent profit. And that's what my price is going to be or my interest rate that i charge people and libor was important because it still is actually for a little while longer in that it's it's used as a reference rate for lots and lots of banking products that people use every day like a home equity line of credit against a single family home is often using LIBOR as the reference rate. So when the LIBOR scandal broke out, i.e. when they were submitting fraudulent rates to LIBOR for its average, they were necessarily fucking with how much people had to pay banks

to pay back their home equity lines of credit and certain mortgages and stuff so it's really evil if you think about it and in terms of like what they're literally doing like with the fraud and what it goes into uh it's very evil and it's like it's skimming a little bit for millions of people and making their lives just a little bit harder in order for you to make a short-term trading profit. Right. I like how the episodes are going from, like, pre-calculus to calculus, where we started out with... Okay, yeah, so I hope you were paying attention last class when, in between talking about how sexy Antonio Banderas is, we explained Libor to you. So I hope you remembered Libor because you're going to need to understand Libor to understand

this next concept we're introducing in this episode. That's right. That's right, everyone. It's a Steve-up. Listen, I think I got a good way of dumbing it down. Okay. So you're at a bar, all right? And you're getting, let's say chicken wings or mozzarella sticks or whatever right so libor is the people that printed up the menus right but the people decided that fuck the libor people we're going to print our own menus they got a higher cost and so the customer then pays 80 for mozzarella sticks but the cost of the server is only you know 10 bucks not that the server's got to buy it, but they do in this situation. So they're pocketing the $70 and fucking over the customer. I don't know why in this example I decided to make it $80 for mozzarella sticks,

but in the grand scheme of analogies, this one most likely kind of works in that the server is then pocketing money that uh the live war was supposedly supposed to regulate and steven how long had this been going on this mozzarella stick server bar situation that i posed to you well the light that they know of it was going on from about 2001 to 2012. Okay. So, long time. There are some reports I've heard that it went back. It was happening earlier. But the SEC's case against the banks that had traders doing this only span from the time period I mentioned.

But every now and then you'll hear a report. I think, Sean, you're looking up one where there was a trader from, said that it was still going on in 1991. Yeah, there was a Financial Times article from 2012 that quoted a trader as saying it was, LIBOR manipulation was widespread going back to at least 1991. And then, you know, a statistic I think we gave on the offshore money episode is that libor

kind of underpins interest rates on approximately 350 trillion u.s dollars worth of derivatives so you know just like so many global financial products are linked to it and if you take the manipulation all the way back to 91 this is uh you know it's a fraud a financial scam that dwarfs any other in history by just orders of magnitude the amount of money people were able to skim off the top by doing this yeah so it's it's really a shame that that story kind of got lost amidst everything else that was going on right because like even though what we're actually talking about is they submit fraudulent rates. They're just a few basis points different than what you would expect given their actual costs.

But if it's $350 trillion worth of stuff that's priced in LIBOR, then it doesn't take that many hundredths of a percent to really fuck things up. Yeah. Because there's lots of, I mean, there's the home equity lines of credit like i was mentioning but there's also more exotic things such as uh futures currency futures contracts and stuff and euro dollars yeah what i like is you know the real gangsters in the world you have to do homework to even understand what they're doing like like you can figure out El Chapo and the Sinaloa cartel pretty quickly, but to get fucking LIBOR, you got to sit through two Grubstakers pre-calculus lessons, and now we're moving you on to advanced calculus with Grubstakers, just so you can understand why these people are gangsters and criminals. Steven, the one question I had for you was that when you mentioned the fraudulent paperwork, what were they doing exactly? Were they adding zeros to numbers,

or was it like they just didn't show? I'm intrigued to hear how the scandal actually works. Yeah, what was literally happening was each bank was required to report in what their LIBOR number was, which is really just an interest rate. or more likely like an email or just talking in person that said, instead of submitting 37, can you please submit 39 so that some bullshit reason. And then what actually, what they,

what was really happening is they wanted to submit S39 so that this guy could write a futures contract based on the 37 and then get back a profit because it goes up to 39 later. So they're trying to move around what the actual reported LIBOR for the day is by submitting a higher one in the hopes that it raises. Because like LIBOR itself is an average of all these different submissions from the banks. And so some of the banks and the traders were coordinating with each other to raise and lower it in the way that was out of line with the estimates of cost that the banks needed as per LIBOR. I see. That is like the most boring way to ruin the world.

It's one of the most benign evils. Well, I mean, it's a conscious decision by the banks, but then it's just like it's skimming a little like all of a sudden, all of a sudden your loan payment is a little bit higher and you don't know why right and it could well be because of like a london a city like a london city trader just needed a favor that day so that his position could make a profit and like that would literally be the reason that's dumb like This is fraud 301. Yeah, this is like, I don't know. It's crazy how much it sounds similar to the Office Space Superman 3 plot where they're skimming a percentage of a percentage to raise an average to then bet on the average to then allow them. I mean, this is the library case not office space but it like it it's so to simplify it only makes it sound like it's a scheme that could never work

but it clearly did for a decade well it's like i mean it is a mafia scheme where you know if you were trying to build something in new york in the 70 or 80s, all right, so you got to use this fucking mobbed up guy's cement company. And he's going to send you cement, but it costs a little bit more. Or you got to, you know, use his waste management company. He's going to take care of your waste, but it costs a little bit more. So it was just kind of what's happened with banking, you know, since the collapse of the New Deal is it's returned to this um really gangster profession that has no concept of fiduciary duty and the idea that your responsibility is to you

know be conduct yourself with honesty and integrity and to make your clients money not to make yourself money and and it's just like the thing is we we talk about libor and i think it's no matter how many times we emphasize it it's easy to almost think this is not that big a deal. This is like, you know, like not as significant as the 2008 crisis or whatever else. I just want to like give you a quote here from Andrew Lowe, MIT professor of finance on the LIBOR scandal. This dwarfs by orders of magnitude any financial scam in the history of markets. Wow. So, like, in all of recorded history, this is, by orders of magnitude, the greatest and the largest financial scam ever executed.

Yep. It went on for longer. It involved larger notional values than the mortgage crisis uh i mean the mortgage crisis directly impact impacted homeowners in a way that you could argue that the library scandal did not but this was just nickel and diming average people across the world for at least 11 years years wow so and um i should emphasize that they were sort of the dumb like the the dumb explanation of libor for people who sort of half care is that oh it was they were price fixing instead of letting it run with the market rate or something. But, I mean, you know what? I mean, people set prices all the time.

That's how most companies set their prices. They have someone who just decides what it should be, and there's nothing wrong with that. What was wrong is that they didn't state, there's rules to LIBOR, and they weren't following them, and they were just setting prices that didn't have anything to do with the bank's actual cost for the day.

So it was fraud. That's not the same thing as merely setting a price. They're trying to replace the LIBOR in 2021 with another reference rate called the Secured Overnight Financing Rate, or SOFR, also known as SOFR. And there's a couple other reference rates that they're considering, such as the euro short-term rate or the easter if you will ester easter unfortunately though these aren't manipulation proof so these ones so far which we're talking about today is the u.s one and it's supposed to be less prone to manipulation because it's it includes a broader measure of different costs that banks are going to just submit as part of their regular filings with the FDIC. And to just give you a full measure of the cost of borrowing cash overnight collateralized by treasury securities so this is something that it's a lot harder to gain

you could still do it though it's just you wouldn't be able to just make up one number and then submit it like you would with ybor right you'd have to you'd have to have an entire department of people in a bank who were systematically inflating inflating the costs of their business so that and then submitting that and then telling the traders beforehand and then they could write securities based on SOFR which were using the fake one the the fake rate as part of their price and then they would profit off of that so there's a few extra steps this time but it's still possible but so it's established that this is uh going to replace LIBOR because I know there were like LIBOR reforms to bring it more under UK jurisdictional control.

And then I guess they've kind of set it up to phase out LIBOR and bring in this new system. Yeah. So this group called the Alternative Reference Rate Committee, Commission? Committee. They've been working with partners at banks in the industry to roll out their

replacements for LIBOR in the form of SOFR and then the Euro version of SOFR. And the idea, that's what they're working towards, basically. They want to replace it in 2021. So like I was saying, unfortunately unfortunately sofr is not manipulation proof so banks while so banks cannot submit biased estimates like they did with libor this time but they can influence the benchmark by borrowing or lending at a biased rate so if you had a bunch of people consistently uh offering extending people credit on an inflated rate or a deflated rate that's over above wherever the sofa was legitimately earlier then you can still affect it and it's not just a theoretical possibility so a ft article reminds us that, for example, in the 2014 scandal around the manipulation of foreign exchange benchmarks involved exactly this strategy.

Given that the market for benchmark index contracts is much larger than the wholesale funding market, gains from manipulating the benchmark would often outweigh losses generated by trading at biased rates so it might seem like okay they have to inflate their costs so doesn't that cancel out any benefit from rigging and it's like no actually because there's more of a business in in the areas that they could feed the fake rate into than the one in which they had to inflate the costs in the first place. So they gain more than they lose, basically. Or they could, if they were to rig SOFR in this way. It's just so funny to do this podcast for two years and then hear, yeah, so you're going to have to rely on the integrity of the major banks on Wall Street

and also rely on their deep fear of criminal penalties when they do misdeeds and just depend that those two factors are going to make them do the right thing here. Listen, when it comes to the world's finances, if you can't trust the big banks, who can you trust really? So who exactly created so far well it was made by a group called the alternative reference rate committee and or the a the

arrc and the arrc's membership is comprised of a set of private market participants and people at the Federal Reserve who, as a group, the Fed will propose rule changes based on Basel III or one of the international banking standards. And they'll ask the private companies for input on what they think potential issues would be.

And if that doesn't seem slightly worrying, then you're probably listening to the wrong podcast. CME Group, Coamerica, Deutsche Bank, Fannie Mae, the Ford Motor Company, GE Capital, Goldman Sachs, HSBC, AXA, the American Bankers Association, and the Association for Financial Professionals. And each of them has like a representative it's in something called a working group and they're tasked with giving feedback on whatever the fed or the sec proposes as part of this transition like for this transition plan to say get rid of libor and go to sofa right it's like if a cop pulled you over and went uh so how fast do you think I should be letting you go? Yeah, before we started recording, Stephen was explaining some of this to me, and I said, so it'd be like if a gun manufacturer was involved with the rules that cops used, and Stephen let me know that that's a thing that already is happening currently. So my hypothetical as to a dystopian future that may occur with the gun manufacturers

and the military in this country is something that actually does currently occur. Well, it does... Get the Glock episode on it. Yeah, yeah, like Glock... I wasn't there for that episode. Yeah. Oh, right.

Well, in the Glock episode, we were talking about how they they'll they'll link up directly with police departments and sell to them and like they lobby city and state police forces and will agree to long-term contracts to sell them glocks and that's like a decentralized thing but this is very centralized centralized compared to that right right so this is like a centrally planned uh government like a five-year plan essentially to go on to so far to um add on to that list that steven mentioned that's a part of the board that is the arrc from the newyorkfed.org the internal systems and processes transition aid for so far adoption at the end of the 56 page the Internal Systems and Processes Transition Aid for SOFR Adoption. At the end of the 56-page document, they have acknowledgements,

and the companies in that list are Essentia, Chatham Financial, DBRS, Deloitte, Goldman Sachs, KPMG, Morgan Lewis and Boclius LLP, Oliver Wyman and TD Bank. So these are individuals who made significant efforts to contribute to this document. The banking world works together in fucking over the common man. Did you guys see the New York Fed put out a statement in solidarity with Black Lives Matter? And I just thought it was so funny to me. It's like imagining the fucking Gambino crime family being like, yeah, Black Lives Matter.

My cousin Tony. Yeah, so this group, this committee, and these private companies, they're the ones who literally wrote SOFR in 2017. And they selected SOFR as the rate that represents what they thought was the best practice for use in certain new USD derivatives and other financial contracts, quote, um, representing the ARC's preferred alternative to USD LIBOR. And they say that SOFR is much, quote,

much more resilient rate than LIBOR because of how it is produced and the depth and liquidity of the markets that underlie it. As an overnight secured rate, SOFR better reflects the ways financial institutions fund themselves today. The transaction volumes underlying SOFR regularly are around $1 trillion in daily volumes. Yeah. The volumes underlying SOFR are far larger than the transactions in any other u.s

market now they said u.s market but what about non-offshore right that's the onshore market what about the offshore market is what i i would like to ask the arrc if i was there and that's where we get into euro dollar stuff which we found some interesting articles on sort of the history that we want just to give a short background of their use um so the first the first euro dollar contract was done on february 28th 1957 it was for some 800800,000 and that created the first euro dollars so it was the first offshore dollar creation

gotcha and ever since that time you find it in the news every now and then it pops up something about the euro dollar in the business press but I think the average person just doesn't really never going to hear the word basically except on this podcast um which actually said what i said which word is that

you're a dollar in case anyone was just wondering is it referring to china people as celestials i found an old article from new y Times from November 13th, 1979, that mentioned Eurodollars, for one example. And it's on a proposed rule change, because they called it the Eurocurrency market back then. It was kind of exploding. And if you look at the economic history, during the oil crises, Euro dollars also exploded as a way for people to get dollars beyond transacting in oil. So if suddenly nobody's trading oil, it's like a lot of people couldn't get dollars anymore. Oh, really?

Yeah. That's sort of the links up with the petrodollar stuff. At least insofar as I agree with the petrodollar, the evidence is there that people do need to sell oil often. Like the petrostates need to sell oil in order to get dollars and then they use those dollars to get needed imports so suddenly that dries up now you need to use euro dollars right yeah and this seems like a basic point but just to clarify so the euro dollar market is so dominant because the dollar is the reserve currency of the world

and i guess the basic definition of that is that the dollar the u.s dollar is the reserve currency of the world and i guess the basic definition of that is that the dollar the u.s dollar is the primary currency used to conduct global transactions therefore it is the reserve currency is that correct yeah yeah that's correct it's good to say up front actually it's a good call because uh if it was i mean if the yen was was the happened to be the global reserve currency, then I guess it would be euro-yen or something like that. There is euro-yen, but it's not actually... Because of their fucked up laziness in naming this shit in financial literature, everything is just euro- dollar regardless of what other country originated it. So sometimes you'll see it referred to as euro yen,

even though it's still dollars, it's just, it's done by a Japanese bank. Right. That's originating the dollars. So it's like, get your naming nomenclature straight. Are you telling me that if a Japanese bank creates US dollars, it's called Euro-Yen? Yeah, sometimes. They're hiding this shit from us.

It's too silly for us not to know about it. Just wait until I get my PhD in mathematics. It's over for these bankers. I'll finally understand what they've been up to it does seem like extra stupid like the fact that uh there hasn't been another name for it is very uh minor but just you know i don't know if i am smarter than i thought or if the world is dumber than i thought because everything we've covered on the show boils down to people that said that they were better than they were, promised shit that they couldn't, and then

ended up fucking the world over. That's like most of the stories we cover on this podcast. And in the case of banking, I've become the most disappointed because I remember as a youth thinking to myself, the people that are in frats that are getting drunk every night don't seem to have a future after college and now I'm learning no, the future they had was in banking

calling euro, yen, euro dollars and not really giving a fuck Yeah, can I just say I just finished the documentary The Last Narc on Netflix a four-part documentary series, or sorry, on Amazon Prime. I very much recommend it to people. by the CIA in Mexico because he had discovered that the CIA was running cocaine with the Mexican cartels directly into the United States imagine how easy it is to get away with this shit we're talking about? Where you just can't even understand what the fuck they're doing.

But they can just put a power drill through a DEA agent's kneecap and then nobody's going to say shit for 40 years. So this stuff that's totally incomprehensible, you can just imagine how much they're getting away with here speaking of the cia we found an old declassified cia research paper that was on soviet banks from from 1969 nice from 1969 It goes through, it's mainly concerned with Soviet banks. It was giving a history of Soviet banks outside of Russia, outside of the Soviet Union, rather. And how they've been financing international operations for communist parties in other countries and the cia was pretty a little worried

that they were getting into the euro currency market the euro dollars and using that to finance like like liberation uprisings elsewhere and that it would be kind of like they would leverage that to to fund like rebels in other countries that the U.S. had interest in. Right. And Sean, I think you read the CIA paper and have some findings on it. Yeah, I read the paper. It's just 18 pages. And it's just kind of a basic overview of what Soviet banks were up to in the West in 1969.

Nice. They talk about the Moscow Nerondi Bank in London, MNB, and BCEN Bank in Paris. So these were both owned by, they were directed and owned by the State Bank of the Soviet Union and the Foreign and Trade Bank of the Soviet Union. But these two banks, you know, in Paris and London, they hired local nationals as kind of the staff of it. And they hired them based on banking expertise, not for ideological reasons. So it's just kind of like the Soviets set up this bank in London and one in Paris. They set up another one in Switzerland. And they use it to kind of, for a few different reasons, they use it to facilitate trade between the East and the West. They use it to extend credit to Soviet regimes.

They also just use it as a profit-making opportunity. Apparently, the CIA was estimating that these two banks, MNB in London and BCEN in Paris, were getting about a 10% return on capital. And they were kind of mainly interested in the European banks because they felt that in the event of a deterioration in relationship with the United States, it was less likely that their assets in these banks would be seized in Europe than they would be if they were in New York or somewhere else. And I guess it's all, and you know, and the CIA also speculates about how there was intelligence value, like for spying of just being involved in these Western financial markets, because these things, just because they're Soviet Union-owned, they still conduct transactions like any other bank. They make business loans. They extend short-term credit. They hold account balances.

So just doing that, you interact with the entire Western financial system, and you kind of learn what's going on with the major Western banks, what's going on with the governments associated with them. And then just like one other kind of observation I had, the CIA in 69 estimated that the value of these two banks, their assets, exceeded 1.6 billion U.S. dollars. And, you know, I mean, that's 1969 money, but it is kind of worth emphasizing that the Soviet Union was always just this kind of mouse that was turned into a tiger by the Western military-industrial complex. Because, like, $1.6 billion, I mean, it's a lot of money, but you compare it with, like, just the amount of money flowing through the entire Western financial system, it's not like these people were dominant. And in fact, the CIA report lays out these Soviet banks actually just didn't really have the resources to make medium or long-term, or to make many medium or long-term loans.

They were mostly engaged in short-term lending. And in fact, the Soviets and people associated with the bank would actually rely on Western banks to make most of these medium and long-term loans just because they had more capital access. But it's an interesting paper. It just kind of explains how this world euro-dollar market works. And it, of of course said that both of these banks were heavily involved in that and were making profit uh through that market certainly the mouse that roared so jumping back to today the it's difficult to get an estimate on just how large the euro dollar market is for obvious reasons since it takes place in the shadow banking system and it's i mean the whole point of it a selling point is

that you don't know where and how much there is of it but there have been a few papers that try to estimate that and uh the range is quite wide so if you there's a few papers linked in the wiki, actually, for Eurodollar that say by 2016, the Eurodollar market size was estimated at around $13.8 trillion. claim that uses a somewhat different metric um by the the bureau of international settlement settlement bank of international settlements rather that puts the figure much higher at almost 57 trillion dollars by the end of 2018 and they're including everything over-the-counter derivatives uh debt liabilities um imports priced in euro dollars that were related later used to get real dollars um so that's kind of like the whole like the kitchen sink estimate of it would be about $57 trillion roughly around today. That's the most recent estimate I could find. But it's a huge market.

And so the problem with the euro-dollar market for system fragility is it's a credit system, which means it runs on the belief that if you did need to settle in real dollars, then you would be able to. So as long as everyone agrees that that is possible, they continue to transact with these little credits against one another that they can just net out at these offshore banks. So every time an offshore bank creates a euro dollar deposit right it's just it's really it's not going out and finding real dollars it's just creating these out of nothing

and has the belief that eventually if an if if they happen to have a net outflow of dollars from the deposits that they created it's going to be okay because they'll be able to afford the real dollars that they would need to settle that. So the whole thing runs off that belief. Oh, and just one other thing I didn't quite explain right with the Soviet banks. Just according to the CIA report, and this ties into what we've been talking about this whole episode, a lot of the Soviet Eastern Bloc countries, they had chronic difficulties in hard currency for their balance of payments. When they're trying to do import-exports, they have problems getting access to, you know, hard U.S. dollars or Deutsche Marks or whatever the currency happened to be.

So kind of the role these banks, you know, in Paris and London facilitated for the Soviet Union is that the Soviet Union and some other countries would be holding dollar balances, U.S. dollar balances, but by putting them into this bank in Paris or bank in London, that bank can in turn make loans and engage in other business practices with these dollar deposits that the Soviets have and in turn make it into a profit-making opportunity. So the Soviets had dollars, but they kind of needed these banks to make money with the dollars, to do something with the dollars. Yeah, that's a good point.

So that's an example of the many legitimate uses of things like euro dollars that these banks were up to, is that the Soviets needed to import food and medicine to the less advanced sectors of its territory, and they needed dollars in order to do that, and this helps them do that. Does that mean that they weren't also up to other things like arming guerrillas? I don't know. Maybe they were. The CIA was certainly worried about that. But if you look at the provable transactions, it's just facilitating trade and boring stuff like that that nonetheless needs to get done. Wow.

Yeah. If I was a CIA agent and I found out that somebody was arming guerrillas using secret funding sources, well, you could just knock me over with a feather. I can't believe somebody would violate their fiduciary duty and do something like that yeah exactly sean are you drinking water milk and a beer i'm drinking kefir water and a beer yes all right isn't kefir yogurt and water essentially it's fermented milk it is basically milk yeah so technically you're right yogi but i think i wanted to underline it's not just a glass of milk i was like damn shawty fucking triple fist and fucking beer milk and water motherfucker what type of horse throat you got son people people can't get what i'm drinking at just some old fucking bodega. This is not 2%.

This is the fermented. You got to go to Whole Foods if you want the Sean McCarthy liquid experience for your advanced trigonometry podcast. So the Eurodollar system is both a strength but also a weakness so it's a strength in that it helps people get shit that they can't make in their territory for somewhat cheaper if they can't don't have access to the regular u.s markets and things like that facilitate trade and that's obviously a strength but the negative is it's used for all this other stuff and it's fundamentally it has a weakness in that the system as a whole is going to be short real dollars it's going to be short real dollars because of the profit that the banks need to make by making the deposits so eventually you need to get more dollars into the system from those activities real ones then you then the banks

that made the loans starting out had in order for it to be worth it for them and that's during normal times but if there's a crisis or something and suddenly everyone wants to get very liquid in their finances and i.e they want real dollars right then all the people playing the euro dollar game will try to get out of euro dollars and into real dollars at the same time and they're not able to do that in fact that's exactly what happened in 2009 is that there was a run on the euro dollar system and since they're not in the nice safe environment of the fdic federal reserve onshore system they don't have assurances about like oh your deposits are insured up to 250 000 or whatever uh there's no such guarantee you could try buying private private deposit insurance which i looked

up and is a thing but it's very expensive really private deposit insurance is a thing i didn't even know yeah yeah there is private deposit insurance but like it's it's pretty pretty small market but it's like um it's like the mmt explanation for money creation right steve where these banks that are offshore are essentially creating dollars by making dollar-denominated loans, but they just don't have that many dollars, which are only created by, you know, the Fed and the U.S. government. So if there's a run, then suddenly there's a bunch of dollars that technically exist in, like and our loans but they don't really exist because the institutions don't have that many dollars yeah exactly so they have just like just

like an onshore bank that mmt says is creating ious that says like it creates a deposit and it gives you that ie credits your account with100,000 for a mortgage loan or something. And then it also expects that same amount back plus interest over time. So just how that's happening, the onshore banks also are creating IOUs. It's just that it's in a currency that they don't have any one-to-one exchange with because they're outside of the fed system so the mmt explanation of the offshore is essentially that they have one more constraint on their lending namely that they do have a reserve constraint that eventually they do need to find real dollars if something went

wrong and like in 2009 when something did go wrong there was a huge spike in the uh in the euro dollar market downwards as people tried to rush back into real dollars so there's a run on euro dollars in 2009 and there's been through through the process of reforms and stuff, they want to use SOFR, and they're trying to, by way of those reforms, the use of Eurodollars has waned at times, as people are expecting there to be more scrutiny on their use, like, in connection with SOFR.

However, as of late, with the coronavirus, the demand for dollars has increased a bit because of just people want to get liquid and the dollar is seen as at the top of the liquidity hierarchy so like recently the three-month libor since we're still using libor for a little bit more these are products like Eurodollars, which are priced in three-month Libor, have spiked in terms of the spread on the price people are asking at.

And the price that sellers are asking for and the offer that people are offering to buy for has widened, indicating that the market is experiencing more volatility, i.e. people are demanding, but it can't be supplied necessarily. And that's a very recent development. And that kind of brings up the question of, is there going to be another brine on the euro dollars that they just can't match and it turns out the fed is kind of thinking ahead a bit and they introduced this new thing called the fema repo facility f-i-m-a repo facility

and essentially this allows any central bank including emerging, to swap their U.S. treasury holdings, i.e. their onshore USD, which can then be made available for USD more easily. And this repo facility is sort of

like a swap line. Swap lines are what they call, like, the in a nutshell, they're the formal credit agreements between central banks, between the Fed and, say, the Bank of England or the Bank of Japan or any of the U.S. trade partners as far as how you get dollars on a short-term basis. And those aren't available to everyone. There are sanctioned countries who don't. dollars on a short-term basis and those are like those aren't available to everyone like there are sanctioned countries who don't and there are other countries experiencing like sovereign debt crises

who also don't like they will shut down the swap line for certain people and say you got to go to the imf and get your loans instead we won't do business with you right this is a this is used as what kind of a foreign policy tool almost really like a tool of u.s imperialism yeah it's like i was looking up a on a side note i was looking up a manual for standard importers on how they rank um how they rate countries sovereign default risk and i was like this is basically a manual on how to do u.s imperialism it's just like it's just a way to say that like oh gotta gotta cut you off from now you now you have to accept more onerous uh debt terms you have to you can no longer make loans based on your own currency you have to use uh

usd-based loans from the imf and whatnot instead and like you know then maybe we'll upgrade you to a b minus right but and to just underline something um that you said earlier steve you were saying the estimates as to the size of the euro dollar market is maybe 50 trillion or something in that range but when we talk about 57 trillion about but x trillion of that is not backed up by hard dollar reserves uh correct so if there were a run you know just x trillion of that is either gone or you're just going to have to rely on the federal reserve to bail out wherever you put your money. So, you know, it is a classic bank run scenario where this could absolutely explode and, you know, very possibly tens of trillions of dollars of wealth that people thought they had just disappears overnight.

Yeah. And one way they've tried, one way the banks involved in the eurodollar market have tried to ameliorate this risk is by using, if it's a global bank, they use the U.S. depository, the branch of their operations. Businesses resupplying settled US dollars to the system, like recycling it through some other program of theirs back into the euro-dollar market to keep that topped off as far as reducing the risk of a bank run on euro-dollars. And that worked for a while leading up to 2009, but then they needed those dollars to collateralize other crazy financialized things in the onshore market that we've talked about, like in the Citigroup episode, like for CDOs and whatnot. So they stopped. They said, like, you're on your own basically to the euro market, the euro dollar market for a while, while we go play the casino back on shore. And it worked, it seemed like, all right, well, nothing's really going on now,

until they had like a spike in volatility when it became a huge problem. Evidently, someone must ensure that euro dollars are made available on a massive scale, not just to foreign central banks, but right down global USDd supply chains essentially the fed the fed can do it to an extent with their swap lines i.e like give relatively relatively cheap dollar swaps with other central banks for their trade partners but that's clearly not enough to supply the system as evidenced by the 57 trillion in the euro-dollar market. And a lot of those euro-dollars are being used speculatively these days as a source of funding for other operations.

Like, traders will use euro-dollars in what are called carry trades to buy futures contracts of currencies denominated in USD using euro dollars as credit rather than going out and finding US dollars. And it's kind of a way to get leverage on your trade. So like you could go out and get the dollars and then make the currency trade or you could use euro dollars instead. And it's a bit cheaper, but if something goes wrong, you'll either, if it goes right, you'll make more than you would have using dollars. But if it goes wrong, you'll lose more than you would have.

So everything is magnified so there's that speculative activity that makes it adds to the risk overall for the system and it leads one to wonder basically like uh so they have so far now and euro dollars are going to be start being priced in so far theoretically next year, will it actually be safer or will they start rigging SOFR like they did LIBOR and add potentially to volatility to the euro

dollar market? I would say like we were outlying, it's a bit more difficult for them to manipulate SOFR, but not impossible. In fact, if you were really adamant on doing it, it's not a difficult thing to imagine.

You just have to have a lot of people at the bank, more people coordinating at the bank than was the case with Libor to submit either, like either you could submit false cost data across the broad range of things that SOFR gets, that feed into SOFR's average. And that would be extremely brazen and probably likely to be caught. Or you could just voluntarily submit prices to

people that were inflated and then that data gets legitimately sent to the SOFR committee. And then it will be inflated and you can try and do arbitrage on that based on

selling securities. So there's loopholes in the new system as well. And it just requires more people to pull off the scam. The first one, it's more of a lone wolf situation. The new situation is more of an Ocean's Eleven type of thing. Yeah, basically. Maybe not at that level. It wouldn't take an army,

but it would take more people. Sure, it would take a crew. Yes. But don't worry. After the next financial crisis, we'll get to find out what they're up to. We'll see what happens with it. The size of the euro dollar market

like i said is estimated around 57 trillion and it's it's gone up and down over the years it steadily rose from the latin american debt crisis of like the 80s it rose starting then and then flatlined for a bit and then they amended they amended um some banking regulations in the u.s and then it shot up again but then ever since it started falling again like as a as a percentage of like the u.s economy which is the range you have to be talking about in order to make sense of it uh it was falling for a while as like after the in the wake of the libor scandal people got more cautious and like they weren't using as much and also people were worried about increased regulatory oversight but there's also been kind

of increased use as of late with um like i was saying with the coronavirus people want there's a shortage of dollars and swap lines can only do so much with the japan and the other developed economies so what about the rest of the world right and like to me there's just there's all of the ingredients of yet another run on euro dollars is there and so far doesn't have enough of a bulwark against manipulation to where you wouldn't see that play in and be a factor so i'm predicting that they're and you put me on the record now i'm predicting there will be another crisis within five years. And it involves specifically that it involves a run on the euro dollar and manipulation of the SOFR. I mean, it has been interesting to see, you know, with so far in the coronavirus crisis, we haven't seen that that real collapse. And in fact, for up until now, we've seen the stock market fully rebound. It's started to go back down a little bit this last week.

But I mean, it is just like, I don't entirely know what's going on based on the fundamentals. I think it has something to do with the fact that the Federal Reserve has a $4.5 trillion machine gun, and we have no idea what they're doing with it or who they're giving money to. And also apparently SoftBank was heavily bullish on buying tech stocks and, you know, using all their Saudi genocide money to pump up the market. But, you know, it is just something where, like you said, Steve, we are in a situation that is very reminiscent of the 2008 financial crisis where you are starting to see this run on the euro-dollar market because people need dollars for domestic obligations.

And, you know, to me it seems very possible that this could break at any time in the near future. Yeah. Yogi? Well, I think if anyone out there is listening to the show, they've learned everything they need to to do the next crisis. So we are the linchpin that is Skynet to the future that is Sarah Connor ruining our economy. No, Yogi, we're going to be teaching that in the 400-level Grubstakers class. Oh, sorry.

Yes, I've been reading ahead. It's available for the $ the forty thousand dollar a year patrons we're just like andy's gone quick praise petrodollar yeah so uh what andy was saying about the petrodollars on a previous episode. This week we're talking about why that's bullshit. Maybe we'll do an episode on Petrodollar. I don't know. Well, when the reviews come in on this one and how easy to understand all this content was, I think that the Petrodollar

episode's request will be clamoring. Yeah, well, maybe they'll be like, they'll hear my voice says the intro and they'll be like ah forget this freaking dr science hey listeners uh steve jeffries here um you're gonna be eating broccoli this week i know we we usually talk talk about international pedophiles, but we've got an episode of the Basel III Financial Accords for you. Yes, well, usually we're a slice of pizza.

Today we are steamed Brussels sprouts. It's really cool, guys. You need your broccoli to go big and strong, okay? I know you like the fucking gummy worms but not this week uh speaking of andy uh he's going to be taking a month-long break uh he'll be on vacation for this month and uh because he won't be joining us, we're going to be moving to a new system

where we're going to be doing two SoundCloud episodes and continue with the regular four episodes on Patreon until he arrives. Yeah, and just to underline, we did not fire Andy, and we have not kicked him out of the podcast or stopped paying him. He is still receiving his Patreon share.

But this episode is coming out on the SoundCloud, so it'll be another two weeks before the next SoundCloud episode. And then every week we're going to keep doing the Patreon. But just because it's the three of us, we're going to lighten our workload a little bit. So we appreciate your understanding with all that. We may go back to a four-episode SoundCloud week. If any of you that have connections to Billionaire, just get that top-tier Patreon paid.

I mean, just get at least two to three billionaires that we haven't done an episode on and get them on our tops here. And you know what? We'll do eight episodes on SoundCloud for free. We don't give a fuck, all right? Well, thanks for joining us on this Fraud 301 episode. And we're really happy you joined us for Eurodollars and Libor and Sofer.

And we'll see what happens with the Eurodollar market and see if it explodes or not in the next couple of years. But anyway, I'm Steve Jeffries. I'm Yogi Paiwal. Leave a review, tell your friends, and enjoy the rest of this week. I'm Sean P. McCarthy. I'm glad we were able to link up with our FBI handlers and teach Fraud 301 to field agents,

as well as combine our usual role in psy-opping the left by having identity politics debates. So, you know, it's nice when our two worlds can collide. All right. Check us out on Patreon. Thanks for listening. Thanks for supporting. Bye.