Libor Manipulation: Structural Breaks in Interest Rates and the Impact on Select U.S. School Districts

Abstract

Literature on the Libor manipulation scandal is scarce, particularly in light of the effect of the misreporting of borrowing costs on the final Libor rate. This work extends Montinici and Thornton's (2013) findings of structural breaks in Libor-Certificate of Deposit (CD) spreads. Additional spreads, such as Libor-Federal funds effective and Libor-Treasury bill rate, are considered and a longer time frame of analysis is used. Structural breaks estimate the effect of the manipulation to range from 2005 to 2009, with an average under-reporting of the final Libor rate of 4.82 basis points. This translates into losses of $1.255 million and $1.261 million for the School District of Philadelphia and the School District of Chicago, respectively, and on the order of $10 million for Pennsylvania, as a whole. Structural breaks in Libor rates and volatiles using different one-factor models confirm these findings. Model risk is assessed through nonparametric estimation, which leads additional validation of the structural breaks in Libor volatilities. Key words: Libor Manipulation,Structural Breaks, Libor, Interest Rate Models, Nonparametric Estimation