publication process, some of the submitting banks reportedly became concerned about reporting a rate that would suggest that they were being treated by the market as a greater counterparty credit risk than their peers. accordingly, some banks were alleged to have lowered their libor submission below their actual likely borrowing rate to avoid the stigma associated with posting a higher borrowing rate and the possibility that their funding costs could increase as a result. conflicts also reportedly abounded at the level of the individual submitters. again, these highlighted profound compliance problems at some of the submitting banks. as i noted earlier, the intent was that the expertise of the submitter would be insulated from any internal pressures by the informational barriers within the submitting banks. the hope was that these informational barriers separating the submitters from the traders were thick and impenetrable. the investigations into libor manipulation found that the reality was that they were often paper thin and porous. see darrell duffie and jeremy stein. “ reforming libor and other financial - market benchmarks. ” september 19, 2014. bis central bankers ’ speeches we have learned that false reporting and manipulative behavior was pervasive across firms and over time, took many forms and was often conducted in a nonchalant manner. this has been well - documented by the commodity futures trading commission in their published findings. for example, interest rate swap traders routinely asked colleagues to submit rates with an explicit goal to have the adjusted submission benefit the value of specific derivatives positions they held. as an illustration, investigations discovered that one “ senior yen trader ” directly or indirectly made at least 800 requests in writing on ubs ’ s email and chat systems to their submitter. 5 requests often had a casual matter of fact nature to them. to illustrate, an exchange in september 2007 from a trader at ubs to the submitter went as follows. 6 “ hi … could really do with a low 1m [ one month ] over the next few days as have 17. 5m [ million ] fixings if ok with you? ” submitting banks often facilitated this type of behavior – in some cases derivatives traders and submitters sat on the same desk, while in others the submitters were themselves traders, both circumstances obviously representing conflicts of interest. other investigations documented that traders at one bank would often shout across the trading desk to fellow traders to confirm that there were no conflicting requests before they sent their requests to their submitter. 7 the investigations also found that not only were

for a specific example of this phenomenon, see richard roll ( 1984 ), “ orange juice and weather ” american economic review, vol. 74 ( december ), pp. 861 – 880. bis central bankers ’ speeches in normal times, the tension between efficient markets and actual developments is relieved by a series of these tweaked explanations without any substantial changes to underlying views. but as markets came under increasing stress it made the arbitrage and liquidity assumptions underlying efficient market explanations less tenable. 9 further, the signals generated in different markets started to disagree markedly. one of the basic quandaries at the start of the crisis was the differing perspectives from price developments in equity and fixed income markets. the fixed income and equity markets were giving very different signals about the outlook for the economy. fixed income markets were indicating an abrupt slowdown in economic activity and through derivatives such as the abx indices substantial credit losses on some of the newly issued structured products related to residential mortgages. the equity market in contrast reached a peak in october 2007 indicating little evidence of such a slowdown. of course, fixed income and equity markets have different characteristics but perhaps a more important distinction is the role of heterogeneous beliefs and how this might be reflected in asset prices. the economics profession has made great strides in its use of expectations in models but one of the short cuts required to produce these great strides was the simplification to homogenous beliefs. for much of the period leading up to the crisis this simplification was of no consequence. however, as we now understand from sophisticated analysis of models with heterogeneous beliefs, it can produce high valuations for certain set of assets and large abrupt moves in certain market prices when leveraged positions are unwound. 10 how does this unwind express itself in real time in the views and actions of market participants? first, the views tend to become even more dispersed, as do the views regarding what the central bank should do about it. second, market participants become more suspicious of each other and rumors can spread like wildfires. many participants take defensive actions which if one is tracking market prices at a daily frequency add tremendously to the inherent noise in high frequency market moves. 11 more importantly, when the probability of a failure of a counterparty starts to increase the signal in market prices becomes a mixture of fundamentals and assessments of the likelihood of government intervention. elements of all this can be found in classic books such as kindleberger