I have examined the government’s banking proposals and will have more to say later about their substance. However, before discussing the details, I’d like to focus on some figures that will help shed light on a question that I’ve already heard many times today—how much will our National Asset Management Agency (NAMA) pay for the bad assets of our major banks?
Month: April 2009
on this blog, that is. The 100,000 visitor milestone achieved this evening (in just over 4 months), with over 2400 visitors today.
While there is a lot of detail to absorb and plenty of issues to debate, internal consistency demands that I welcome the Minister’s budget deficit target for this year of 10.75%. I argued a few weeks ago that when considering whether the government was sticking to the plan it had sent to Brussels in January, it was best not to focus on the target of a 9.5% budget deficit for the year as a whole but on whether the measures taken would, if implemented over a whole year, put us on a 9.5% pace. Based on current information, I think the budget does this.
Last week’s Exchequer Returns indicated that we were on path of a deficit of 12.75% this year without further corrective action. On a full-year basis, this would require an adjustment of 3.25% to get to a 9.5% deficit. Assuming that the corrective actions taken in this budget would have only 60% of their full year effect during 2009, then these measures would reduce this year’s deficit by (0.6)(3.25)% = 1.95%, which would imply a budget deficit for 2009 of 10.8%. As such, I would interpret the government’s actions today as putting them back on track with the plan sent to Brussels in January.
Another welcome element of the budgetary figures was that the GDP projection of -8% were more realistic than the -6.75% mentioned in last week’s Exchequer Returns. Both the QNAs and the recent unemployment data point towards a GDP decline for this year of at least the 8% now projected by the government.
I’m still reading over the governments plans for the banks and will post my thoughts later.
Update: I should probably have also pointed out that it is perhaps a bit disappointing that the targets for 2010-2012 have slipped a bit since January. But then again, these relatively small adjustments should be seen as realistic in the face of the govenment’s projections of -8% and -3% GDP growth for 2009 and 2010, compared with projections of -4.5% and -1.1% in January.
I am opening this thread in order to facilitate those who wish to comment on the budget.
As we wait for today’s budget announcements, it is worth reflecting on the challenges of getting the right design and pricing for the asset purchase scheme now being trailed.
Some bloggers have made up their minds that the government will overpay for the assets. How can such an outcome be avoided? I have a slightly novel suggestion for this.
As in the United States, there will be a huge gap between what the banks claim the assets are worth and the value that the rest of the market would place on them.
Finding a mechanism that places a generally accepted price on the assets is as difficult here as it is in the US. Any asset purchase scheme will require a further detailed scrutiny and evaluation of the assets to be purchased.
It is to be hoped that the initial announcement of an asset purchase scheme will not lock the government into prematurely firm commitments on pricing and financial restructuring of the banks. The worst possible thing would be to crystallize the taxpayers’ costs at too high a level.
Buying the assets at inflated prices would surely be politically unacceptable. Indeed, Government sources have clearly trailed that they will not pay current book value for the assets.
Each country’s situation is slightly different. If we were to subtract now the present value of all prospective loan losses (taking recent analysts’ estimates), the main Irish banks would be severely undercapitalized. Removing the problem loans at anything close to the prices implied in the analysts’ estimates will require the banks to take immediate write-downs that have the same effect.
Therefore implementation of the asset purchase scheme at realistic asset prices will create the need for a further recapitalization of the banks.
Injection of more preference shares by the Government will not do the trick. If the banks are to move forward in a sound manner, and be accepted as financially self-sufficent, they must have sufficient equity capital. In quieter times there would be enthusiastic private sector buyers for equity in such cleaned-up banks. Failing that, the residual equity investor is likely to be the government. When you do the sums using the analysts’ estimated, this has to imply huge dilution of the existing shareholders. No wonder many commentators have concluded that full, albeit temporary, government ownership is on the cards.
Given this background, it might be better to do something just a little more complicated: let the asset management company pay even less than fair price for the bad loans, and in return give the existing shareholders of the banks an equity stake in the AMC. This has the advantage of making sure that the surviving bank really is clean, and neatly defuses shareholder objections that they are being expropriated. Of course they are even less likely to own much or any of the surviving bank, unless they choose to contribute to its recapitalization. Other existing risk capital providers, such as the holders of unguaranteed subordinated debt, could also be compensated for write-down by acquiring a stake in the AMC.
Let’s hope this week’s statements do not shut off possibilities such as this which can protect the taxpayer without destabilizing market confidence by allowing well-adapted financial contracts to bridge the gap between taxpayer and shareholder.
Although my idea may seem novel, specialists will recognize it as only an adaptation into our current circumstances of the most conventional form of bank resolution mechanism. It can work.