Do We Really Need a NAMA?

While much of the recent media discussion about our banking problems has been framed as NAMA versus nationalisation, this has not been a fair reflection of the debate between economists. My four-point plan and the gang of 20 article explicitly allowed for the idea that a NAMA-like vehicle be used in conjunction with nationalisation.

That said, I’m a little worried now that the public may perceive the case for a NAMA as a slam dunk. My own preference for this approach came from thinking about the alternatives and deciding that the balance of the arguments were in favour of using an Asset Management Company (AMC) in conjunction with nationalisation. Since the NAMA proposals have been introduced, I’ve been getting a bit less enthusiastic about the idea, so I thought I’d write up what I see as the competing arguments for and against an AMC.

Before that, though, let me spell out that while I’m in favour of nationalisation and have written about how a NAMA could work in conjunction with nationalisation, it is not necessary that nationalisation has to be combined with a NAMA vehicle. Rather than take all the bad loans out of the banks, these loans can be simply written down to fair market value and funds are provided to re-capitalise. The banks are then left to recover as much as possible from these bad loans.

I’ll compare these two methods (nationalisation with NAMA and nationalisation without NAMA — note I’m not discussing the NAMA with overpayment) under a number of headings: Ability to achieve a quick turnaround of the banking system, economies of scale in managing the property portfolio, specialist skills, breaking crony capitalist links, problems related to complexity and bureaucracy, and political economy concerns that may affect the extent of losses for the taxpayer.

1. Quick Turnaround

This is the factor that I have always thought most favours an AMC approach. Potential investors in Irish banks know that the banks are sitting on huge losses but are unsure what the scale of these losses are. Moving the losses into a NAMA vehicle will eliminate this uncertainty and, once recapitalised, the property losses cease to be a concern for private investors, thus facilitating a quick turnaround and re-sale of the banks into private ownership.

However, the approach of not having a NAMA could work if the write-downs were sufficiently steep so that potential private investors would not see further downside risk stemming from these loans remaining on the books. While the 1990s Swedish approach of AMCs working in tandem with a couple of nationalised banks has been widely (too widely?) cited, it is worth noting that the write-down approach with no AMCs was successfully adopted during the corresponding Norwegian banking crisis. I’d score this point for a NAMA but it’s not necessarily a major issue.

2. Managing a Large Property Portfolio

One of the key traditional arguments in favour of AMCs is that they can take advantage of “economies of scale” when dealing with bad loans, putting together a large expert team to get the best return back for the taxpayer. (See page 6 of this review of AMCs.) However, economies of scale have their limits. Diseconomies of scale also exist (otherwise every market would be dominated by one firm) and, as Patrick Honohan emphasised before the Public Finance committee last week, the envisaged scale of NAMA is unprecedented, and the sheer size of the task may make it difficult for one single organisation to undertake.

Already there are signs that the NAMA job probably is too big for NTMA to undertake. We have repeatedly heard in recent weeks that NAMA may function as a slim operation which carves out property loan department’s from the covered banks—with staff essentially “on secondment” to NAMA—and has them continue to manage the property loans that they made, with NAMA officials undertaking regular reviews.

3. Specialist Skills

One argument for NAMA is that its staff will have better specialist skills in dealing with bad loans and, when necessary, managing the collateral put up for the loan (in our case, property projects at various states of completion.) Peter Bacon’s report makes it clear that he sees this as an important argument in favour of a NAMA. He notes that the Irish banks are not skilled in recovering bad loans and that most of the projects used as collateral will have to be taken off their current owners. Bacon characterises the issues as follows:

They are loans created and secured by property assets (i.e. development land, work in progress, completed but unsold residential stock and under-performing property investments), which are now worth significantly less than was envisaged by the loan. There is not a great deal banking skills can do to resolve this dilemma. Moreover, the property development companies involved in these transactions are almost entirely privately owned, championed by entrepreneurial characters and mostly without equity or recourse to equity markets, and in many cases do not have the depth of management skills to engage in the kind of portfolio sales and work-outs which ultimately are required to resolve the impairment issue.

Bacon’s report—commissioned by NTMA—then goes on to recommend the NAMA “should be carried out under the governance, direction and management of the NTMA.” However, it is worth noting that the NTMA has no history whatsoever in managing large portfolios of bad property loans. The proposed “credit committee” approach appears to be a covert admission that, contrary to Bacon’s report, those currently managing the loans are perhaps in the best position to manage these portfolios in the future.

If this is indeed how NAMA is going to work, I would suggest that it would be better to not have a NAMA at all, and simply to write down the loans and have a specialised unit working within each bank to recover as much as possible.

One reason for this is that maximising the return from these loans will, in a number of cases, require extending the developers additional credit to get their projects finished. Bacon’s report mentions the possibility of NAMA raising outside capital to provide these funds but doesn’t provide information on how this would work. Keeping the loans inside banks, but written down to low values, will allow those who made the original loans to decide which projects are worth providing with further capital and which are not.

At this point, based on current information, I’d be inclined to score this one against a NAMA approach.

4. Crony Capitalism

Some argue that it is best to get the loans out of the banks that made them because there are long-standing links between the lenders and the builders. Certainly, despite opposition claims that it will be a bail-out for developers, it appears clear that NAMA will be tougher with property developers than the banks have currently been. (Note how the developers are united in their dislike for the NAMA proposal). I think this is undoubtedly true but the main reason for this is almost certainly that the banks do not want to admit the full scale of their bad loans.

However, a nationalised and recapitalised bank under new management should have the same (and perhaps better) incentives to minimise the loss on impaired loans as a NAMA. Certainly, it’s hard to see how the “credit committee” approach with supervision from NAMA will necessarily break the crony capitalism links better than supervision from management in nationalised-and-then-privatised banks.

5. Complexity and Bureaucracy

There is little doubt that the NAMA process will require complex legal issues to be clarified and will set up a new bureaucratic quango. I don’t want to overstate these complications. For instance, many have written about how builders may legally challenge their loans being transferred to NAMA. I doubt if this really is a big legal issue. Banks buy and sell the right to streams of loan payments all the time—this is what the market for securitised assets relies on. Still, there may be some legal complexities here that I’m not aware of and, most likely, a NAMA bill will have legislation to deal with this issue.

On the bureaucracy front, NAMA will have staff, management, board of directors, chairmen, offices and all the other costs that go with all the other quangos that we know and love.

The nationalise-without-NAMA approach will have none of these issues, so score this one against NAMA.

6. Political Economy Concerns

Economists that have advocated a NAMA, whether as part of nationalisation or not, have generally emphasised that it should be run as a commercial operation with the sole mandate of recovering as much for the taxpayer for possible. However, I am concerned that concentrating all the bad loans in one single agency will make achieving this outcome very difficult. This is because lots of other interest groups will target the agency in an attempt to make it act in their interests.

I can point to 3 such interest groups already gunning for NAMA:

1. Green Interests: The Green Party have been very enthusiastic supporters of NAMA. They haven’t been shy in admitting that they see a multi-billion property investment portfolio as something that can be used to address past deficiencies in planning and zoning. This suggests, for instance, that they would be happy to take valuable zoned land and keep it as green fields, essentially writing the loans down to zero. I am very sympathetic to the Green Party’s concerns about bad spatial planning in Ireland but I think the way to resolve this issue is through better planning in the future, rather than through having the taxpayer take huge losses though NAMA.
2. Left-Wing Interests: Suggestions have been made that NAMA should address social issues such as homelessness and social housing. Again, I am sympathetic to these goals, but they are better addressed through normal government capital spending.
3. The Builders: Today’s Sunday Tribune reports “High-profile developer Seán Dunne has invited his fellow property developers to join a powerful new organisation which will seek to dictate how the controversial National Asset Management Agency (Nama) will operate in relation to developer’s loans and assets.” Why a bunch of bankrupt developers should be “powerful” or “dictating” to anybody is unclear to me. But the point is that NAMA provides a single focus point on which the builders can focus their lobbying efforts. The Tribune also contains an article written by Tom Parlon directly lobbying NAMA on behalf of the building industry.

The combined impact of these interest groups is likely to have a far larger effect in increasing losses if we have a sigle NAMA on which they can focus their efforts than if we have a number of temporarily nationalised banks preparing themselves for privatisation.

Two last thoughts. First, I have focused this discussion as “Nationalisation-plus-NAMA” versus “Nationalisation-without-NAMA” because I see these as the two best options. However, all the various drawbacks and advantages of NAMA still carry through to the case where limited private ownership of the banks is maintained.

Second, political reasons are likely to require a NAMA be part of the solution. This is because nationalisation without a NAMA requires a clear and quick admission of the scale of the problem while a NAMA vehicle can allow the full admission of the losses to be delayed for years. For this reason, I fear we are stuck with a NAMA whether we like it or not.