Government Adopting Honohan Plan?

Since the announcement of Patrick Honohan’s appointment as Governor of the Central Bank, there has been a series of media stories implying that the government are going to amend NAMA to feature some version of Patrick’s risk-sharing proposals. The most concrete report is at the bottom of this article in today’s Irish Times: 

Government sources yesterday said Ministers have been looking very closely at the issue of risk-sharing and the two-tier model that has been suggested by Patrick Honohan, the incoming governor of the Central Bank.

One of the options given serious consideration, said the sources, was the creation of two classes of bond. This approach provides for one class of bonds to be issued immediately and the other to be deferred and paid at a future date if it were shown the scheme was working. However, it is understood that discussions have not yet moved to the question of what percentage would be made available immediately.

I have also heard this story from a number of sources who rather than describe it in terms of the second class of bond payment being deferred describe it as immediate issuance of  two classes of bonds, the second of which is a “subordinated” NAMA bond, which may not pay off under certain conditions.

I think it is important to emphasize that these proposals do not at all correspond to the essentials of Patrick’s plan.

The most detailed description of Honohan’s plan is in his article “Resolving Ireland’s Banking Crisis” in the Economic and Social Review. Page 226 describes the proposal as follows:

Concerns that the taxpayer would end up paying too much because of deficient pricing could be allayed by refining the NAMA proposal in a way that also achieves a better risk-sharing. Instead of simply paying a fixed best estimate price for the loans, a somewhat more sophisticated financial restructuring could be envisaged. Specifically, NAMA should make a two-part payment. One part is in bonds, but is pitched below the estimated value of the assets purchased. In addition, the bank shareholders – and possibly other risk capital providers – would be given some stake in the upside of NAMA’s eventual returns (for example by giving them an equity stake or warrant in NAMA). This would protect the taxpayer while being fair to the shareholder, and still removing the risk from the bank. This plan would, of course, increase the likelihood that the shareholder’s equity in the banks is wiped out following the asset sale, with the Government then holding a 100 per cent ownership stake, at least until new equity investment can be raised.

There are two dimensions under which the described proposals don’t correspond to Honohan’s plan.

First, there is the question of who is receiving the payments.

In every one of the “risk sharing” proposals that have been floated by the media, both payments have been to the banks. In contrast, while Patrick’s proposal does involve two payments, only one of those payments goes to the banks; the second, risk-sharing, component goes to the bank shareholders. Two recent newspaper pieces by Honohan (on August 6 in the Irish Times and on August 30 in Sunday Tribune, four days before his appointment) are also precise about this issue.

Why does this matter? Well it matters greatly for how much capital the banks would need after the bad assets have been removed. When the additional payment goes to the shareholders rather than the bank, then the bank has a greater need for new capital, most likely coming from the state. It also matters greatly for achieving the goal of drawing a line under the past and moving on. If the bank has no contingent exposure at all to the ultimate profit or loss position of NAMA, then they can carry on without ever having to worry again about these bad assets.

It seems likely that the government is ignoring this central element of Honohan’s plan because they want to minimise the extent of state equity investment in the banks (something which the quote from the Economic and Social Review shows that Patrick viewed as likely to be considerable under his plan). However, the government must also understand Patrick’s desire to have the banks free from exposure to bad property loans.

This is where the second key deviation from the Honohan plan comes in. It is clear in each of the three sources linked to above that Patrick’s plan involved the second payment being in the form of an equity stake in NAMA, so that its value would move up and down as NAMA filled progress reports. The government would probably be unhappy with these fluctuations showing up in the accounts of the banks, so it has instead proposed some sort of bond that is somehow linked to the performance of the NAMA assets.

At this point, it’s not at all clear what exactly this “subordinated NAMA bond” would be. But, if it’s a bond, then it probably could be kept on the balance sheet at par value, thus avoiding the fluctuations in value that would be associated with an equity stake.

The whole thing seems a bit strange to me. The idea that any form of “NAMA bond” wouldn’t be paid out on strikes me as very dubious. We have a Minister for Finance who regularly predicts plaugues of locusts if anyone in Ireland defaults on a bond. And we are now to believe that he would be ok with a government agency refusing to pay out in the future on a bond?

Finally, the Irish Times article says that no decision has been made yet on how much of the payment would be split between the two bonds. Again, Patrick has been pretty clear that the payment in the form of full non-contingent bonds should be on the small side.

In his ESR article, Patrick proposes paying “below the estimated value of the assets purchased.” It could be argued that there was some movement in his position on this, however, because the two August op-eds instead refer to paying “what can be confidently expected as recoverable on the loans”. In either case, it is clear that Patrick is proposing to pay far less than “long-term economic value” in the form of full non-contingent bonds.

So, based on the available information, my assessment of the situation is that the government is not preparing to implement Honohan’s plan and that amendments purporting to do so are likely to be little more than token nods in the direction of risk sharing.

Of course, I hope I’m wrong.

34 thoughts on “Government Adopting Honohan Plan?”

  1. I may not have been far off the mark then, when I posed this question on first hearing breaking news of Patrick Honohans imminent appointment.

  2. For clarity I should say that the appointment of Patrick Honohan and subsequent comments on Nama would appear to have been spun to give the impression of a breakthrough on Nama ..sheep and wolves et all .

  3. @Brian Lucey
    I previously posted that you were being too cynical – I apologise and withdraw.
    Having listened to Brian Cowen tell Ryan Tubridy that the taxpayer would be protected by a levy in 5 to 10 years time I can only join those who are skeptical of anything these guys tell us.
    Either Brian Cowen is not up to speed or Brian Lenihan is feeding us porkies on risk sharing.
    Then the Green solution – a windfall tax – on what?

  4. Is Mr. Honohan not able to speak for himself?

    Its a bit rich some third party saying that the plan is much inferior to his (Mr. Honohan’s plan) when he (Mr. Honahan) has just accepted the job of Governor of the Central Bank. Surely, he wouldn’t have accepted the appointment if he felt the Government’s plan was massively inferior to his own (whether the original form of the Government plan or a future modified form that he was informed about when negotiating his appointment). Is it not an insult to Mr. Honahan to suggest that he would take up the position of Governor of the Central Bank if he felt the Government was in the process of coming up with some scam to transfer money from taxpayers to the Government’s supporters in the construction industry, which many of the wilder elements on here appear to believe.

    There appears to be a bit of a mismatch developing in terms of the stature of those involved on the two sides of the NAMA debate.

    In the pro-NAMA corner:

    Garret Fitzgerald (ex-Taoiseach and from opposite party to Government),
    Alan Ahearne (widely regarded as Ireland’s foremost economist)
    Gerry Robinson (distinguished businessman – see yesterday’s IT)
    Patrick Honohan (future Central Bank Governor – see above)

    In the anti-NAMA corner:

    various academics whom, with the greatest possible respect, few have ever heard of, have never stood for election and have never run anything)

    No contest!

  5. @John
    “Alan Ahearne (widely regarded as Ireland’s foremost economist)”
    I doubt seriously if even Alan so regards himself….
    And PH is no longer able to speak for himself, no. But he is not pro-nama-as-it-is, else he would hardly be urging changes would he…..
    Oh, and the less said about GF and how to run economies in fiscal crisis the better

    On the anti side you forgot Bo Lundgren…

  6. @BL, Karl Whelan

    I don’t know Mr. Honohan from Adam. I assume both of you know him well. From your acquantance with him, do you think it likely that he would have accepted the position if he was very unhappy with the likely NAMA and considered it some sort of corrupt scam, which various opponents of NAMA have been arguing? I find it difficult to believe. I’d have thought it would be like a reputable and successful football manager accepting the post of Man Utd manager, having just been told by the directors that they were planning to use the next 10 years’ income to purchase Eamonn Dunphy. But, I assume that he will make his opinion known in due course.

  7. @John

    To answer your question, no I don’t think anything I have written is an insult to Prof. Honohan. I am a big fan of Patrick and his plan.

    I don’t think the rest of your comment is worth responding to.

  8. @John
    For the record, and before I go watch Mr dunphy commenting on Ireland do you have any connections with banks or developers?
    If I could be bothered I would go through “the 46” and point out who ran what but I assume you can email them all…

  9. @John

    to extend the footie metaphor, what chance the captain will stomp off home from Saipan to Clara?

    pro NAMA
    26% of the Irish people.
    FF+GP(?) ledership.

    anti NAMA
    74% of the Irish people.
    FG
    LP

  10. RE: Maurice. Most of the ignorant are anti-Nama. The need for capital in the Irish economy can only be fulfilled be cleansed, well capitalised, non state owned financial institutions. Government intervention in capitalist economies should be kept to a minimum.

    On a side note, it is interesting to see the British Government have moved into profit on their RBS stake. Also, the Swiss Goverment did well out of their stake in UBS. Also, the Irish governments warrants are now showing a healthy profit.

    Some other questions.

    Why did no other country nationalise its entire banking system like some of you economists are advising?

    Why can’t we (taxpayers) participate in upside recovery of banks through a minority shareholding?

    Two dominant trends in the developed world are
    1.) Population Growth 2.) Urbanisation

    Will the ‘long term economic value’ not be influenced by these trends within a global economic growth scenario that will return?

    NAMA appears to me to be a valid option with the govt. taking a maximum 40% stake in financial institutions.

    Finally, do you not think that the ‘window of opportunity’ for nationalisation is now well past. It is a extreme measure and it appears that the crisis has now passed. From an internation PR measure it would be suicidal and unnecessary in my opinion.

  11. @Padraigh Griffen.. I disagree with everything you say,and find the only ignorant people left are the FF hacks who are still in denial and the failed gamblers who yearn for one more spin of the wheel.P.s The dominant trends of population growth and urbanisation you refer to were never a factor in Irelands recent lending and developing bubble,and is the reason we have so many “ghost Estates” in the a.se hole of nowhere.NAMA is the last “window of opportunity” through which the affore mentioned hope to escape.Scaremongering is the last refuge of desperate people.Sorry thats how I feel.

  12. @padraig griffin
    Globalisation & urbanisation suggest a market for excess inventory – now all we have to do is figure out a way to export our unwanted housing stock.

    @john
    Nama a corrupt scam? It looks more like the child of a perverse consensus whose objective is to protect wealth through socialising losses. Some are rightly arguing for the lowest possible socialised loss outcome and arguing for gain/loss sharing, others insist risk takers should take the pain before losses are socialised. So far NAMA’s engineers have failed to convince it has been designed to optimally limit socialised losses.

  13. @Padraigh
    “Why can’t we (taxpayers) participate in upside recovery of banks through a minority shareholding? ”
    You rightly point out that the British government is in profit on its RBS stake. What you fail to mention is that this stake is over 70% of RBS…

    I don’t agree that full nationalisation is the solution, but there should be no upside limit to the stake that the state takes in the banks. An underwriting mechanism similar to the one the British government used would be appropriate. This would allow existing shareholders to maintain their shareholding proportion should they so wish. Otherwise they get the dilution that risk capital that fails to control risk in the institutions it owns deserves.

    A 70% recapitalisation would require 6.5 bn of new money
    80% 8 bn
    90% 18 bn
    (given current values of 2 bn for each of the banks).
    Note, this is after existing loan loss provisions and shareholder equity has been wiped, so the reality is that the amount of losses those equity injections would permit is higher.

  14. @john
    Who supports NAMA depends on which version you are touting
    Version 1.0-10% haircuts, no stakes in the banks, no risk sharing in the legislation
    Current version-25 % haircuts, risk sharing, 50% equity ownership or next week’s version what ever that may be.
    However, to add to the cast of characters supporting NAMA
    Brian Cowen-no financial acumen judging by his conduct of fiscal policy in the years leading up to the bursting of the bubble.
    Bertie Ahern-does not even believe in bank a/cs and seems to have won lots of money on horses

  15. @All
    We seem to have drifted off topic here.
    Do people see a vastly different incentive set for sub debt (to banks for the moment) than shares? To me the main problem here is that with shares in NAMA there is a clear “may go up and down” issue, while with subdebt ….in a few years time some minister says “we have to pay the coupon/redeem these, even if NAMA doesnt make a profit, as to do else would be tantamount to a state default”.

  16. @Brian Lucey
    That would be my reading of it too. If it is subordinate debt issued by a government agency, it might as well be gold-plated shit. It is not going to get flushed no matter how smelly it becomes.

  17. @Padraigh Griffin.
    I notice that you wrote that most of the ignorant are anti-Nama and not vice versa which would be very insulting to a lot of people on this website while you chose to insult the vast majority of the Irish people.

    So presumably you mean the vast number of people who dont understand the subtleties of that is going on. So I will champion the cause of the ignorant.

    The debate may revolve about technical details, but the big question about who picks up the tab, or rather what proportion of the price of the 10 year party is paid for by different interests groups is one where all the people have a valid point of view.It is not a simple question of economic efficiency. It is a highly political/moral question.

    People may not understand the details of NAMA but they do know when their pockets are being picked.

  18. @BL

    I dont understand how any two stage process can satisy the purported advantage of NAMA that it removes uncertainty from the bank balance sheets.

    I know Minister Lenihan has claimed that he mooted the idea last spring but this is just politician speak.

    So NAMA isn’t doing what it says on the NAMA tin if it involves 2 stage payment

  19. @John
    GF prefaced his remarks by saying he did not feel qualified to talk about NAMA. Many of his comments were directed towards a subject on which he felt more qualified. Deficits.

    He also discussed the political consequences of the government falling before NAMA was passed. My view is that this was more about getting FG drop the “good bank” strategy, engage in a serious debate about NAMA and safeguard the taxpayer, rather than him supporting NAMA as it. That is my speculation.

    @BL
    “And PH is no longer able to speak for himself, no. But he is not pro-nama-as-it-is,… ”
    “Pro-NAMA as it is” is a small group. Even the minister seems to be saying that he wanted changes as far ago as March that did not make it into the draft. Meanwhile if you are “anti-NAMA as it is”, well, you’re simply anti-NAMA.

  20. @Yogan
    “if it is subordinate debt issued by a government agency, it might as well be gold-plated shit. It is not going to get flushed no matter how smelly it becomes.”
    A crude but alas apt metaphor. This will be a way to simply play games. What is unfortunate is that we can safely predict that the majority of the media, written and broadcast, will play along without a scintilla of analytical rigour 🙁

    @Maurice
    One of the problems I have always had lurking in my mind is that. Lets say, for the sake of argument, that we transfer 90b. Under Honohans plan we would give say 40b to the banks now and 20b to the shareholders, in the form of NAMA-shares. But that would still leave a huge hole in the banks balance sheets. The filling of that would result in defacto temporary nationalistion, which is, we hear, A Bad Thing. However, the subordinated nama-dung that Yogan suggests will be transferred is as good as senior nama bonds so ….

    @Pamina
    Not sure I follow your point. NAma-as-it-is is nama+overpayment however dressed up. I am not, as I have stated, anti NAMA as a concept (given where we are now). I am against nama+overpayment.

  21. @Brian Lucey

    The ides of passing smoothing directly to bank shareholders seems to undermine the principle of shareholders being last-in-line. As I understand company law, the high court has to authorise a distribution of capital to shareholders, an action that would be clearly impossible at the present time.

    Now of course the NAMA legislation could be written to overwrite that position. But no payment direct to shareholders could in my non-lawyer opinion be made without a 100% guarantee that all the obligations to our favourite subies would be met.

    Which might of course be an intended unintended consequence.

  22. @Brian

    Is it not time for a bit more number crunching? I know there are huge uncertainties, but a bit more clarification has been extracted since you generated your initial spreadsheet. I know it adds to the complexity, but it might also make sense to factor in the recycling of NAMA bonds via the ECB to finance Government debt issues (that helps to shield the Government from full exposure to the international bond market). I have always seen this as a key feature in the DoF/NTMA thinking on NAMA.

    The other key feature is the Government’s determination not to nationalise the banks even if the required recap gives them 99% of the shareholding, but there is obviously a desire to keep this as low as possible as the cost of NAMA bonds is lower than the cost of standard Government debt – and NAMA bonds keep the ECB sluice gates open. There seems to be a commitment to keep the existing boards and senior managements almost intact (apart from some limited external appointments). It has been reported that the Minister has forced AIB to look for an external CEO. Nationalisation followed by privatisation, almost inevitably, would result in some of the banks ending up in external control with the current boards and senior managements being removed. No government will allow this to happen on its watch. That, I suspect, is why FG has gone down the “good bank/bad bank” road. Multiple flotations would be time-consuming and expensive (and might not preserve existing boards and senior managements) when trade sales of cleaned upbanks could be effected quickly.

    Given these strategic/tactical objectives NAMA reduces to a turd-polishing exercise to convince taxpayers that they are not being hosed.

  23. Forget the Supreme Court. The next stop for concerned Irish citizens is the European Court of Justice. There can be no doubt that the EU institutions are tolerating NAMA through gritted teeth and giving the Government a huge amount of leeway for fear of damaging the prospects for Lisbon II.

Comments are closed.