Banking Regulation in Ireland and Spain Post author By Philip Lane Post date September 8, 2009 Michael Hennigan provides an analysis here. Categories In Banking Crisis Tags EMU banking regulation 27 Comments on Banking Regulation in Ireland and Spain ← How efficient is public spending on R&D → Labour Party Analysis of Draft NAMA Legislation 27 replies on “Banking Regulation in Ireland and Spain” Sniff a little deeper:lol: http://fistfulofeuros.net/afoe/economics-and-demography/there-is-another-shoe-to-drop-in-the-global-economic-and-financial-crisis-and-the-focus-will-be-on-europes-perifery/ Philip, Constantin Gurdgiev gave a talk about his ideas on NAMA this morning which I attended. I wanted to reply to him with a comment. But instead, I let go some others in the audience to have their say. Constantin prefaced his quick half hour presentation this morning by making a point very similar to this quote from the Hennigan piece: “Simply put, in Ireland, there was no counter to reckless fiscal policy, from the central bank, as it had declared its impotence almost two years before the launch of the euro.” Constantin mentioned nothing about the Euro as such, rather, he stated that Ireland always had a very reckless banking tradition. I would like to qualify this, with an observation of my own. Maybe Ireland did have a wreckless banking tradition, but perhaps it evolved other institutions and mechanisms in the past, in order to counteract that. I am talking about farmers basically, when they still had a viable enterprise in this country. To explain, requires me to turn back the clock to days in Ireland when agriculture accounted for a vast amount of our productive output. I wish to go back to the local farming cooperative days. Because I believe that was an intermediary vehicle used by the Irish farmers, in lieu of a banking system. In old Irish society, the parish priest, the local GAA club, or political party and the Cooperative manager were probably the most powerful people/establishments. I never heard the banks being mentioned much. It depends on how you want to look at it. The cooperative movement had some high ideals. But contemporary accounts of the day, suggest the system was often abused. The aim of the cooperative movement was for the ‘group’ to work towards the good of the ‘individual’. Unlike in socialism, where the individual endeavours to work for the good of the group. It occurs to me, we are at a watershed in Ireland, where we need some system, like the ‘NAMA Trust’ or People’s trust, with the Irish government as guarantor. Constantin’s presentation this morning, should be available to watch as a webcast on the Feasta.org website before long. He spoke of the need for protecting the taxpayer. I will insert another short historical snipet if I may. If we go back to the 1950s in Ireland, the Irish Sugar company commissioned the young Gordon Clarke to write the first computer program for the first computer in Ireland. http://www.irishtimes.com/newspaper/finance/2009/0501/1224245754141.html The purpose of which, was to calculate the accounts of the local sugar beet producers who would obtain financial loans, molasses, sell produce and do all kinds of business with the company. Before 1957 and the installation of the computer, it took hundreds of short term hired staff in the company to do those calculations. I have seen an original print out of one of receipts received by the farmers. It occurs to me, that back in the 1950s there was a lot more innovation going on, in terms of helping local agricultural producers manage their finances than today. Maybe finance was a lot more scarse in those days, and had to be managed more carefully, I don’t know. It occurs to me, that organisations such as the cooperative movement in Ireland, and the sugar company served as a useful counter measure to the fiscal wrecklessness of the banking system in Ireland in the past. I wanted to mention that to Constantin today. It is historical I know, but given that Constantin’s preface to his presentation this morning was historical in nature also, I wonder have the economics departments in Ireland ever seriously looked at how the largest capital players, the farmers in Ireland, managed to protect themselves in the past. @southofdub That’s a sobering read. @Michael Thanks for the comparison. As we watch our government trying to rescue our banking system, I suggest that William Kingston’s short article has some insight http://www.tara.tcd.ie/bitstream/2262/29186/1/regulation+article.pdf Deregulation or regulation-lite was part of the phenomenon of financialisation of economies which has been growing for over 20 years. The UK and the US have been leaders in this trend. Some of Ireland’s financial elite with the active support of Fianna Fail led governments since 1987 have tagged onto this Anglo-American led phenomenon. The IFSC is the flagship for this change of government direction .(Irelands IFSC, A Story of Global Success, Fiona Reddan 2008) . And it all seemed so clever and so succesful until September 2008 when the financialisation model hit reality and unravelled. In a paper , “Financialization: What it is and Why it Matters” published in 2007 at http://www.peri.umass.edu/fileadmin/pdf/working_papers/working_papers_151-200/WP153.pdf Thomas Palley describes financialisation as ” a process whereby financial markets, financial institutions and financial elites gain greater influence over economic policy and economic outcomes.” He writes that countering financialization “calls for a multi-faceted agenda that (1) restores policy control over financial markets, (2) challenges the neo-liberal economic policy paradigm encouraged by financialization, (3) makes corporations responsive to interests of stakeholders other than just financial markets, and (4) reforms the political process so as to diminish the influence of corporations and wealthy elites.” Ireland needs to restore control over the financial sector. The long term issue of banking reforms must be part of the current debate on the banking crisis. Bailing out the bankers and developers is not enough. And the major political party who have been in government for nearly 20 of the last 22 years are not the party to bring about the necessary change. They are part of the problem. We need to look at Canada. http://www.fin.gc.ca/toc/2001/bank_-eng.asp “He writes that countering financialization “calls for a multi-faceted agenda that (1) restores policy control over financial markets, (2) challenges the neo-liberal economic policy paradigm encouraged by financialization, (3) makes corporations responsive to interests of stakeholders other than just financial markets, and (4) reforms the political process so as to diminish the influence of corporations and wealthy elites.”” I’m beginning to tire of this “neo-liberalism” buzzword. It was the sole property of the far-left until relatively recently, now it appears to be the cause of all life’s problems, including the horrible weather. @Dave Sure “neo-liberalism” has been used as a perjorative term by far-left against many of the ills of modern society. Even neo-liberalism could not have caused this year’s horrible weather in Ireland! However neoliberalism is widely accepted as label for a set of policies which seeks to transfer part of the control of the economy from public to the private sector, under the belief that it will produce a more efficient government and improve the economic indicators of the nation. One of the policy recommendations advocated by neoliberalism is abolition of regulations that impede market entry or restrict competition, except for those justified on safety, environmental and consumer protection grounds. Deregulation and non-enforcement of regulations in the financial sector has not been a great idea with the benefit of hindsight. Has it? @Brian As I understand Irish farmer financial co-operatives failed in the latter stages of the 19th century as they could not discipline themselves to recover money from their defaulting membership /borrowers. German co-operatives thrived as they maintained financial discipline. In the 1980’s following agri land price bubble, state bank ACC bore the lions share of loan default risks that took years to unwind from. For the dissenting view on Spain: http://lacomunidad.elpais.com/blogfiles/lentejas/Spain_The_Hole_in_Europes_Balance_Sheet.pdf Re: Variant Perception Piece on Spain. The exec summary of the above link is as follows: Spain = Japan 2.0? – We argue that 1) the real estate crash in Spain is worse than is widely believed, 2) Spanish banks are hiding their losses, and 3) investors are smoking crack if they believe that Spanish banks are among the strongest in Europe, (see Forbes latest Spanish Banks In Top Form). If all these are true, Spain will soon have zombie banks like Japan. > Banks are hiding losses – We believe that Spanish banks are not marking their real estate loans to market and are extending credit to zombie construction companies. They do this by 1) Getting a boost from accounting changes, 2) Not marking loans to market, 3) Continued lending to zombie companies, 4) Extending 40 year and 100% loan-to-value loans, and other bubble-like lending practices. We look at each of these in turn. > Spain is in deflation – In a deflationary environment, servicing debt becomes even harder. Even when rates go to zero the real burden of debt goes up. That is why deflation is such a terrible thing. Eastern Europe, Spain and Ireland are now all experiencing the beginning of deflation. We believe that we will see much more deflation to come, which will have broad ramifications across the European banking sector. > Who’s holding the bag? – The periphery countries are net debtors, and the rest of Europe is the net creditor. When a debtor can’t pay, the creditor suffers. Germany, France and others will need to cope with recapitalizing the periphery and Spain. Michael What an excellent and informative piece! Well done indeed. So Ireland with professional bankers went as awry as Iceland did with amateur bankers! Says it all doesn’t it! @Ronnie O’Toole Interesting article. “After bubbles burst, investors always find the cockroaches they had overlooked earlier.” I’ve no doubt that there are cockroaches under the loan books of Irish banks. “For example, we would point out that on the construction side Martinsa-Fadesa, the biggest bankrupt builder, inflated its books.” “On the banking side, we can observe similar patterns once sunlight is let on to the books.” Let sunlight on the books of the books of the Irish banks and developers. I didn’t say that all Spanish banks have escaped unscathed from what was a huge housing bubble. I read the Variant report before writing the article. The two biggest banks in particular, remain robust aided by a proactive central bank, in contrast with counterparts in Ireland. Santander’s head Emilio Botin, has acknowledged that it owes its recent success in part to strict limitations the Spanish central bank put on structured credit investments as well as extra provisions. Of course it faces some losses on property loans but it’s not on life-support. In the absence of the interest rate tool, a central bank could not offset reckless fiscal policy but it had more tools than pleading letters. The FT says today: “Unlike Royal Bank of Scotland and Fortis, Santander has emerged largely unscathed from the global financial and economic crisis.” Santander is Europe’s biggest bank by market capitalisation. http://www.ft.com/cms/s/0/b1799c3a-9cc2-11de-ab58-00144feabdc0.html @Brian O’ Hanlon My father was a small farmer near Dunmanway, West Cork in the 1950s and cheques at the time required a 2d postage stamp (the green one with a map of Ireland). When the requirement to buy stamps ended with the pre-printed stamp on the cheque, it may have marked the first stealth tax in Ireland! Santander is not a good measure of the Spanish experience by my understanding, as it is essentially a global brand with Spanish roots, though Michael you might correct me on this. The most interesting element of the Variant Perception piece was on current practices. From the report: “Banks are hiding losses – We believe that Spanish banks are not marking their real estate loans to market and are extending credit to zombie construction companies. They do this by 1) Getting a boost from accounting changes, 2) Not marking loans to market, 3) Continued lending to zombie companies, 4) Extending 40 year and 100% loan-to-value loans, and other bubble-like lending practices.” Michael, can this argument be refuted, as the Variant Perception article seems to be based on this largely? @Ronnie O’Toole The key point is that the Irish central bank had some tools to lessen the Irish banking disaster. The Spanish savings banks, the cajas, which hold around 50% of Spain’s lending business are under pressure with a rise in delinquent loans amidst the collapse of the construction sector. Spanish savings bank Caixa d’Estalvis de Girona for example on Monday its board has decided to pursue a plan to merge with another three Catalan savings banks. The big banks are global brands as Citi is and AIG are but their fortunes have been different. ‘Spain, the other ‘vulnerable’ Aaa, for now retains a safe distance from the Aaa-Aa demarcation line, mainly because potential growth is not likely to be as low as anticipated and also because the government’s balance sheet was comparatively solid at the beginning of the crisis,’ Moody’s said today. Response to Variant report: http://ftalphaville.ft.com/blog/2009/09/02/69596/surprise-spanish-banks-are-not-hiding-their-losses/ Thanks Michael. Michael, That link takes on Variant Perception on the banking issues, and I am not 100% convinced by either side. Regardless, are there still not questions on construction activity side? The parallels with the scale of housebuilding in Ireland are strong, just take all the numbers and divide by 10 (Irish population is a bit more than one tenth of Spains). Per capita, the 800,000 starts in Spain puts Spain in line with Ireland , and the IMF estimate that Spain could fall to only 12,000 p.m. is in line with what construction in Ireland is currently running at. Ditto the IMF estimate of long run construction needs. Can property ramp up so fast under a truly very conservative banking system? @Michael “The key point is that the Irish central bank had some tools to lessen the Irish banking disaster.” Exactly. This should be made very clear to every TD and Senator who will be voting on NAMA. The point being that the authorities did not exercise the powers they had when it was timely to do so. Now they seek extra powers to sort out the resulting crisis. In doing so, they propose legislating a high degree of secrecy, on committments they will make and which we will have to live up, in one or another. As Max Weber observed “Secrecy is the only power of the bureacrat” Let us hope that the public authorities consider themselves as bound as they intend to bind us – something one cannot always assume here! @Aidan C. On the dreaded neo-liberalism thing again: you say “One of the policy recommendations advocated by neoliberalism is abolition of regulations that impede market entry or restrict competition, except for those justified on safety, environmental and consumer protection grounds. “Deregulation and non-enforcement of regulations in the financial sector has not been a great idea with the benefit of hindsight. Has it?” I hope we will not drift into a regulatory regime which impedes market entry and I am sure that very few would argue that safety, environmental or consumer protection should be neglected by regulators. The non-enforcement of regulations is another matter entirely: this has surely been at the centre of the Irish banking mess, together with the regulators simply not reading the warning signs implicit in the CB’s own stability reports. Neo-liberalism has had little to do with it: incompetence, complacency and wishful thinking are closer to the mark @Michael Hennigan @all The sheer scale of the property meltdown and the resulting crisis in our banks has rightly demanded our attention. I wonder though, is there any hard facts/information in relation to our financial institutions dabbling in exotic financial instruments? The reason I ask is that going on this report in the New York Times, it seems to be business as usual on Wall Street http://www.nytimes.com/2009/09/06/business/06insurance.html?_r=1 Going forward, I am encouraged by the appointment of Prof. Honohan to the CB. His previous work with the World Bank gave him ample experience of the lengths/risks that Banks will go to circumvent regulation in the pursuit of increased profit. A paper he co authored in 1999 drew the conclusion that correspondingly, regulations would continually have to evolve. Going back to the NYT article. No doubt the traders on Wall Street are banking on a sizeable chunk of senior citizens being taken out in the Flu Pandemic. Do they know something we do not? The Wall Street Journal said today that companies are selling exotic financial products similar to those that felled markets and the world economy last fall. And banks’ appetite for risk has grown: The nation’s top five banks collectively stood to lose more than $1 billion on an average day in the second quarter of 2009 should their trading bets go sour, a record level. However, the Goldman Sachs chief who earned $70m in 2007, signalled a recognition that it won’t be business as usual when the regulatory system is finally overhauled: http://www.finfacts.ie/irishfinancenews/article_1017851.shtml @Michael Hennigan Well, if nothing else, we cannot accuse them of lacking innovation. @John Sheehan Ok, let’s drop reference to the dreaded word “neoliberalism”. The word is getting in the way of the substantive issues, which includes wishful thinking, incompetence and complacency, as you rightly point out. Michael Hennigan points to the inadequacy of moral suasion to persuade banks to become more conservative. In Spain the “Banco de España and its banking supervisor, put a system for special loan-loss provisions, in place in July 2000, to cope with a sharp increase in credit risk on Spanish banks’ balance sheets following a period of significant credit growth. ” In Ireland the Governor of the Central Bank reported that “Institutions were…advised that it remains vitally important for them to take a medium term perspective and to reckon with the potential consequences of rising interest rates and a return to lower rates of growth in the economy. All institutions gave assurances that there would be no slackening in prudential lending standards.” A good example of a gentle bark but no bite. @ Bill Hobbs, thanks very much for the input Bill. It is a subject I would like to look into at some time. Even moreso, because of that output document I saw from Ireland’s first computer program, which really explains why a computer, or a few hundre people with pencils and paper was required to extract or pay each individual farmer the right amount. But now that I think about it, it would seem very logical having grown up in a farming community myself, and witnessed the ‘carry on’ from a very young age, that many farmers would simply not pay when asked etc, etc. You are right the make the comparison with Germany. Where I believe such a kind of organisation would have much greater chance of success. Even in the building trades over in Germany, to this day, I always hear from architects who work there, you don’t need to do as much ‘project management’. What I mean is, one tradesman in Germany tends to look at how his trade relates to others. They get in synchronisation with one another, in order to produce a much better level of quality in the final outcome. Even if it is only a kitchen fit out for instance. The equivalent level of quality here would cost us a fortune, which makes the architect’s life difficult in Ireland. I suppose the architect in Ireland is in the same position as the cooperative movement was in. Trying to introduce the idea, that the group should work to improve the life of the individual. Rather than the other way around, where the ‘construction industry’ only exists to enable individual sub-contractors to run off with fortunes for poor coordination of their efforts with others. It is not sustainable. @Brian It’s an interesting area. Why is it co-operatives and mutual banking firms have not established a real presence in Ireland’s banking system? Credit Unions remain fragmented with the EBS is the only genuine building society left, albeit barely standing. Yet across Europe, US, Canada and Australia such organisational forms have a large presence in domestic banking markets providing consumer, business and corporate banking services. The dominant Irish banking model has been the joint stock bank since the late 18th century. Bill, All very good questions indeed. A guy whose work I am familiar with, Howard Rheingold, has some interesting views on Cooperation. He spoke about his ‘Smart Mobs’ book, a few years ago. It is good for a few laughs. http://mitworld.mit.edu/video/22 I met Gordon Clarke, the software engineer who wrote Ireland’s first computer program at the Engineers Institute, early this summer. He is a funny guy. He told me that he could do the work of 10 no. programmers. That is often the case with software projects, as my understanding goes. That you can have people of very different ability levels, and the project manager has to understand that and organise work around those differences in ability. Clarke went to work with Air Lingus, having worked with the Irish Sugar companies first. One of the employees who worked with Clarke, sent me a few comments recently. I have to say, I don’t understand much of it, but it certainly demonstrates the kind of innovations that Ireland was breaking ground on, 40 years ago. “We were using a computer model of the overall airline it its market in the context of the decision what type of aircraft to purchase next. We were doing this in the mid-60s. Aircraft manufacturers queued up to see what we were up to; they thought aircraft design was the computer role. We also exposed why the original IBM real-time reservations system, which had been installed in American Airlines, and which Aer Lingus were contemplating buying, saturated at 1/3 of its planned capacity. Its designers had assumed average values and had not allowed for the stochastic environment. We built a model of the system based on queue theory which came up with a real measure of its performance.” Comments are closed.