Policy of Disposal Just Makes Banks Weaker Post author By Philip Lane Post date March 19, 2010 Brian Lucey argues for a different approach to solving the banking crisis in this IT article. Categories In Banking Crisis Tags Irish banking system 41 Comments on Policy of Disposal Just Makes Banks Weaker ← The Baseline Scenario on Ireland → Alan Greenspan: “The Crisis” 41 replies on “Policy of Disposal Just Makes Banks Weaker” @Brian Lucey – “The first stage is that we need to move to a realistic recognition of losses” Like alcoholics and others of a similar disposition, getting them to admit they have a problem is usually a good start on the road to recovery. What do you think are the realistic chances of getting them to do this? Brian, nice article. It is important to highlight the competition issues. One quibble: I think you should have given the need for a resolution regime more prominence. Much follows from this. It is hard to see why the subordinated debt holders would agree to write-downs without a credible commitment to a regime that can actually impose the required losses given the degree of insolvency/undercaptialisation. This is a complex undertaking and time is of the essence. As it is, the only thing the bondholders must fear is a change of government. (The unsatisfactory alternative is for the Greens to be as cantankerous as possible.) Brian Good article as usual. Any feedback yet from anyone who counts? I think they now know what you are saying but they have problems selling this to others and also they realize that a lot of their supporters are wishful thinkers who will contimue to support but only if the right colour of BS comes out. Will there be any rebuttal from Garret the Good et al? On a timetable, when will you know that they are taking it on board or more crucially, when will know they have chickened out? @ Brian/John “One quibble: I think you should have given the need for a resolution regime more prominence.” Plus 1. And im on record a few times about this very issue (ie the prominence of the issue). Also, re selling off foreign assets – don’t we ultimately need cleaner, simpler banks for the most part? While the problems were mainly in Ireland this time for AIB, whats to say that the next bust won’t be in Poland or the US and the Irish taxpayer could be somewhat drawn into the problem once again? Its the Baltic operations of the Swedish banks that has got them into big trouble (particularly Swedbank which looked like going bust at one point). And its the Polish/Hungarian arms of the Austrian banks that have them in trouble. Guys – thanks. Remember – 1000 words means one has to cover a lot of ground in a glancing (not the same as superficial) way. If all the significant Irish banks end up owned by the State, what are the implications of this for banking competition in Ireland? Am I missing something here? @John yes. The lack of a resolution regime is something that Karl has noted. Its an important part of financial stability. @Eoin generally speaking one would imagine that banks (or any company) that is more operationally diversified (not just one country/product line) is less liable to go under from a single bad event. The research tends to bear this out So is it possible for us to introduce a bank resolution regime now and force losses right down the capital structure once the guarantee expires in September? @DE “So is it possible for us to introduce a bank resolution regime now and force losses right down the capital structure once the guarantee expires in September?” Well, the oireachtas is on holidays…… Anyhow, sure no need. I mean, the banks are fine, right? None have gone bust? None are even in danger of reckless trading, sure else they wouldnt trade? and doesnt Iceland! have a bank resolution scheme, and look at them… @Resolution regime “One quibble: I think you should have given the need for a resolution regime more prominence.” Does section 176 of the NAMA act not give the minister power to restructure banks? What difference would there be between this and resolution (aside from closing them down)? @ Brian Keep up the good work. I agree with what you propose but I am curious about an issue which I havent seen raised elsewhere – the source of the recapitalisation funds – the NPRF. I assume the legal changes you refer to are changes to the fund mandate to completely undiversify the portfolio? Whilst I realise the reality is that the NPRF is the only logical source of funds for this, surely it is ridiculously bad practice to expose the majority of any pension fund to not just a single asset class but to a single sector in a single geography. The VAR calculations (admittedly a flawed concept) must be off the clock. I would be extremely worried from a risk management point of view about such a huge concentrated commitment from the NPRF. Recap using these funds may be the only solution but it is bad fund management full stop. @CM Well, the forthcoming degree of home bias is an issue. What I meant however was the need to amend the act to allow investment in non-quoted equity (eg inbs). That btw is a good idea, to allow the wealth fund to invest in pe. As to the quality of the pe to be invested in, thats another story @YM, Afaik, which is probably not much, a proper resolution regime – which probably has been developed most fully in the US where there is enormous emphasis on “not taking without due process” – would have to be far more comprehensive, fully empowered and consistent with judicial precedence than the granting of discretionary powers to a Minister. Where I think the penny is beginning to drop is that even a fully empowered bank resolution scheme would have been of little use in Ireland at the end of Sep 2008. What we needed was a domestic banking system resolution scheme – and nobody, afaik, has one of those. @Brian Lucey, One can only applaud your clarity and tenacity. I’m very pleased to see more emphasis on the short and medium term damage the Government’s “domestic bank system resolution” approach will do to citizens and the economy. NAMA may well prove to be a disaster, but it kicks the problems out into the long grass of the future; the profit gouging, in the absence of any effective competition, that the zombie banks will indulge in to rebuild capital will sap the resilience of the economy for years to come. @ Brian in a world where most agree that TBTF is a major problem with the banking sector, i would have thought that ultimately we want smaller and simpler banks, both so (a) we can manage and understand their business flows and risks better and (b) so that we can let them fail ultimately if that is what is required. Diversification didn’t cause them to fail, but it certainly didn’t save them either, as AIB operates major divisions in 4 very different countries, and across almost every product line. Its sheer scale and scope complicates massively any winddown process. Rather than making them bigger, we should seriously consider breaking them up. And if as an investor i want diversification (a key attraction for investment in your mind), couldn’t i just buy an Irish bank AND a polish bank instead of an Iripolish bank? @ Brian Whilst it is a good idea to allow the wealth fund invest in private equity (and all asset classes), from an ideal asset allocation point of view I would imagine such an investment would be limited to a small percentage of the fund. It is a pension fund after all, not a hedge fund or a private equity fund. We see legal proceedings currently on behalf of pensioners who find out their pension has been entirely invested in mis-sold MBS; are we setting ourselves up for a class action in the future on behalf of the irish people against the NPRF for putting all their pension eggs in two risky securities? I thought it was the EU Commission that was insisting that assets be sold off before State Aid was given? Is it not the case that the State and the Banks agree that they would be better keeping profitable assets. I think it is wrong to assume that banks would scalp Irish customers less if they were allowed keep their foreign assets. They might even use their dominant position in the Irish market to subsidise other more profitable and less risky banking abroad. The bald statement about subordinated bondholders being protected is somewhat misleading. Only certain bondholders come within the guarantee. Hence why some have sold at a huge discount and there has still been talk of debt-for-equity swaps since the guarantee was put in place. The statement about AIB marking less than the NAMA haircut as losses in their accounts shows that NAMA will make banks recognise losses quicker than they would have done otherwise. This is ultimately to our benefit. On this point, is Anglo marking down losses more aggressively than BoI and AIB? If so, isn’t this to be welcomed (on the basis that the losses have already occured as pointed out by Colm McCarthy)? I disagree that ANglo has no future. The prospect of a duopoly should make us wonder as to whether we would be better off with Anglo having a future. Borrowers and depositors will return to Anglo if the price is right after it is cleaned up subject to there having been a comprehensive sweep of the decks in terms of personnel. That has happened. Why should Anglo have no future? Is it because, collectively, we want to cut off our nose to spite our face? On the NPRF – It strikes me that the State will have to pay some money directly down the drain in any recapitalisation whereby new private equity will get more shares per euro than the state gets. If that is the case, then shouldn’t the NPRF get the same rate as private equity if it is to behave as an investment fund. The State should/would have to pay over the premium which is being flushed away, albeit that the state might still get some equity separate to the NPRF. I am not familiar with the legal status of the NPRF but it may affect how this is carried out. Eoin raises an important point about diversification. I agree with him. I want less complexity and investors wanting diversification has many other options available. Governments now have the chance/option to act in the banks that have been bailed out. It is not uncommon for activist investors to actively strive for breaking up diversified companies in the hope that the parts will be worth more than the whole. I believe passive owners was part of the problem & therefore a passive government owner is a bad thing. Governments should at the very least consider splitting up banks they were forced to invest in. Splitting them up will make them small enough to be allowed to fail & it might even reduce the government cost for the banking crisis. @Jesper/Eoin/Brian Lucey I am not aware of any stated desire on the Government’s part for profitable bank assets to be sold off in a depressed market. If this is a mistake then who is making the bad decision? If it isn’t a mistake then who is making the right decision? As usual we get a sneery tabloid style article from the “professor of banking”. Is that really the best you can do? With respect, please try and open your mind a little, you need to be balanced. We need more from our academics than this – for the sake of the people on the street who need guidance on the issues not an excuse to revolt. Zhou has made all the points above that immediately came to my mind when reading this, these points are so obvious it is incredible that you can’t see them. Very disappointing as usual. @Zhou, the selling of profitable assets is probably something that has lingered on since the time when it was believed the banks faced a liquidity crisis. Now, with the write downs it seems more likely that it is more of a solvency crisis. Addressing a solvency crisis by selling profit generating businesses is not a very good idea. However, if the sale is done at a profit then it can make some sense for the current shareholders. That is of course if the profit is large enough to keep the bank from being fully nationalised. If I was a shareholder, I’d rather have a small part of a bad bank than no part at all. It is up to the current shareholders, we’ll see what they’ll do to keep as much as possible of their investment. @ Brian Lucey Good article – and I don’t disagree with much of the sentiment. However, I do take issue with the “only in Ireland” comment in relation to the banks selling of their foreign assets. As I understand it – and as other posters have pointed out – it is the EU that is forcing this situation. Moreover, it is not just the Irish Banks that will be doing this. Almost every bank that has come through an EU approval process (RBS, ING, KBC, Lloyds, etc) has been forced to divest some of the “crown jewels” in order to deleverage and to repay State monies. The requirement in relation to Irish banks may be greater simply because their problems are greater. I do see this raising problems going forward; albeit on a European scale. On the one hand you have banks that are being forced to divest their profitable arms in order to repay their obligations to the state. There is some justice to this as it is these institutions that made the mistakes that led to them having to be bailed out. However, on the other hand you have banks that did not get bailed out (or are in a position to repay the State thereby escaping EU sanction). These banks are now bigger still and are seeing their main competitors being broken up into smaller, easily acquired banks. (I’m thinking mainly of the larger French Banks here and to a certain extent the two large Spanish banks). It’s not inconceivable that a smaller, cleaned up AIB could be a very attractive acquisition for a BNP Paribas or a Santander. However, we then end up with mega-banks that will create even bigger problems when the next crisis comes around not to mention the lack of competition between banks in the intervening period. I think therefore that some of the questions – and consequences – of this policy should be directed to the EU rather than the Irish banks. @Fergal, You are quite correct to highlight the EU dimension. Despite the extensive powers of DG COMP – as prosecutor, investigator, judge, jury and enforcer of sanctions – and its desire, in some instances, to pursue “competition for the sake of competition”, i.e., facilitating new entrants with demonstrably unviable business models, there seems to be some tension between the Commission and, in particular, the larger member-states in the Council. France and Germany, often with the acquiesence of the other core members – BENELUX and Italy – support the expansion of their “national champions”, irrespective of economic sector, as pan-EU behemoths. Despite making noise about market foreclosure and the exercise of market power, DG COMP has rarely hindered this and has frequently imposed relatively minor divestment conditions before waving a large swathe of M&As through. On occasion, though, DG COMP has been allowed to impose significant divestment conditions. (It appears that DG COMP’s ability to impose these, often minor, inconveniences may be curtailed. Although Neelie Kroes, the feisty Dutch commissioner, has been reappointed, she has been moved from Competition to a backwater and senior staff at DG COMP hvae been reassigned to other DGs.) This provides part of the context in which the Irish banks – either cleansed or zombies – will operate. It is unlikely the Government will be able to secure the Commission’s consent to allow them a decade unmolested during which they might be able to recuperate at Irish citizen’s expense, but I expect it will try. A compromise might involve the takeover of either AIB or BoI by a big EU player, with the other – and a new “third force” – being allowed to join the feast of oligopolistic profit-gouging. @Zhou “I thought it was the EU Commission that was insisting that assets be sold off before State Aid was given? Is it not the case that the State and the Banks agree that they would be better keeping profitable assets.” No, the EU afaik want to see that the banks are doing what they can to recap BEFORE state aid is given. “I think it is wrong to assume that banks would scalp Irish customers less if they were allowed keep their foreign assets. They might even use their dominant position in the Irish market to subsidise other more profitable and less risky banking abroad.” How can you subsidise profitable assets with less profitable ones? “The bald statement about subordinated bondholders being protected is somewhat misleading. Only certain bondholders come within the guarantee. Hence why some have sold at a huge discount and there has still been talk of debt-for-equity swaps since the guarantee was put in place.” No – its not misleading. Its fact. Fact – the capital risk bearing base is subdebt plus shares. Shares were properly thrwn to the wolves. Subbies weren’t. That they sell at a discount is irrelevant – they still have value, and in any case, from an accounting perspective, its the book value of subbies that absorbs losses “The statement about AIB marking less than the NAMA haircut as losses in their accounts shows that NAMA will make banks recognise losses quicker than they would have done otherwise. This is ultimately to our benefit. On this point, is Anglo marking down losses more aggressively than BoI and AIB? If so, isn’t this to be welcomed (on the basis that the losses have already occured as pointed out by Colm McCarthy)?” Cant follow this. AIB etc book the minimum they can in reality and the max they can to keep afloat. We will know anglo’s situation next week or so I disagree that ANglo has no future. The prospect of a duopoly should make us wonder as to whether we would be better off with Anglo having a future. Borrowers and depositors will return to Anglo if the price is right after it is cleaned up subject to there having been a comprehensive sweep of the decks in terms of personnel. That has happened. Why should Anglo have no future? Is it because, collectively, we want to cut off our nose to spite our face?” What future do you think anglo has? What banking niche does it plan to fill? @Brian Lucey Excellent article. So we begin with bank resolution legislation to give us a stick to threaten the bondholders with. Then: 1. Recognise losses (NAMA may have done some good). 2. Haircut subordinates (and a tiny trim off seniors). 3. Recapitalise through NPRF 4. and selling stakes. 5. Wind up Anglo/Nationwide. 6. Create third force (transfer Anglo business loans and some personnel) Result: “Overall, this would leave the State with a new investment of some €25 billion or more, cheaper than Nama as planned. But that would result in healthy banks and a healthy banking system.” Alternative: The Neverending Zombie Banks Story (Author: Mr. B. Lenihan). @All I stuck in the bit about a tiny trim for senior bondholders. It’s not in the original article by Mr. Lucey. In the case of Anglo/Nationwide though they should be glad to be getting anything and ecstatic to get away with just a few lost hairs. @ Paul Hunt You raise an good point. It will be interesting to see if the banks receiving EU sanction under the new Commissioner will receive any different treatment from those who had their cases decided under Neelie Kroes. The Irish Banks may be a little lucky in this regard! @Fergal, Indeed. Having spiked Ryanair’s guns wrt its proposed takeover of Aer Lingus – in my view on pretty spurious grounds – it will be interesting to see how this pans out. It may be, as often, but not always happens, that EU officials will treat the interests of Irish citizens and the economy more tenderly than the elected government. @BL “No, the EU afaik want to see that the banks are doing what they can to recap BEFORE state aid is given.” I had thought that these assets would only be sold if the EU Commission required it. Who is making the bad decision in Ireland? “How can you subsidise profitable assets with less profitable ones?” Perhaps I should have said they would be more likely to target their competitive rates and charges at more profitable and competitive markets. In any event, I am not supporting selling off profitable assets into a depressed market. ” Shares were properly thrwn to the wolves. Subbies weren’t. That they sell at a discount is irrelevant – they still have value..” Shares still have value too! In any event, I think it is common cause that not all subordinated debt was guaranteed. “Cant follow this. AIB etc book the minimum they can in reality and the max they can to keep afloat. We will know anglo’s situation next week or so” You said we needed to make banks recognise their losses. I pointed out that NAMA speeds up recognition of losses. I do worry about sub €5m loans though. “What future do you think anglo has? What banking niche does it plan to fill?” Business banking I presume. @Brian Lucey Brian – I want a full-frontal on the Front Page of the SUN (-; and a bare-chested tattoo ‘WE’RE BEIN SCREWED’ nakedly visible to the great_unwashed. To compete with Drop_Kick_Jonny and his scores galore you gotta get real on the Full_Monty as Joe and Joan’s offspring do not DO-de_Times … Terri_Prone has offered to do the make_over gratis in the ‘public interest’ and the Editor is holding the entire front page on Monday open for you. GO FOR IT. @ Zhou/Brian banks are receiving state aid first, then being told what to sell off/restructure. Its being done for competition reasons as much as recap reasons. RBS has just announced, for instance, that its going to sell off a group of its branches, possibly to Santander, and Lloyds is doing something similar. The EU is also demanding reductions in some institutions complexity/risk profile (ING), and Lloyds has pledged to do something similar. Its not strictly recap-related and not strictly competition related, but more a case of the EU looking at the insitution and suggesting one or both to meet their satisfaction from a number of perspectives. But i dont think its wrong to say that in some situations the EU is actually forcing the banks to sell “good” assets. http://blogs.reuters.com/financial-regulatory-forum/2009/09/18/brussels-tough-line-to-force-europe-bank-shake-up/ For example, AIB might be told to sell off their foreign assets to raise capital, and BOI might be asked to sell off ICS to create competition (im pulling these out of my head, not suggestions ive actually heard). @Eoin What directives do you think from EU on Anglo_Irish and INBS? @ DoD I’d imagine they’ve told them to present a business plan for their continued operation, and that’ll have to pass the test with the EU. Obviously thats a highly controversial policy! @David O’Donnell That’s not necessary – yet. There is an excellent graphical image below. Anglo has already vapourised €13 BILLION of public funds (Direct 4 + Sneaky Central Bank 9/10Bn gone too). What this looks like in €100 bills is illustrated here in reference to Angola’s upcoming likely losses of €11Bn: http://thestory.ie/2010/03/19/anglo-losses/ Angola’s Satanic Sister, Nationwide, is now demanding more flesh. First €1Bn, then €2Bn, now hundreds of millions more. http://www.independent.ie/business/irish/irish-nationwide-and-ebs-to-require-larger-cash-injection-2104219.html While Angola wants €8Bn MORE of our intestines http://namawinelake.wordpress.com/2010/03/19/anglo-to-transfer-e36bn-of-loans-up-from-e28bn-in-september-2009/ in exchange for its dead carcasses like the 95% Dublin site drop in Woodbrook: http://www.thepost.ie/commentandanalysis/outsiders-pay-for-insider-greed-47921.html NAMA must stop after the valuation process. Swapping mountains of public cash for an Everest of dead property loan carcasses, to produce a zombie banking system, with a Frankenstein third force, is an Antarctic-sized insanity. @Eoin Ta. We wait and see … and which new non-exec ‘insiders’ the Minister appoints next week. @Brian Lucey HAve you ruled out AIB being nationalised 100% @Oliver Vandt “… an excellent graphical image below. Anglo has already vapourised €13 BILLION of public funds (Direct 4 + Sneaky Central Bank 9/10Bn gone too). What this looks like in €100 bills is illustrated here in reference to Angola’s upcoming likely losses of €11Bn: http://thestory.ie/2010/03/19/anglo-losses/ Excellent post. This would make an ideal backdrop for Brian Lucey’s upcoming scoop on the front page of the SUN. Think is should also be posted up on every lamp-post in Dublin South East (both PD and GP varieties), Up Every Tree in North Dublin, and at the entrance to every race-course in County Kildare, for a start, and in the public interest of course. @All Great Comment from ‘trouserman’ on original post in the previous thread: “No ruling class has ever abolished or even reformed itself.” –Gore Vidal, The Last Empire (essays) @Brian Lucey & The Irish Daily STAR might be a better bet – Front page + interview – The Editor is supportive of your efforts – is a business pragmatist, and is more than well tuned to ‘moral hazard’ in both banking and government. If a big tree falls in the forest, and noone is around to hear it, does it make a sound? MAKE THE CALL. @Brian Lucey & your comment in the Sunday TIMES noted – Now – the Daily Star Times and the Sun Times await. The boyos in Ballinacurra, Crumlin, Ballier, Moyross, and .. er … Ballsbridge are waiting. @ Brian L Interesting link/post in the FT blog about how the potential for international diversification is actually disappearing due to the high correlation of developed world economies. http://ftalphaville.ft.com/blog/2010/03/22/181451/so-much-for-diversification/ Comments are closed.