Politicising the Banks

Peter Mathews has a thought-provoking piece in today’s Irish Times (see here). 

The basic theme is the likelihood of substantial capital holes in both AIB and Bank of Ireland.  The reminder to look beyond Anglo is timely.   But there is one piece of the analysis that I believe is seriously misconceived: 

All of this will result in temporary State nationalisation of these three banks. This leads to another question: where will the €6.5 billion balance come from? The State will be in majority control, at levels in excess of 85 per cent, and able to force existing bondholders in AIB, BoI and EBS to take writedowns on their holdings of bonds, while maybe offering them, say, a small debt-for-equity swap as a sweetener to soften the blow.

Since when did majority control give you the right to force creditors to take writedowns?   The only way to force writedowns is through bankruptcy (or some other yet to be enacted resolution authority).   (Moreover, “voluntary” writedowns only take place when there is a credible threat of the more strong-armed thing.)

I think Peter is right that the State must be willing to generously recapitalise the banks as necessary.   We have seen the consequences of Japanese-style,  under-capitalisation first hand.   But Peter’s casual assumptions about state control reinforce for me the dangers that come with state ownership.   Part of the policy challenge must be to make the banking system safe for political control.   Part of this must be to convince the likes of Minister O’Keeffe and Minister Ryan that the day-to-day control of the banks is not an instrument of government policy.    If we don’t, we could dig a bigger hole than we are in already. 

61 replies on “Politicising the Banks”

I enjoyed the straight-forwardness of the article if nothing else.

Is there no other revenue banks have raised (or costs which have been reduced) since the crisis began that could discount, for example, the €6.5bn he feels BOI need (40% writedown of the €16bn going to Nama)?

Haven’t there been reductions in workforce, increases in variable rates (obviously this could be completely wiped out by the amount trackers are costing banks but still).

Is the implication our FR has misjudged the hole or that we are only “kicking the can down the road” until December and the recapitalisation deadline?

@ John

two things suggested by Peter (or that need to be enactable for Peters suggestions to occur):

1. credible chance of AIB or BOI liquidation
2. credible chance of us not honouring government guaranteed obligations (as most of the debt at these banks now is).

As such, in short he’s arguing for a sovereign default. Wonderful.

However, i have an even bigger issue with his BOI figures:

“Similarly, BoI needs a €6.5 billion recapitalisation. Why €6.5 billion? Because in BoI, the listed loans for transfer to Nama were €16 billion. Apply a 40 per cent write down. This amounts to €6.4 billion, which should be rounded to €6.5 billion.”

Eh, no they are not transferring 16bn to NAMA at a 40% discount. They are set to transfer 12bn, at a current discount of 36.5%. So this amounts to a loss of 4.38bn, which should, of course, be rounded to 4.4bn. So already, with a bit of market knowledge (BOI announced a reduction in NAMA transfers a few months ago), and a bit of actual fact-based analyis (the NAMA website), i have saved BOI 2.1bn this morning alone.

Peter Mattews essentially did his analysis on the banks a few months ago, and on both this site as well as the newspapers and radio shows he has been copying and pasting that analysis into his commentary. Would it be too much to get him to update it?

Btw, BOI is now considering not taking full part in the new deposit g’tee, such is their belief in the strength of their capital position.

The problem is that the FR was working from one set of figures for NAMA discounts. The actuals have come in much higher (yes, even for BoI – remember they were talking up their haircut as being only around 20% through their mouthpieces). So it’s reasonably clear that at the time of the FR stress tests, not many had a clear idea of just how ‘bad’ the loans were.

I’m afraid that the article is more of a political rant than a serious piece of economic analysis, appropriately printed on the page used by Fintan O’Toole and Vincent Browne. One might think that, if he’s writing an IT article attacking BoI for (in his words) ‘pretending it is in reasonable shape when it is not’, he might have at least mentioned that just yesterday Moody’s upgraded its credit rating for the said BoI (link below).

http://www.rte.ie/business/2010/0908/boi.html

According to Moody’s:

‘there has been a substantial improvement in the bank’s credit worthiness throughout the year’

and

‘impairment charges on the bank’s assets have peaked’

Currently searching the Irish Times for any report of Moody’s upgrading, which in current circumstances one would think was important news. So far in vain (although possibly my eyesight to blame).

@John McHale

The appropriate order of priority of claimants (debtholders first, then equity) gets murky when the government comes in and for public policy reasons rescues the equity holders in order to keep the company functioning. So if the “real” claim due to equityholders is zero, and the “real” claim of bondholders is less than the face value of their claim, but the government wants to keep the company in business and so injects equity funds at a loss, do the bondholders get fully restored before the government can inject equity at a financial (but not public policy) loss? That is the appropriate question and the answer is not obvious.

With a fast and efficient bank resolution regime this problem does not arise – as soon as the bank gets in trouble the regulators can march in and take full control and sort out new ownership.

@Gregory

While the answer may not be 100 percent obvious, I think it is obvious enough. The capital may have been provided to stave off an emergency. But surely we have to maintain the rule of law. If the law/regulations is wrong – e.g. inadequate resolution tools are available – then change the law/regulations, but not in an ad hoc institution-specific way

@JohntheO
“‘impairment charges on the bank’s assets have peaked’”

Tut, tut.

“Moody’s also said the impairment charges on the bank’s remaining assets may also have peaked.”

Kind of a key word, isn’t it?

Do you have an optimistic version of cut’n’paste?

@John McHale,

Thank you for highlighting this nonsense. Peter Matthews has made useful contributions to the debate here and elsewhere, but he fails to recognise that Ireland can do nothing, absolutely nothing, unilaterally without the explicit or implicit consent of the institutional EU. Any resolution of the current crisis will have to be implemented in this context. And any bank resolution process that will be developed will probably be adapted from the BIS’s current proposals and implemented on an EU-wide basis.

As I have pointed out on another thread the Government is willing to impose the pain of the bank crisis on Irish citizens to avoid creating serious problems for the institutional EU and governments in core EZ countries. For domestic consumption some Ministers are keen to highlight the sovereignty Ireland retains in these matters. The institutional EU is prepared to indulge this fantasy as a quid pro quo for Ireland’s compliance – but the leash will be tugged hard if they get beyond themselves.

Well, the other question is – where are we going with the whole idea of ‘Irish’ banks? Is it really a good idea to have such a thing anymore? After all, we are in a common market and a unified currency. We have a large industry on our shores which is predicated on the international nature of banking and finance. Europe is the world’s largest single market for financial services.

Is an exclusively Irish bank a good idea in the new context? There is space for niche financial institutions, surely, but there is nothing ‘niche’ about the Irish banks. They are do-everything-try-everything operations with no particular focus.

I think we are inevitably headed towards having a few strong outside players in our market. We should also look to cultivate one Irish-based bank, but rather than have it focused on Ireland alone, it should have a broader focus, aiming to provide services to consumers across the European Union.

How will the share price for these banks ever look attractive for investors with a Govt imposed minimum lending limits?
(Accepting completely that there are bigger fish to fry)

It still strikes me that we should have let them go and then attempted to pick up the pieces. This may seem a little anarchistic but ….
diarrohea is sometimes better than constipation, if you forgive the scatological metaphor.

Asking your forgiveness!

Surely we are past the point in the debate where people simply say impose losses on bondholders.

I suspect that all are agreed that this is desirable provided it can be done in accordance with law and in an orderly manner.

However, given the reality of the guarantee and the reality that we have no resolution scheme, and given the fact that it would likely be unconstitutional (and perhaps in breach of the guarantee) to introduce such a scheme and apply it retrospectively it appears we have few choices.

If people are suggesting imposing losses on bondholders it would be helpful if they spelt out, specifically, how we are to do this.

@ John McHale

“But surely we have to maintain the rule of law.”

IMO the question of whether bondholders would be entitled to rely on the fact of the government’s emergency intervention is not at clear-cut as you suggest. I think that Gregory Connor’s assessment is more accurate. As already discussed on previous thread, the Court of Appeal ruled in the context of Northern Rock that the legislation which provided that the shares be valued on the assumption / legal fiction that financial assistance had not been provided by the Bank of England or the Treasury was proportionate.

@ Christy

I agree that the irrevocable nature of the ELG scheme constitutes a fundamental legal obstacle to imposing losses on bondholders protected by it. Any attempt to repudiate the irrevocable guarantee would almost certainly be found to be unconstitutional by the courts. The only possible exception would be some sort of argument to the effect that to honour the guarantee would undermine the financial stability of the State: see by analogy the Sup Ct judgment on the Nursing home / health care case.

@gadge

While not dismissing the Northern Rock precedent, there seems to me to be an important distinction between shareholders and bondholders.

Have we learned anything about the Irish Government Nationalising Irish Banks temporary or not ?? Anglo is now a political football with ranting Politicians attacking it on all sides. Burton particularly gives me the pip. Do we now want to go through the same with AIB and Bof I ?? Sorry No Thanks !!!!!!!! This stuff is the same as he has written here and elsewhere over the past few weeks including unwinding NAMA. How can you unwind NAMA when Billions € Loans have been transferred there ? NAMA will be a disaster because of the total control it will exert on commercial property for the next 25 years plus the losses it will make. The horse has bolted there.

Can we not ban opinion pieces in the Irish Times on this subject?

@John McHale

There is a huge distinction between bondholders and shareholders. By the way before people start going on about bondholders and losses again, I am hearing that senior bondholders will either be moved into the funding bank or will be guaranteed in the ARB i.e. No losses on senior debt. It’s not going to happen.

@gadge

Our CB head and min for finance are on record to the effect that the solvency of the state is not at risk. They would prove interesting witnesses in a case where the state was arguing the solvency of the state was threatened!

But more generally – what you are saying is that revoking the guarantee might – just might – be constitutional.

But even if it was constitutional, and therefore possible, would it be advisable?

Would it not represent a sovereign or quasi sovereign default?

Would we not still need to run banks through liquidation in order to impose losses, with all the resulting system of payments issues? (Although our negotiating position for buy backs would improve!)

In short the financial system in this country appears to have been set up on the premise that banks would never lose more than their total capital and there is no legal mechanism for dealing with a situation where the unthinkable has occurred.

@gadge

the northern rock precedent is relevant to Anglo shareholders – but it would be a brave litigant that argued he was entitled to the closing share price on the day Anglo was nationalised or some such argument.

It has been argued that the High Court might exercise its discretion and refuse to grant a winding up petition filed by a subbie in circumstances where he is unlikely to receive anything in the liquidation.

However, banks are subject to a specific regulatory regime and it is not clear that a creditor can in fact apply in this way. It has been suggested on the site that it is the role of the regulator to petition for a winding up.

I think it might help the debate if someone explained the details of this process and explained, in detail, how debts are enforced against a bank and explained whether or not the regulator and or the Court has discretion to refuse to grant a winding up order

@christy
‘Twas I who asserted it, based on a comment on thepropertypin and subsequent research which revealed:
http://www.mcgarrsolicitors.ie/2009/02/24/the-shortlong-anglo-irish-bank-road/
“( b ) Where the company referred to in section 2 is the holder of a licence under section 9 of the Central Bank Act, 1971 , or any other company supervised by the Central Bank under any enactment, a petition under section 2 may be presented only by the Central Bank, and subsection (1) of this section shall not apply to the company.” “

I think an outright debt for equity swap (with a clean out of the top brass) would be better as it would avoid nationalisation and control of the banks by a stupid government, e.g. the Anglo situation.

@Ciaran Daly
All the systemically important loans have to be taken off the banks’ books first… you know important to the system…

more broad brush generalisations about the simplicity of liquidating the nations two main banks and the idea that you can take an al carte approach to selective soverign default.

mr matthews peice is similar to a lot of the op ed peices by domestic contributors recently that are short of objectives facts , feasible solutions or forward looking suggestions.

i’d take a look at kevin dalys peice ”goldman on ireland” today which is factual based. whats interesting is that he points out that a lot of the ”news” about ireland over the last 4 weeks is not really new. whats happened it that the information was processed differently by the market earlier in the year. i would say that the ”bond market” were probably over optimistic on irelands net fiscal/funding stabilty earlier in the year. over the last couple of weeks the way they have processed effectively the same information is probably now overly negative. peices like mr dalys provide a measure of somber clarity. peices like mr matthews provide quite the opposite and are not helping anything.

@ John McHale

I fully accept that the position of shareholders and bondholders is different, and the former are first in the firing line. What the Northern Rock litigation does suggest, however, is that the courts may be prepared to “disregard” the fact of government intervention in assessing the value of certain interests in a bank. The rationale of the Court of Appeal seems to have been that the Government intervened in the public interest, not to save the shareholders, and thus the shareholders cannot piggy back on the actual intervention. On the facts of Anglo, of course, it could be argued that the government intervened precisely to protect the bondholders (and depositors) and thus in the event of winding up, the fact of the government intervention cannot be ignored.

(Again, all of this is academic in the case of most bondholders, as they have the protection of the ELG and do not have to assert priority in a winding up to recover their debt).

@ Christy

I think that the legislation you are quoting is in respect of Examinership. I am open to correction, but I do not think that there is any similar restriction i the case of a winding up petition by a creditor?

(Of course, the court has a discretion to refuse a winding up petition and might well do so where, for example, same was brought by the holder of un-guaranteed subordinated debt.)

The rules for assessing the value of shares are set out in the Anglo Irish Bank Corp Act, 2009: the assesor is expressly required to value the shares on the assumption that there would be no (further) government support.

* The court would probably exercise its discretion against winding up if the creditor stood no realistic prospect of recovering anything in the winding up.

Watching peter Matthews on prime time. Where is he getting his figures from? Seriously, he is repeating this all over the place and I can’t figure it out.

@ Enda

the BoI figures are categorically wrong – the announced way back in March i think, that they would in fact only be transferring 12bn and not 16bn to NAMA. This reduction alone, per Peters figures, garned from his relevant professional experience no doubt, reduces down their required capital by 1.7bn. This is before we even go into the fantasy land of his suggestions, given that the government will not be revoking on the guarantee, defaulting on its debt, or threatening to liquidate BOI or AIB, one or all of which would be required to push through a d-for-e swap. And this is before we go into loan provisions already taken, operating profits etc etc. The guy is dangerously wrong.

Yeah and then we can just invent price rises in the PTSB/ESRI index, sure it’s all made up anyway. If only we could stabilise prices, everything would be grand.

The World Economic Forum’s annual rankings puts Ireland 139 out of a 139 for soundness of its banks and 117th for ease of access to loans. I suppose this includes BoI. Interested to hear what JTO has to say about this? It it my imagination or do I remember PH saying we are going to have well capitalised banks that are in a position to lend to businesses?

@ All,

I know that a lot of you people will deserve a good rest-up this weekend. It’s been a very long, hard week of debate and discussion. I appreciate the efforts that have gone into contributions in the various threads, and hope to get around to reading through much of the above. Thanks again, BOH.

It appears that systemically important banks may be ordered to hold up to 4pc more core Tier 1 capital under new Basel III rules, we will know on Sunday.

That would take Tier 1 to 13% for some of the too big to fail banks. Has Ms Elderfield and our CB governor got us covered for this one?

Perhaps Peter Matthews has underestimated the capital requirements of BoI and AIB.

@ RB

sorry to rain on your parade, but B3 is likely to be closer to 7% than 13% for core T1 1 and the phase in period may be until 2018. If that is the case BOI will look well capitalised.

It is likely to be a minimum of 5% plus 2 buffers adding up to 4.5% making T1 = 9 to 9.5% with 80% core which would be around 7-7.5%.

@robert. You won’t see basle III implemented fully for another ten years so it’s the least of our worries. Also where are you getting 13%? I heard min tier 1 of 6% and a buffer of 3-4%. It is due to be implemented over 5-10 years starting in 2013. Peter might be right about more capital but his reasoning as eoin pointed out is flawed. Especiallly for boi.

Peter has not updated his spreadsheet for months. It should also be said that his capital requirements are based ont on the Regualtors nor B3 but on his own standards. Does not make them wrong. Just that they will not be implemented…move on pls.

The banks were politicised.

They are now loss making and owned by the public until profit making or dissolved.

They are now reducing their lending.

Banking has two parts: retail and investment. Ireland decided that there were to be no restrictions on investment. Retail has suffered as a result. Retail can be taken over by the credit unions. Investment will fail again and again until the agency problem is addressed. Partnerships are appropriate for investment banking. Quinn nearly rescued Anglo! Government especially Irish style, is a super agency and has correspondingly large problems. Small banks are the way to go as they can compete.

Just remember that unrestricted investment results in a bubble….. and total loss can not be avoided.

Politicising the banks is clearly a bad thing.

I think this is ironic.

Top tier capital holders can’t force those lower in the capital structure to take losses. Iot is intuitively absurd.

However, a sovereign power could at threat of nationalisation (complusory acquisition and defult)

Is this the face saving way to subvert the bank liability guarrantee?

@ All

quick thing on Peter Matthews appearance on Vincent Browne last night – he said that property prices in D4 and D2 fell by 50% in the early 1980’s. VB called this, effectively, bull****. Is this correct? I was but a whipper snapper at the time, so did this actually occur?

@ Eoin

Since the CPI doubled between 1979 and 1984, it sounds like he means real terms.

If house prices in D4 were the same in 1984 as he were in 1979, then they fell by 50%.

@Eoin
Well, if you take real (inflation adjusted prices) the price of the average house fell by 30% between 1981 and 1987. Given that is the average, I can believe that top end houses would have fallen more, but I don’t know that there is public evidence of this.

Given that Mr. Browne bought his house in Dalkey in 1987 for the then princely sum of €119,000 and is looking to sell it for €3,250,000, it appears that Mr. Browne is conversant with inflation in prices, but perhaps not with inflation itself?

http://www.irishtimes.com/newspaper/property/2010/0909/1224278507148.html

@ Gekko/Hogan

cheers. But there is a very big difference between real and nominal price movements, and the effect these have on the debt owed by both households as well as the banks themselves. To throw that comment out without explanation, as a comparison with today’s problems, is a sloppy and shoody way to argue a position.

@Eoin

I do recall the big expensive Red Brick houses in that area taking a bit of a pasting. It was certainly difficult to sell a property at that time in the D4 area. As regards Browne who features in the IT yesterday and the Indo today in regard to the sale of his house and the losses he has racked up I wonder could people now start to realise commentators like him of which there are many need to be taken with a grain of salt.

@Eoin
Re- AIB

Good news if true.

How’s 3bn USD compare with book value? What does it mean in terms of capital raise?

@ Hogan

2.5bn capital raised from this (so book value 0.6bn?)

I believe 2.9bn had been suggested beforehand (given that there was a floating share price, i suppose it was easier to calculate a likely sale price incl takeover premium)

What???? No one respectfully suggesting that I be banned from this site because I have a website, if you can call it that, of my own? I musn’t have annoyed enough people! Well let’s see what I can do to provoke anonymous posters!!!!

Many people sold houses without reinvesting the proceeds. There is plenty of scope for more taxation. Land is way over valued and can be brought down to the market value wherein it becomes popular again, via current annual taxation that forces the owner to use it …… or lose it.

This is a time for genuine, wide reaching tax reform and some economists might even make up for their short sightedness by using their expertize to jog an odd elbow?

Mathews gives the source for and defends his use of the figure of €16 bn in a letter in the IT today.

Excerpt:
On September 16th, 2009, Minister for Finance Brian Lenihan advised by PricewaterhouseCoopers, reporting consultants to the National Treasury Management Agency and the Department of Finance, presented to Dáil Éireann the summary details of the loans listings from five Irish-owned banks that would be participating in the Nama project.

The Minister told the Dáil that Nama would purchase loans totalling €77 billion from the banks for €54 billion. Included in the €77 billion were €16 billion loans to be purchased from BoI.

Dan Loughrey states that BoI’s Nama-listed loans on the audited (by PWC) balance sheet dated December 31st, 2009, only three months after September 16th, 2009, amounted to €12 billion. Curiously, a large €4 billion amount of reclassification of Nama “eligible” loans had materialised in the three months since September.

No plausible, transparent explanation has been offered. At a 30 per cent write-down level, reducing the Nama-destined loans from €16 billion to €12 billion, achieves a smaller total write-down of €3.6 billion instead of €4.8 billion and, correspondingly, a reduction in losses of €1.2 billion. In turn, this reduces by €1.2 billion the pressure on the bank to recapitalise, thereby reducing and avoiding existing shareholder dilution.

This type of “economical” accounting, in my professional opinion, actually undermines proper measurement and true assessment of the capital requirements of the bank, and, arguably, undermines the safety of customer deposits.

More here, at least until the paywall descends – http://www.irishtimes.com/letters/index.html#1224278896651

@ Joe (and @ Peter Mattews)

“No plausible, transparent explanation has been offered”

Eh, i thought everyone, both within and outside the industry (who has an interest), was aware that lots of BOI’s loans were being refinanced by other banks, and so reducing the amount to be transferred? Matthews acts like this is suddently new information, even though everyone has known about it for months! Also, why does Peter Matthews suddently start using a 30% discount figure in his “new” calculations vs a 40% figure in his original ones? And why does he continunaly throw in lines like “in my professional opinion”? Im not alone in finding it seriously irritating and pointless – you used to work for a bank Peter, we get it!!

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