Burning Ourselves?

On tonight’s edition of The Frontline on RTE, Gavin Blessing, Head of Bond Research at Collins Stewart made some comments about repayments of ELA liabilities by the IBRC (i.e. Anglo-INBS) that I’d like to elaborate on. Gavin pointed out that IBRC’s major liabilities are to the Central Bank of Ireland. Indeed, I estimate that IBRC now owes about €42 billion in ELA to the Central Bank.

Gavin then followed this up by saying that we would be “burning ourselves” if we cancelled these payments to the Central Bank. This is a complicated business and I fully understand Gavin Blessing expressing the situation in this way. However, I would like to emphasise that it is my understanding that there is no offsetting financial gain to the Irish state from the IBRC’s repayment of Emergency Liquidity Assistance to the Central Bank.

The details are below but I can summarise this issue as follows: Channelling taxpayer funds towards repayment of ELA is equivalent to burning public money.

Let me start by describing the information communicated by a central bank balance sheet, such as this one for the Central Bank of Ireland. Central banks could create money by following Milton Friedman’s analogy and dropping it from a helicopter. However, helicopter drops are neither efficient nor fair. So the long-standing tradition has been for central banks to issue money by acquiring assets via open market operations.

Central bank balance sheets thus show you the assets that a central bank has accumulated via its money issuance. At some point in time, somebody decided it was a good idea to place the money that was issued to acquire these assets on the “liability” side of this balance sheet. I’m not sure this was such a great idea as central bank balance sheets can cause a lot of confusion. Suffice to say, however, these liabilities are somewhat theoretical. If someone brings a banknote to the Central Bank, the only thing they can exchange it for is other banknotes that the cost the Bank almost nothing to print.

That over with, the accounting treatment for Central Bank’s issuance of ELA can be described as follows.

1. The Central Bank provided ELA by crediting, for example, Anglo’s reserve account that it holds with the Central Bank. This was just the Central Bank creating electronic money out of nowhere and this new money was counted as a liability on the Bank’s balance sheet.  In particular, this shows up in “Other Liabilities” on the CBI’s balance sheet.

2. On the other side of the balance sheet, the money that Anglo then owed back to the CBI as a result of the ELA is counted as an interest-bearing asset for the CBI.

Now consider the repayment of part of the ELA by the IBRC. For example, consider repayments funded by IBRC’s annual receipt of €3.1 billion in promissory note payments. One could imagine two possibilities for what happens next.

One possibility is that the following happens. A €3.1 billion repayment gets taken in by the CBI who can then, for example, buy German bonds with it and ultimately use the interest payments on these to pay money back the government when they make profits.  In this case, the amount of money created from the original operation doesn’t change and the Central Bank’s ELA asset gradually turns over time into other, more tangible, financial assets. It is likely that this is what Gavin Blessing thinks is happening.

The alternative possibility is less attractive. The Central Bank takes in the €3.1 billion repayment and then deducts this from the value of its ELA asset. On the liability side it reduces “other liabilities”—the idea is that taking in this €3.1 billion is effectively siphoning off part of the money that was created in the original ELA operation.  In this case, no new securities are purchased by the Bank. The €3.1 billion is effectively being burned.

The available evidence indicates that the latter, less attractive, mechanism is what occurs.

Earlier this year, the Irish government deposited a large amount of money in the Irish banks; this money was later converted from a deposit liability into equity when the banks were recapitalised. When the banks obtained these funds, they reduced their ELA debts to the Central Bank of Ireland.

A quick look at the Central Bank’s balance sheet shows that “other assets”  (which we know is mainly ELA) are down by €17 billion since February. Other liabilities are also down by €19 billion. There is no sign of any jump in the Central Bank’s holdings of other securities as a result of the ELA repayments. There is no hidden positive story at the end of the ELA rainbow.

So why repay it at all? Well, if we don’t repay this money, the Central Bank’s ELA operation will have been equivalent to flying a helicopter over the IBRC, dropping €40 billion and not asking for it back. A jolly good wheeze for the bondholders and depositors who got paid back but possibly not a good precedent for the Euro area. If every Euro area country could do that with their troubled banks, there would be no banking problems but there would probably be a decent amount of inflation.

So our European partners would consider failure to repay ELA to be bad form. But that still seems to leave the pace of repayment, and the funding of this repayment, as very much an open question. In the meantime, let’s not kid ourselves about hidden benefits from these payments.

75 thoughts on “Burning Ourselves?”

  1. How is it that the Irish central bank can just create money? I thought being in the Eurozone meant that it could no longer do that.

  2. “The ECB was undoubtely a buyer yesterday but held back from overwhelming action, risking a deadly metastasis of the crisis. Board member José Manuel González-Páramo issued a blunt warning that Italy can expect no white knight. “The ECB is not a lender of last resort. It does not have a magic wand.”

    So the ICB has to be our LOLR.

  3. Its very late and I’m not at all sure this isn’t rubbish, so I should stop typing. Having typed that, it might assist discussion.

    If Imaginary Central Bank Governor Pogue ma Honehan repos a pro note that everybody knows will not be repaid then he has created money to the amount of ELA advanced. Any demand to actually recap the ICB goes to the state.

    If you issue a pro note you are creating a sov liability but not sucking out any money from the system by getting investors to pony up. You are blowing a money bubble.

    If the pro note is expected to be repaid, then, if you sell it to the ICB, then before you repurchase it, the ICB has the note as an asset and the money advanced to you as a liability.

    If you end up getting some readdies from somewhere else and part repurchase (rather than rolling it all over) then the ICB’s assets and liabilities both fall.

    You, the bank, can keep those new readies as assets (as near cash, Bunds, whatever) and leave the note with the ICB, or as above, give them to the ICB in exchange for some of the pro notes – which are then your asset.

    If the pro notes are to be honoured then the money bubble is money sucked from the future (tax receipts). If it isn’t to be honoured and the ICB doesn’t have to be recapped, it is money created.

    Ultimately, is the question here whether the ICB gets permission to write off the pro note?

  4. This issue came up on FT Alphaville a few times and of course Lorcan may stop by to help the discussion.

    http://ftalphaville.ft.com/blog/2011/01/18/461881/the-mechanics-of-irish-euro-printing/

    http://ftalphaville.ft.com/blog/2011/02/08/482281/irelands-secret-liquidity-is-unbelievably-cheap/

    It’s also important to recall one of the great discussions of accounting in popular entertainment

    Jerry: So, we’re going to make the post office pay for my new stereo, now?
    Kramer: It’s a write-off for them.
    Jerry: How is it a write-off?
    Kramer: They just write it off.
    Jerry: Write it off what?
    Kramer: Jerry all these big companies they write off everything.
    Jerry: You don’t even know what a write-off is.
    Kramer: Do you?
    Jerry: No, I don’t.
    Kramer: But they do – and they are the ones writing it off.

  5. Would it be correct to say that this debt is being repaid, because if it wasn’t, then every other country would just print money to pay off the bank debt? So fundamentally, it’s about the ECB disliking inflation, and very much not wanting to just print money to get out of this crisis? If this is the case, it seems like sound enough logic to me.

  6. I asked this question before in relation to Greece and had no response (maybe it really is a stupid question) however, as this sort of links to this topic I will ask it again.
    What is to stop a national central bank in the Euro from printing huge amounts of Euro?
    I can understand that the national central banks are working under instruction from the ECB but what happens if one “goes rogue” eg the Greek CB decides this is crap and we will just print like crazy, how would the ECB stop this?

  7. @shaun byrne
    Although this doesn’t answer your question, it’s worth knowing that the central banks use distinctive serial numbers. Of course a rogue central bank could use the Bundesbank serial numbers. That would obviously be illegal. What the ECB would do by way of reprisal I don’t know; perhaps Germany would seek extradition of the officials responsible on forgery charges.

  8. Of course there isn’t a gain, there is the absence of a loss.

    Who gets to recapitalise the ICB if it goes bust because the IBRC doesn’t repay the promise?

  9. @ hoganmahew

    “Who gets to recapitalise the ICB if it goes bust because the IBRC doesn’t repay the promise?”

    Ooh, let me think, let me think, let me think.

    Err – the taxpayer! Am I right? It seems to be the answer to all the other questions about who pays.

  10. @ Hogan

    “Who gets to recapitalise the ICB if it goes bust because the IBRC doesn’t repay the promise?”

    This kind of sentence is an example of why I’m not a fan of central bank balance sheets. They lead to people making comparisons with private balance sheets that aren’t exactly accurate.

    The CBI is not going to “go bust” in any concrete sense.

    There’s no need to “recapitalise it” after a failure to repay ELA loans other than the reasons already pointed out above (bad and inflationary precedent, failure to comply with existing procedures).

    Anyway, I just think it’s worth clarifying that the use of the phrases “going bust” and “recapitalise” to make it sound like we have to repay the ELA doesn’t change the argument one iota from how I’ve spelled it out.

  11. @Karl Whelan/Others

    re ICB balance sheet.
    What is the distinction, or why the distinction, on the asset side between Assets comprised of ‘main refinancing operations or longer term refinancing operations and ‘other assets’ which appears to be ‘Emergency Liquidity Assitance’ (ELA).
    [In reality both catagories are lending to banks if one ignores the term emergency. And who is to say, other than barely credible banks, as to what is emergency and what is not.]

    There appears to no distinction on the liability side corrosponding to these assets.

    From my read of your argument you are correct. The return of ELA to the ICB which then withdraws money from circulation is the equivalent of burning money. In other words the ICB leveraged up or printed money so as not to allow Anglo to collapse on strict instructions from the ECB but the ECB is now squeezing the ICB to cancel the ELA through rapid deleveraging.

    It seems to make make more more sense for the ICB to creat a long term assets catagory called ‘ECB-Save the Euro-Instruction’ and refuse to deleverage this ‘asset’. After all that was what the ‘asset’ was for.
    It sure as hell was of no benefit to to this country.

  12. @shaun

    “I can understand that the national central banks are working under instruction from the ECB but what happens if one “goes rogue” eg the Greek CB decides this is crap and we will just print like crazy, how would the ECB stop this?”

    This question has been floating around for a year. The discussion started when people noticed ther Irish ELA. I am not aware of a satisfactory answer to date.

    In the investement ‘space’ (yuk!. Can that be my entry for Colm’s competition?) the question of what an account with a Euro in it – in which reserve account and having got there by a central bank accepting what and with or without permission from the ECB – actually contains and who would accept it as payment with what if any discount, is of interest.

  13. ‘So why repay it at all? Well, if we don’t repay this money, the Central Bank’s ELA operation will have been equivalent to flying a helicopter over the IBRC, dropping €40 billion and not asking for it back. A jolly good wheeze for the bondholders and depositors who got paid back but possibly not a good precedent for the Euro area.’

    Is this allowed? I was under the impression that legally the Irish government would have to ahem ‘recapitalise’ the bank. Not because the liabilities are real and need to be ‘paid back’ but in order to insure against helicopter drops and to maintain the ECB’s sole control of monetary policy.

  14. Many of the commenters here are focusing on the second last paragraph. Let me repeat something from the last paragraph.

    “So our European partners would consider failure to repay ELA to be bad form. But that still seems to leave the pace of repayment, and the funding of this repayment, as very much an open question.”

  15. @Karl

    Is it not the case that if CBI were to become insolvent due to a default on the promissory notes, then the rest of the Eurosystem would be forced to recapitalise it at substantial cost? It would not be left in an insolvent state and still be allowed to be part of the system.

    This from Willem Buiter and co-authors earlier this year:

    “We assume that the ELA lending by the CBI is subject to a full guarantee/indemnity by the Irish government, an assumption confirmed by the Irish Independent article cited above. If the Irish government is solvent, the Irish ELA facility therefore provides a mechanism through which the Eurosystem can shift the counterparty and credit risk of lending to Irish banks to the Irish sovereign. This, indeed, is the purpose of the ELA. When a bank requires additional Eurosystem liquidity but is no longer, at the margin, a fully eligible counterparty to the Eurosystem, either because the ECB/Eurosystem views the bank as de-facto insolvent or because the bank does not have any acceptable collateral it can offer the NCB of that bank can at its own risk (or rather at the risk of its sovereign), provide that bank with Eurosystem liquidity via ELA, if it is
    not vetoed by a two thirds majority of the Governing Council of the ECB.

    However, when the sovereign that guarantees the national central bank’s
    exposure under the ELA is itself likely to be insolvent (and when the NCB’s
    capital and reserves are puny), it is not in fact possible to provide a redible
    guarantee/indemnity for that national central bank’s exposure under the ELA. The risk that the collateralised loans made under the ELA will go bad cannot in fact be shifted to the NCB and its sovereign. If there is no external support for the sovereign available (say from the European rescue facilities), the counterparty and credit risk instead will likely remain with the Eurosystem, and are forcibly pooled by the other members of the Eurosystem.

    When an NCB with limited capital provides liquidity to banks in its jurisdiction through its ELA facility under a guarantee/indemnity provided by a government that is illiquid and probably de-facto insolvent, all that happens is that the ELA becomes a mechanism through which the urosystem dilutes its standards for counterparty eligibility and collateral eligibility. Any losses resulting from CBI lending under its ELA facility to likely insolvent banks offering as collateral securities issued or guaranteed by a sovereign that is also likely to be insolvent, will be for the account of the Eurosystem as a whole. It turns the Eurosystem from a provider of liquidity to solvent banks into a provider of capital, that is, of solvency support, for likely insolvent banks.”

    http://www.nber.org/~wbuiter/sonofela.pdf

  16. In the old rouble zone there was a ‘federal’ cb in Moscow, the Bank of Russia, and national cbs in Kiev, Almaty etc. The latter proceeded to print (electronically) roubles for the local banking systems, ELA in effect. They overdid it, the Russians got upset, there were hyperinflations and there are now 15 currencies instead of one. So you cannot do ELA without limit and you cannot do any, as I understand it, without permission.

  17. @shaun byrne

    I suppose in the final analysis if the ICB created more ELA than authorised and the ECB governing council told them to stop (2/3 vote suggested above) and the ICB refused to do so then the ECB itself or another EU institution could bring Ireland before the European Court of Justice and seek a remedy there.

    I suppose that just shifts the question to what would be the remedy

  18. @Karl

    I know you don’t like the CB balance sheet idea, but is it the case that, (assuming no eurozone objection for a minute) if we didn’t pay back our ELA the Irish central bank could just write down some liabilities and treat the loss as spilled milk?

    If so, what would the ICB write down on its balance sheet? The assets written down would be the loans to Anglo/IBRC, but what would the liabilities written down be?

  19. @Colm Mcc

    “So you cannot do ELA without limit and you cannot do any, as I understand it, without permission.”

    The key element is “rogue” I think.

    You could say: “So you cannot do ELA without limit and you cannot do any with permission, as I understand it, without permission.”

    I think there was a discussion here that touched on this a few months ago in which I dredged up an analogy with ‘The Hunt for Red October’ to try to get the ‘rogue’ point across. (Central bank governors with beards obviously should attract suspicion here).

    Usually nobody bothers thinking about tail risks properly precisely because they seem so unlikely that there can’t possibly be any utility in doing so. Er…

  20. @Karl Whelan
    “There’s no need to “recapitalise it” after a failure to repay ELA loans other than the reasons already pointed out above (bad and inflationary precedent, failure to comply with existing procedures).”
    I’m not sure that decision is within the scope of the Irish government. Failure to recapitalise would, in effect, be printing. If printing by an NCB is permitted, then we already have nothing to worry about. We might aswell promissory miracles, because we have the tooth-fairy on our side 🙂

    While I agree with you that it is the inevitable end game of the bad debts in Europe (not just in Ireland and not just in the periphery), we are, unfortunately, going to have to wait until the Germans realise that their banks are hopelessly insolvent too. Until then, being teacher’s pet is arguably the least bad course.

  21. Great post really usefull to help understand and challenge.

    Wilkepedia has interesting example of the various money supplies in the following link (usual Wilkepedia provisos)

    http://en.wikipedia.org/wiki/Money_supply

    Is there a counterparty transaction in the ECB (?) account to close the loop? i.e. does the ECB (?) have an entry on the asset side where it expects to get the electronic money back from the ICB?

  22. @ John

    “Is it not the case that if CBI were to become insolvent due to a default on the promissory notes, then the rest of the Eurosystem would be forced to recapitalise it at substantial cost? It would not be left in an insolvent state and still be allowed to be part of the system.”

    1. I just don’t think “insolvent” is a useful term in this situation. The analogy with private sector banks is just not useful.

    2. It’s not a matter of they would be “forced to recapitalise it”. Rather, it’s a case of that they would prefer to see current procedures adhered to. On its own (precedence setting aside) there would be no great damage done due to failure to repay the ELA, so “forced” is too strong a term.

    3. “It would not be left in an insolvent state and still be allowed to be part of the system.”

    The “would not be left in an insolvent state” terminology is just a fancy way of saying that you think our European partners would kick Ireland out of the Eurosystem if we unilaterally decided not to repay the ELA.

    Perhaps that’s true; we know now they have no problem with rolling out the “ja oder nein?” when they’re sufficiently aggrieved.

    In any case, just because I’ve pointed out that there’s no hidden benefit from repaying doesn’t mean that I’ve recommended unilateral reneging on repayment of ELA.

    Again, I’d ask people to read my concluding paragraph:

    “So our European partners would consider failure to repay ELA to be bad form. But that still seems to leave the pace of repayment, and the funding of this repayment, as very much an open question.”

  23. @ Christy

    “I know you don’t like the CB balance sheet idea, but is it the case that, (assuming no eurozone objection for a minute) if we didn’t pay back our ELA the Irish central bank could just write down some liabilities and treat the loss as spilled milk?

    If so, what would the ICB write down on its balance sheet? The assets written down would be the loans to Anglo/IBRC, but what would the liabilities written down be?”

    My CB-balance-sheet-hating self says “Who gives a toss? It doesn’t matter because they’re not real liabilities anyway”

    However, to my more “inside the box” thinking friends, I could say: How about you don’t write down the asset? How about it’s just an asset that pays back very slowly over 100 years.

  24. I suppose the fundamental unwillingness is a refusal to address insolvency. The banks in Ireland were insolvent, so the government ‘had’ (under pressure or not) to guarantee them. This along with some other stuff 🙂 rendered the state insolvent, so the EFSF (and some other chaps) had to guarantee the state. The EFSF is now itself illiquid and has already promised more cash than it can raise. Where to next?

    Accepting that there are losses and apportioning these sems to be the only sensible solution, as it was the only sensible solution in 2008…

    The grossest of the ineptitudes of the europeans, though, is that they have still not built a legislative framework that enables any of this to happen.

  25. @Karl Whelan
    “How about it’s just an asset that pays back very slowly over 100 years.”

    And a zero coupon asset at that – see my previous suggestions for liquidity objects for national bad debt agencies.

  26. @Hogan,
    It appears that “printing” money by NCBs is permitted, so long as the ECB signs off. Now that we have “printed” it, and it’s out there, there’s no obvious reason why we should take the initative to recall it. Unless the ECB or Troika come the heavy, there’s no obvious reason why it should not just sit on the Irish Central Bank’s balance sheet for the next thousand years.

  27. @ BeeCeeTee

    “there’s no obvious reason why it should not just sit on the Irish Central Bank’s balance sheet for the next thousand years.”

    Agreed. The only fly in ointment is that, apparently, the ELA is only issued over a relatively short term and requires ECB Governing Council approval to be reissued.

    So our Eurozone partners would have to agree to the thousand year plan.

  28. @bct

    Don’t forget that the pro notes are also a liability of the state. If you are thinking about buying an Irish sovereign bond, you might factor in the question of whether this was a liability that might at some point come back into fashion.

  29. @Karl

    You’re breaking my brain!

    When i think of central bank liabilities i think that’s the same thing as the monetary base, i.e reserves held by banks with the central bank and currency in circulation.

    If i think of the central bank increasing its assets (by for example ELA lending) think of that as increasing the monetary base as there is an accompanying increase in CB liabilities.

    Is what you’re saying that this accompanying increase in liabilities is really an accounting fiction – there is in fact no extra liability taken on?

  30. My understanding is that every time the Central Bank of Ireland prints money (or creates electronic money) it needs to get permission from the ECB. In accounting terms the transaction is recorded as a liability of the CBI and an asset of the ECB.

    If Anglo refuses to pay back its ELA, Anglo has got rid of a liability. The CBI no longer has the equivalent asset, but the CBI’s liability remains with the ECB. The ultimate provider of funds is the ECB. If we are saying the CBI does not want to pay the ECB (because Anglo is not paying the CBI), we are, in effect, saying we want to leave the Euro. The ECB cannot cede control of the money supply to national CBs (see Colm McCarthy post above).

  31. When the CBI creates the ELA what does it put on the other side of its balance sheet?

    John martin says it creates a liability to the ECB?

    But lets say it was a simple central bank, i.e. a national central bank, what would it do then?

  32. @BeeCeeTee
    I agree, but your “unless” is a rather large fly.

    There is also the problem that the current collateral structures seem to require coupon payments. That too would need to be altered. There’s not much point in issuing very long-term debt if we currently aren’t in a position to pay the coupon on it.

  33. I think poor Karl is starting to go blue in the face repeating the line:

    “So our European partners would consider failure to repay ELA to be bad form. But that still seems to leave the pace of repayment, and the funding of this repayment, as very much an open question.”

    This is the single most important factor in this argument. The amount of money being made or not made at the Central Bank of Ireland (or at the ECB) does not matter a gnats fart, so long as it is not inflationary.

    What does matter is how paying back the money that has been created weighs on Ireland’s budget deficit.

    We made the first payment in March of this year. This was real money coming from the exchequer.

    So, if we extend the term of the promissory note repayment to (for eg 40 years) we can lower the budget deficit effect of this payment.

    Due to the incredibly circular structure of the ELA prom notes, (see http://blog.cornerturned.com/2011/03/14/big-picture/ ) any interest payment on the prom notes will make their way back to the exchequer, so there is very little downside to extending the term of the prom notes.

    What central banks do to create money doesn’t really matter. But they can only uncreate it by having someone pay down the ELA, or by selling the prom notes to someone else.

    So without a willing buyer (ECB??) the ELA can only be unwound by the exchequer paying down the prom notes, so probably best for all if we pay them down as slowly as possible.

  34. Sorry for multiple posts

    I think i get it a bit better now

    when the fed conducts an open market operation it buys a bond and credits the purchasers account with money (?) thereby getting an asset (bond) and a liability (the reserve). Now clearly the liability is fictitious in the sense that it can create as much as it wants of these liabilities.

    with the ELA then, the CB creates an asset (the ELA) and then I suppose it credits the Anglo/IBRC account with funds and thereby creates a liability (reserve). Then Anglo draws down these funds and pays off the beloved bondholders.

  35. @ John Martin

    “In accounting terms the transaction is recorded as a liability of the CBI and an asset of the ECB.”

    No. That is not the way the accounting works. The ECB itself does not engage in open market operations. All money creation occurs at the level of national country central banks.

    But you’re right that the reason that ELA needs to be approved by the Governing Council is because they want to maintain the GC’s control over the money supply.

    I’ll add the now-obligatory observation that I didn’t recommend unilateral reneging on ELA repayment and the encouragement to read the final paragraph.

    @ Christy

    “When the CBI creates the ELA what does it put on the other side of its balance sheet?”

    I think you’re confusing yourself here. Yes, the money created is recorded as a liability on the central bank balance sheet. But it’s a pretty fictitious liability.

  36. The ECB said -you cannot let the banks go bust.
    Ireland not having the money to capitalise the banks nor the cash to loan to them was ‘allowed’ by the ECB to run up cash support for the banks through the ICB.
    Cash support for banks (Anglo and INBS) that Ireland did not want but that the ECB insisted we maintain.

    The ELA is simply a noose that the ECB gave Ireland to put around its neck.
    It was that simple. The ownership of the liability in the event that the assets dont pony up has already been dealt with. The deficits are already captured in the legal entities of IBRC and NAMA.
    They are fully owned by the State now.
    Ireland’s neck is well and truly in the noose.

    I suspect it may be worse than that. Lets consider this (I am subject to correction here).
    ICB ‘other assets’ = ~53 billion.
    Total Prom Notes = ~30 billion (assuming notes back ELA)?
    Total NAMA bonds = ~30billion. (assuming bonds back ELA)?

    So is the amount of ELA provided less than value of the assets being backed and therefore giving rise to spill over deleveraging pressure on other ‘pillar banks’.

  37. @ Christy

    “with the ELA then, the CB creates an asset (the ELA) and then I suppose it credits the Anglo/IBRC account with funds and thereby creates a liability (reserve). Then Anglo draws down these funds and pays off the beloved bondholders.”

    Exactimundo.

    Now to get your brain hurting again, I can point out that when Anglo pays off the beloved German bondholders, the liability changes from being one associated with the reserve account to being a Target 2 “intra-eurosystem” liability of the type so loved by dear old Hans Werner Sinn.

  38. What happens to the interest the CBoI earns on the ELA? If the CBoI just created the money used to create the ELA does it get to keep all the interest it charges on the money?

    According to its last report Anglo paid €519million of interest to the CBoI in the six months to June 2011.

  39. @Hogan
    re:

    “The grossest of the ineptitudes of the europeans, though, is that they have still not built a legislative framework that enables any of this to happen.”

    Why does Ireland or indeed any other country have to wait on the Europeans to do this? Who is blocking this?

  40. @Joseph Ryan
    Because the same idiots that are trying to make good the bad system have allowed a situation to develop where the european banks, particularly the eurozone ones, are cross-risked to an incredible degree.

    It is the same systemic risk that the Japanese discovered they had, just not through equity like the Japanese banks used. Mostly it is through bonds, but also through derivatives, particularly IRS, I reckon.

    It’ll take a heap of money in the short-term to even have a bumpy ride; I don’t believe a smooth one is at all possible now.

  41. @LorcanRK
    “any interest payment on the prom notes will make their way back to the exchequer, so there is very little downside to extending the term of the prom notes.”
    Er, you’re kind of supposing that the IBRC is the best place for this money, that it will be spent wisely on bonuses, consultants and staff morale and not just pee’d away.

    I know, I know, the state would just do the same…

  42. @hoganmahew,

    My argument that the IBRC would spend “wisely on bonuses, consultants and staff morale and not just pee’d away.” whether it got the interest payment or not.

    Either the state funds it through prom note interest payments, or it funds it through writing some other cheque.

    The cost will be there anyway.

  43. @ Lorcan,

    The interest rate on the ELA is probably around 3%. The interest rate on the Promissory Notes is around 6%. At least half of the interest only travels one-third of the circle. And of the half that makes it two-thirds of the way around as far as the Central Bank where does it go from there?

  44. @Seamus Coffey
    I believe it comes under “Non-tax revenue” as “Central Bank surplus income”.

  45. Thanks, Karl. The General Council controls the money supply.

    But if the GC decided that Anglo did not have to pay the ELA (which you’re not suggesting) or could pay it at its leisure it would be a subsidy to Anglo at the expense of other banks in other countries? I can’t see it doing this.

    If you’re saying that there should be some kind of multilateral agreement which would include banks in different countries across the Eurozone there may be merit in the proposal. But the political difficulties of such a proposal are enormous.

  46. @Seamus Coffey
    Well, it’s surplus once they’ve paid themselves and put money aside for reserves and whatever else they do with it. The “whatever else” is a little unclear – they don’t, AFAIK, publish detailed accounts. Commercial confidentiality, dontcha know, wouldn’t want to warn any pensioners invested in the banks that they are about to go bust. Might make them worry. And get out without losing their shirts.

  47. @ John

    Well Anglo’s not really a bank any more so it’s not competing against other banks for business. There are reasons to object to not repaying ELA but skewing of competition would not be too high up the list.

  48. An additional advantage to the never-never approach is that it would prevent deleveraging by bad banks – deleveraging is one of those things like austerity – a requirement in isolation, a disaster if everyone is doing it.

  49. The chap from Collins Stewart said that the promissory note is classified as an asset on the Anglo (IRBC) balance sheet.

    I don’t understand how a promissory note issued by the central bank to a retail bank (IRBC), can be classified as an asset on that retail banks balance sheet.

  50. @ Joseph Ryan, n all.

    I’ve emailed Mario Draghi to ask when the bank recovery and resolution programme will be in place. I’ll let you know if I get a reply.

    Of course, if anyone here actually knows the answer to that it would save some bother.

  51. @mickmicrodot
    It is not issued by the Central Bank, it is issued by the government. It is a government promise to pay liabilities which the IBRC and the Central Bank get to treat as an asset because it is a tin-plate guarantee behind it.

  52. @Karl,

    Perhaps my previous post was imprecise.

    Anglo’s liabilities are in effect the State’s liabilities because the ECB has decided that senior debt must be paid. Not (or delaying indefinitely) repaying the ELA, would, in my opinion, be a subsidy to this State at the expense of other States in the Euro zone.

  53. @hoganmahew : I’m still unclear.

    Whatever party is honouring the liabilities incurred by Anglo/IBRC, surely Anglo/IBRC are required to repay whatever liabilities are honoured on their behalf?
    How can Anglo/IRBC treat this arrangement as an asset on their balance sheet?

  54. @Hogan
    the Irish Resolution Scheme.

    Cormac Lucey referrred to this a while ago in a thread S78 or so poss S 88, if I recall. It is very very vague as far as I recall. In my humble opinion it holds little comfort for depositors.

  55. @Karl Whelan

    ‘… the pace of repayment, and the funding of this repayment, as very much an open question.’

    Blind Biddy loves OPEN Questions: Debunking, somehow, The Conflationist Fallacy, demands them. Based on my vulgar knowledge of what used to be known as ‘banking’ within what used to be known as ‘capitalism’, methinks a 100 year at 0.001% interest might do it.

    And toss in the equivalent of 60% of vichy_banking system debt at similar terms for the future childer of what used to be a ‘nation’.

    Then Patricia the Irish_Sovereign_in_exile will come home.

  56. @mickmicrodot
    The promissory note is not a loan to Anglo/IBRC, it is a gift – so there is no obligation to repay it. The ‘hope’ is that IBRC will return some cash at the end of its life, but that is after burning through 85 bn euro in the process…

  57. What is meant by interest on the promissory notes? Specifically

    (1) who pays it
    (2) who is it paid to
    (3) how much is it

    The last time I examined promissory notes was this time last year. And interest wasn’t an issue at all.

    A promissory note was a sheet of A4 on which former minister, the late Brian Lenihan wrote “IOU €30bn” and gave that to IBRC who then said “yipee, the losses on our loans which have given rise to negative capital and insolvency are now offset with the sheet of A4 from the Minister promising us to pay €30bn over 10 years”

    Interest didn’t come into this at all.

    Of course then Minister Lenihan and his successor Minister Noonan then had to start making good on the promissory note and they paid €3bn in cash to IBRC earlier this year and the plan is to pay the remainder equally over the next nine years. Again, interest doesn’t come into this at all, we sourced the €3bn from our own reserves, didn’t we. Next year and beyond we’ll sourrce the €3bn from the EFSF or the market, won’t we. Again there is nothing here on the interest rate on promissory notes.

    And separately, I partly agree with the Collins Stewart chap. If IBRC does not repay to CBI the ELA advanced on the collateral of the promissory notes then the CBI might pull out the “letters of comfort” from the finance minister and say “you gave the CBI an undertaking that if IBRC didn’t repay the ELA, then you would meet IBRC’s liability”. So in that sense, wouldn’t the IBRC burning the CBI on the promissory notes just mean the CBI went to the “guarantor”, the State and wouldn’t that mean that IBRC was burning the CBI but the CBI was burning the State, so we would in effect be “burning ourselves”.

  58. @hoganmahew : thanks for the explanation!
    In that case if the note is not to be repaid it makes sense to treat it as an asset in IBRC books.

  59. In fact the Big Lie embedded in all Central Bank balance sheets is that non interest-bearing demand deposits are ‘liabilities’ to depositors of the same type as an interest-bearing loan liability/term deposit.

    Demand deposits of bank created promissory notes are not debt claims at all, but rather ownership claims akin to warehouse receipts. It’s just that the object of the ownership claim is no longer anything valuable, like gold, or metals.

    The point is that bank created money is not value, but its complete opposite – a claim over value. It is this mistaken assumption as to the true polarity of money which invalidates most schools of Economics.

    Garbage In: Garbage Out.

    Bank money in its current incarnation is not debt, but the object of debt: it is not a loan, but that which is loaned.

    Those who question this analysis should ask themselves this.

    How can it be that when creating credit and demand deposits the Central Bank can be both:

    (a) the fiscal agent of the Treasury -in which case a Central Bank credit is fungible with a Treasury credit; and

    (b) the banking counter-party of the Treasury – in which case a Central Bank credit is matched by a Treasury debit and vice versa?

    The answer is that this is an accounting impossibility. Treasuries are not in debt to Central Banks in respect of demand deposits.

    Central Bank balance sheets are a complete fiction – a distortion of reality.

  60. @Jagdip Singh
    “What is meant by interest on the promissory notes? Specifically

    (1) who pays it
    (2) who is it paid to
    (3) how much is it”
    Alas, initially it looked like the promissory notes were the perfect wheeze – promises turned into money with a ten year payment schedule from the state.

    Then it emerged that for the promissory note to retain its value as collateral, it would have to be an interest-bearing promise. Initially 4ish% (what ten year bonds were at the time) was talked about. Somehow those characters at FF managed to wangle themselves a two year holiday from that, and a roll up of the interest, but only at the expense of vastly increasing the interest cost. I’m sure Mr. O’Dea and Ms. Hannafin knew nothing about that one either. Or perhaps they are just stupid. Well, the wheeze is on the government now.

    a) the state pays it
    b) it is paid to IBRC
    c) 54 bn euro*, yes, that’s 54,000,000,000.00 euro by 2031 on the 31 bn of promissory notes – http://economic-incentives.blogspot.com/2011/10/promissory-notes-to-cost-85-billion-by_05.html – sadly it does not end there…

    * not all this is paid to Anglo, 2/3 of it is the cost of the state borrowing money to give to Anglo each year.

  61. @hogan,

    Thanks for that.

    So the State (which we 100% own obviously) pays interest to IBRC (which sadly we also own 100%). And the State gets any profit on IBRC. So does it really matter a (what was it Loran said) “a gnat’s fart” if the interest rate is 4%,8% or 12%? If for some strange reason, it’s 8% or 12% and that is causing Minister Noonan a problem, doesn’t he just call up Mike Aynsley and say Mike we’re paying you X tomorrow morning but we want a dividend of X tomorrow afternoon.

    So again, is interest on promissory notes a red herring because the payer and the payee are both the State

  62. @Jagdip Singh
    Well, it does matter if we have to borrow all that interest. And then borrow to pay the interest on those borrowings. And well, you get the idea, etc. etc. ad infinitum.

    It also matters because what we get back (if, as I say it hasn’t all been magically pee’d away by the masters of the universe at the Anglo derivatives desk) will be depreciated by time.

    Indeed, Anglo is rather like a defined contribution pension scheme. Stick in a bundle of money each year and watch it dwindle to a packet of twiglets and a half pint of eponymous lager.

    Mr. Noonan can’t ask for anything because all the money that has been put into Anglo …so far… is tied up. Either it has to pay off Central Bank ELA or it is sitting as collateral on derivatives or it is required to pay fixed and receive floaters, er, floating, sorry.

  63. @ micmicrodot/hogan

    Imagine the government gifted Anglo Irish a 25bn Irish government bond, for free (ignore that the owners of Anglo are the Irish state). That’s what the promissory note is. It is an asset on the Anglo balance sheet, and it is used to repo physical cash from the Irish central bank. That repo’d cash is then a liability on the Anglo balance sheet (ie don’t try and sell it), and an asset on the central bank balance sheet.

    @ Karl

    Wouldn’t defaulting on the promissory note, sans recap, risk kicking Ireland out of the eurosystem, and therefore losing out on the ‘equity’ stake we have there? I believe Buiter et al npv’d that to between €30-60bn based on the discounted flow of ‘perpetual’ eurosystem profits from being able to print and issue legal tender.

  64. @Eoin
    “Imagine the government gifted Anglo Irish a 25bn Irish government bond, for free”
    Not quite.

    You missed out a chunk:
    “Imagine the government borrowed a load of money to gift IBRC a 30.6 bn government bond and then borrowed the money to pay the interest on those borrowings and the coupon to be paid on the bond it gifted to IBRC….”

    It’s sort of like “imagine you give your mate the drunk 100 quid in a boozer that you borrowed from Johnny “the Slasher” Foreigner and promised you’d stand him a round ever hour until he sobered up, borrowing the money to pay for that from Frankie “Kneecaps” Mittelstand.

  65. If the pro note is to be an asset that the ICB can repo then a note with no interest but repayable at a fixed date has a value you can calculate (and so can the ICB) that is less than par. So they repo less, so you need a large note to get the same ELA.

    If you make it a perpetual note with no interest, then what would you pay for that?

    If the ICB repos the note for clearly more than it is worth (never mind the haircut regime) then it has deliberately made a partly or wholly unsecured loan which would be regarded as Irish printing.

    @Eoin

    The pro note seems to me to be different to a gilt in as much as no money was raised – mopped up – from investors. If it is honoured then it is money temporarily magicked up now, to be taken out of the economy in the future, surely a kind or temporary printing.

    The pro note is an asset which is owned by Anglo. If you don’t repay the ELA, you are effectively forcing the ICB to keep the note. If you do that then the ICB owns the note and Irish taxpayers continue to pay interest on it etc, so there is no advantage there. In fact if you keep repoing it it amounts to much the same thing.

    “not repaying the ELA” then doesn’t seem that significant for the Irish state in a way. What is really being proposed surely must be default on the pro note, or modification of interest or repayment date – otherwise known as default on the note – and presumably default on any old-fashioned shoes known as ‘formal comforts’ given to the ICB.

    OK, there may be no cds contracts that would be triggered so perhaps it isn’t exactly the same thing as a default on a gilt in the way that EZ politicians think of first, but isn’t that what we are really talking about here – a default either unilateral or agreed?

  66. @ Karl

    Fair point, and completely agree. Changing the terms of the prom note would appear to be almost costless to the wider Eurosystem.

  67. @Whelan, Bond, hogan, ceteris et al …

    One is then onto something …. real.

    @Grumpy

    How about ‘A declaration of intent to be real’?

    @Sinn Fein motion

    There appears to be some substantive support for the Dail motion on the blog.

    @Minister Noonan

    What more is there to discuss? Is it not time to simply declare?

  68. @ All

    Email reply from ECB. Will follow up with EU Commission.

    Dear Mr Kostick,

    On behalf of Mr Draghi, we would like to thank you for your e-mail of 8 November 2011.

    Please be informed that the issue you have raised in your e-mail does fall under the responsibilities of the European Commission (http://ec.europa.eu/index_en.htm).

    With kind regards,

    EUROPEAN CENTRAL BANK
    Directorate Communications

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