# Gurdgiev's big mistake - the losses on the banks' loans from the ECB and Central Bank



## Brendan Burgess (21 May 2011)

This is a very interesting issue which has been discussed at length on Seamus Coffey's blog. It is a very long thread, but I am extracting this bit, because it is similar to Brian Lucey's infamous "Anglo Irish Bank should sell their deposits". What is so annoying is that these two economics professors can get these issues so wrong. It was also surprising that Joe Durcan didn't correct Gurdgiev, but to be fair to Joe Durkan, he would have probably been wasting his time as he had already corrected him so much, to no avail. 



> _*"Constantin Gurdgiev:*[broken link removed] But let’s not  forget that there roughly €110 billion which the Irish banks owe to the  ECB which is clearly also in some line a liability of the taxpayer.  And  there is a very direct liability of the taxpayer to the €50 billion  that the Irish banks owe to the Irish Central Bank.
> 
> But  Morgan mentions but doesn’t do any allowance for the debts of the banks  which we can actually say there is an assumption made that there about  17% average losses on the banking book which is going forward for the  six institutions.  _ _
> We can assume apply the same 16% percent  as a possible risk weighting for the €50 billion that they owe to the  banks. Bang! Another €8 billion is gone.  You can apply the same amount  to the European Central Bank as well. Bang! €17.6 billion gone as well  on top of that. "_
> ...


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## Brendan Burgess (21 May 2011)

Let's simplify this

Let's say that I guarantee a bank's liabilities to the Central Bank



loans to customers| €100
funded by: |
loan from the Central Bank|€90
Share capital|€10Now, let's say that many of the loans to the customers turn bad and it is estimated that they will repay only €80 of the €100. 

So I recapitalise the bank by personally investing €20 in it.

The balance sheet is now



loans to customers| €80
Cash|€20
Total assets|€100
funded by: |
loan from the Central Bank|€90
Share capital|€10
Total funding |€100So Gurdgiev making a provision of 17% against the loan from the Central Bank is incorrect. He may well challenge the €80 valuation of the loans, but that is not the issue here.


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## Brendan Burgess (21 May 2011)

*How serious an error is this? *
It is very serious for a professor of economics. It's a failure to think through the issues. 

*How common is it? *
I think it has been very common. I have certainly heard people talking about the fact that we have guaranteed the liabilities of the banks to the Central Bank and ECB. I never heard anyone else point out what Seamus Coffey has pointed out, and it did not strike me at the time. 

I described an article by Laura Noonan as excellent in which she pointed out "_taxpayers here on the hook for about €50bn of emergency cash that's  been channelled through the Central Bank of Ireland (CBI) into our  banks."  _She addresses, but doesn't resolve the issue. 



> The descent into ELA essentially saw the Irish taxpayer assume a  massive amount of risk for the non-repayment of that €51bn given to our  stricken banks.On the face of it, it seems like an outrageous  development, particularly given the lack of consultation or debate  around the measures -- Belgium, for example, passed an explicit  guarantee for its ELA in parliament.
> But sources point out that  the circumstances surrounding the surge in ELA mean that the taxpayer  didn't actually take on more risk, the taxpayer simply renamed a risk it  was already on the hook for.



*Why did Gurdgiev, a Professor of Economics, make this mistake? *
It's very hard to know. It arises from doing our economic commentary on the airwaves. 

We all make mistakes in our analysis. We double count. We omit something. We confuse assets and liabilities. In normal times, you get a sense that you have made a mistake because you know that the  result seems wrong. But people are so used to huge numbers, that the reality check didn't work on this occasion.

*Why was it not corrected earlier? *
If Joe  Durcan had twigged this, I doubt if he could have explained it on air. 

When I heard Lucey on the radion asking Alan Dukes if Anglo had considered selling the deposits, I was astonished that Dukes didn't tell him he was talking  nonsense. Either did any of the other panellists, which I think included Garret Fitzgerald. 

The likes of Lucey and Gurdgiev spout out this stuff with such confidence that no one challenges it.


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## Brendan Burgess (21 May 2011)

While I can sort of understand Gurdgiev's error, it is important to remember that his entire analyis in the Vincent Browne show was wrong. Or as Seamus Coffey puts it: 



> Start with a phantom debt prediction of €225 billion from the IMF
> Add in €31 billion for NAMA and say the losses could be more and completely disregard the assets
> Add €16 billion for loan losses that will appear after 2015 with no provision for the earnings of the banks
> Add €4 billion of bank losses that will be covered by junior bondholders
> ...


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## Gekko (21 May 2011)

Previously I (naively) thought that academics like Gurdgiev were just academics and therefore completely objective (at least initially, i.e. before they'd a view or position to defend or justify).

But then I heard that he's only a part time academic and that his "real job" is in treasury with IBM.

Surely these guys should be made disclose their interests?

Someone who's "just an academic" talking about (say) our 12.5% tax rate is one thing, but someone who works for a multinational but doesn't overtly claim to do so gives me a sense of unease.

Introducing him as "IBM's Constantin Gurdgiev" rather than "Trinity College's Constantin Gurdgiev" would make things more transparent.


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## Brendan Burgess (22 May 2011)

Hi Gekko

I agree in principle, but I think that Gurdgiev is regarded as being very independent and something of a loose cannon. I doubt very much if he would simply promote what is in the interests of IBM if he didn't believe it. Of course, his judgment may be influenced by the fact that he is employed by IBM, but, to be honest, I don't think so. 

Brendan


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## Chris (23 May 2011)

The way I interpreted Gurdiev's comment is that he was looking at the money injected by the ECB and CBI from the taxpayers perspective. The taxpayer, indirectly loans money to the banks through the central banks and is liable for those funds, in your example the €90. So, from the taxpayers perspective that €90 is an asset, not a liability.



> There has never been a problem on the liability side, and there never will be. The problem with banks is that they are suffering huge losses on their assets. It is an accounting impossibility to make a loss an a liability.


Technically he is right but I think this comment is missing a very important point. Yes, the underlying problem for banks is that on the asset side of things the value of assets has plummeted. But there certainly is a huge problem on the liabilities side, which is the flight of deposits and the inability to borrow money on the open market in order to cover the losses on the asset side. It is very misleading to completely dismiss the liability side in this way. 
Yes, from the banks perspective the money it has borrowed is a liability, but that liability is someones asset, and in this case it is ultimately the taxpayers asset, so potential losses on this are very real to the taxpayer.


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## liam1973 (31 May 2011)

> This is complete nonsense. We are not on the hook for any of the money the banks owe to the ECB or the Central Bank of Ireland



Wait, what?

Ignoring personal attacks on the motivations of Gurdgiev or Lucey, which serve no purpose in understanding the situation, this doesn't seem quite right to me.  

We own the banks, so the Bank's liabilities (regardless of guarantees) fall to the exchequer.  Similarly, CBI losses have to be covered by the state, i.e. the exchequer, bankruptcy is not an option for a central bank.  

So where's the problem?


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## Sunny (31 May 2011)

The loans aren't given to cover losses. That's not how it works. Only capital can cover losses. The central bank is providing liquidity so the banks can fund their balance sheets. The only way the taxpayer is on the hook for the money owed to the Central Bank and the ECB is if the banking system collapses and the banks assets aren't enough to cover the liabilities. (Even then technically the ECB can only come after the Guaranteed debt that was used as collateral). The banks are or at least will be capitalised to cope with the losses according to the stress tests.

It's all very taking the banks liabilities and throwing them on to the Sovereign Debt level as some sort of fait compli but why don't they be consistent and take the banks assets and put them on Sovereigns balance sheet as well. No international analysis I have seen yet has put debt at the €250-300 billion I have seen mentioned. That's not to say it isn't an ugly picture.


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## astarmain (31 May 2011)

Sunny, neither the assets nor liabilities are on the sovereign balance sheet yet. What Constantin is doing is pointing out what the likely liabilities are for the state which are well known. The problem is with NAMA in the way, propping up the price of property (where's that going BTW? are we near the bottom?), we don't know what assets will be coming on to the state balance sheet.

Constantin has been right a lot more than wrong in this. He certainly didn't go an exhort people to buy bank shares or property right in the middle of the crash.


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## Sunny (31 May 2011)

astarmain said:


> Sunny, neither the assets nor liabilities are on the sovereign balance sheet yet. What Constantin is doing is pointing out what the likely liabilities are for the state which are well known. The problem is with NAMA in the way, propping up the price of property (where's that going BTW? are we near the bottom?), we don't know what assets will be coming on to the state balance sheet.
> 
> Constantin has been right a lot more than wrong in this. He certainly didn't go an exhort people to buy bank shares or property right in the middle of the crash.



No what he is doing is projecting debt levels by picking and choosing what he wants to include and exclude.  His analysis doesn't make sense. Morgan Kelly has done the same. They have not given proper explanation of where they are getting their figures from and yet are allowed to use our media outlets to put their figures out there.


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## Brendan Burgess (31 May 2011)

Liam/Astar

Welcome to Askaboutmoney.

This is a complex subject. The best way for you to understand it is to go back and read the excellent analysis by Séamus Coffey.


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## ang (31 May 2011)

I really dont understand this.

The IMF agree Constantin Gurdgiev figures for 2014 and as for Brian Lucey and selling Anglo Deposit books the Government have just sold the Anglo deposit book to AIB.

What's all the fuss about ?


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## astarmain (31 May 2011)

Brendan Burgess said:


> This is a complex subject. The best way for you to understand it is to go back and read the excellent analysis by Seamus Coffey.



No, the best way to understand it is to read NAMA Wine Lake or True Economics or The Property Pin. Just because Coffey manages to come to the same conclusion that you want to believe does not make him right. Breadth of reading.

As for picking and choosing numbers to suit an argument, isn't that exactly what everyone else in the public gaze does. cf Brian Lenihan as the prime example.


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## Sunny (31 May 2011)

ang said:


> I really dont understand this.
> 
> The IMF agree Constantin Gurdgiev figures for 2014 and as for Brian Lucey and selling Anglo Deposit books the Government have just sold the Anglo deposit book to AIB.
> 
> What's all the fuss about ?



The IMF dont agree with figures and Brian lucey said Anglo could make €20 billion by selling the deposit book and solve all their problems.


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## Sunny (31 May 2011)

astarmain said:


> No, the best way to understand it is to read NAMA Wine Lake or True Economics or The Property Pin. Just because Coffey manages to come to the same conclusion that you want to believe does not make him right. Breadth of reading.
> 
> As for picking and choosing numbers to suit an argument, isn't that exactly what everyone else in the public gaze does. cf Brian Lenihan as the prime example.



Everybody is making assumptions but people have to stand over their figures. Morgan Kelly wrote his article and then vanished despite numerous economists and commentators pulling him up on his figures. People might agree with his general sentiment but he used figures that were were plainly wrong to come to his conclusion.


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## Taxi Driver (31 May 2011)

ang said:


> I really dont understand this.
> 
> The IMF agree Constantin Gurdgiev figures for 2014 and as for Brian Lucey and selling Anglo Deposit books the Government have just sold the Anglo deposit book to AIB.
> 
> What's all the fuss about ?


 
The IMF number for our 2014 debt is €209 billion.  Gurdgiev's numbers are substantially higher.  I think Anglo got about €100 million for its deposit book.  Not exactly a solution to a €29 billion black hole.


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## astarmain (31 May 2011)

Sunny said:


> Everybody is making assumptions but people have to stand over their figures. Morgan Kelly wrote his article and then vanished despite numerous economists and commentators pulling him up on his figures. People might agree with his general sentiment but he used figures that were were plainly wrong to come to his conclusion.



I'll see your Kelly and raise you an Eddie Hobbs. Not to mention Austin Hughes, Donie Cassidy and Frank Fahy.

Anyway we were discussing Constantin who, I'm pretty sure, will have no difficulty standing over his figures based on the number crunching he does on a daily basis.


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## Sunny (31 May 2011)

astarmain said:


> I'll see your Kelly and raise you an Eddie Hobbs. Not to mention Austin Hughes, Donie Cassidy and Frank Fahy.
> 
> Anyway we were discussing Constantin who, I'm pretty sure, will have no difficulty standing over his figures based on the number crunching he does on a daily basis.



Fully agree there are plenty of worse people out there. Constantin used Morgan Kelly's article and raised it so I would love to hear him stand over it. There are plenty of economists and commentators on sites like Irish economy and nama wine lake that provide quality analysis but have no desire to see their names and faces in the media. It's these guys I listen to. Not people who write opinion pieces or appear on programmes like VB giving lovely soundbites. Strikes me that there are some academic economists who want to be the next Morgan Kelly.


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## Brendan Burgess (31 May 2011)

I got these corrections by email. They don't change the argument, but for the record, I am informed: 



Gurdgiev doesn't work in IBM Treasury
Gurdgiev is not a professor
Neither he nor Lucey work in the economics department of TCD
Lucey has no 'interests' to disclose
Not only did Dukes correct Lucey, he agreed with him and stated they had  looked into it


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## LDFerguson (1 Jun 2011)

I attended a function recently where Constantin Gurdgiev spoke.  In the material that accompanied the function, he was described as "Dr. Constantin Gurdgiev, Head of Macroeconomics at Institute for Business Value, IBM" and


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## darag (4 Jun 2011)

Seamus Coffey is correct strictly speaking;  of course the bank's liabilities to the ECB and the CBoI cannot be counted on as part of the national debt.  However I'm not sure it's correct to claim that these loans do not represent a liability for the state.  These liabilities are guaranteed by the government and if they are defaulted on (as a result of a deterioration of the banks' balance sheets), then the government is liable for filling the hole.

So they represent some sort of liability for the government.  

However Gurdgiev is in error also; the first error is one of inconsistency; i.e. he includes these "off balance sheet" liabilities while excluding the huge number of government liabilities which are not represented by the instruments managed by the NTMA (e.g. future social welfare and public sector pension commitments).  Many of the liabilities are practically unquantifiable.

The other error is to give a present value to these liabilities equal to the par value of the loans provided to the Irish banks.  This is a bad mistake for an economist.


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## Purple (6 Jun 2011)

darag said:


> The other error is to give a present value to these liabilities equal to the par value of the loans provided to the Irish banks.  This is a bad mistake for an economist.



Can you explain that point please?


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## darag (6 Jun 2011)

Purple said:


> Can you explain that point please?


Sure.  Even if the banks were liquidated tomorrow, the government wouldn't have to pay for all of their liabilities to the ECB and CBoI because their assets are worth something.  If an insurance company sells a policy which pays out up to a million for fire damage to a building for example, it doesn't account for it as a liability of 1 million euro.

Actually Gurdgiev is quite careful with the way he expressed himself, now that I read it again.  And in fact I don't see anything incorrect in the statement


> But let’s not forget that there roughly €110 billion which the Irish banks owe to the ECB which is clearly also in some line a liability of the taxpayer. And there is a very direct liability of the taxpayer to the €50 billion that the Irish banks owe to the Irish Central Bank.


I don't think it's a Lucey moment; at the most he is being slightly disingenuous by throwing figures like that about knowing how they'll be interpreted


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## Brendan Burgess (22 Jun 2011)

Fair play to Gurdgiev. Apparently he has commented on Séamus Coffey's corrections via Twitter. 



> I have no prob  with Seamus Coffey's post criticizing my numbers. I diasgree with his analysis,  but it's good 2 see him tackling the issue.


 


> The only thing  I object in Coffey's post is his addition of risks I enlisted as attributed to  my final debt estimate. All I said was - these are risks 1 has to consider if 1  were 2 push optimistic estimates on2 Nama liabilities


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