20 Economists call for nationalisation of the banks

[z109]

The news coming out of the US banks is smoke and mirrors - most of the gains are one-time:
- Goldman Sachs lost a month (December) by adjusting their quarter end to March - they lost 1.3 bn in December, that would have wiped out most of their profit for this quarter, in addition, they gained a large number of billions from AIG unwinding CDS contracts in their favour.
- Citigroup gained 2.6 bn because the price of their debt has fallen because it looks like they will go bust.
- JP Morgan similarly gained on AIG CDS unwinds.

1. They can pretty much guess - development land with interest roll-ups, no repayment, no income flow, no likelihood of income flow, similar land changing hands at x% below the price. Commercial property in places with vast over-supply or no demand.
2. Houses that are not selling at 20% discount, 30% discount... so what is the rental value of an equivalent house? Similarly with commercial property, what is the rental value of an equivalent property? (i.e. what can the properties bear to pay back). (IMO, the current values would be at the high-end of future values, I think the days of the upward-only rent review are numbered!).

 

[ontour]

Let the National Pension Reserve Fund buy the banks instead of nationalising them.

This would have the same impact as nationalisation in that the taxpayer would gain from any mispricing of assets.

But it would put the banks at one remove from excessive political influence.

Like the plan, but if instead of buying the bank, the National Pension Reserve invest, then they will probably own 95% of the bank. The current shareholders will still have shares and all going well, the price may rebound somewhat in the future. As openly traded shares there will be no big bang return to private ownership from state ownership as the National Pension Reserve could sell a small quantity of share over a long period of time.

There will be an arms length relationship between banks and states. Breaking of mortgage fixed rates will not become a local election issue which it will if we nationalise the banks.

 

[Brendan Burgess]

Hi Yogan

I find it very difficult to follow your argument. Can we take it one step and one bank at a time so that I might be able to follow it?

Say that AIB has €20 billion in property development loans. And let's say that €12 billion of this is toxic - in other words it is worth less than €12billion, but we don't know how much.

The current plan is that AIB will sell the €20 billion to NAMA. Let's say that is sold for €17 billion.

NAMA gets the loans.
AIB gets €17 billion in government bonds.

AIB is now much easier to value as the uncertainty is reduced. ( Of course, the bonds could well become toxic, if Ireland's debt is further downgraded).

AIB's reserve ratios have now been reduced or wiped out by realizing the losses. They need further capital so the government has to put in more capital.

What does AIB do with the bonds? It will collect interest. It probably can't sell them as they would flood the market.

What does the government do with the loans? It collects interest and repayments and over time forces the sale of property to speed up the repayments. It then redeems the bonds.

Brendan

 

[shanegl]

I would add to the above that AIB would probably be availing of the ECB repo facility with these Irish bonds.

 

[Brendan Burgess]

Hi Shane

Good point. Presumably this means that the ECB will lend AIB money based on the bonds as security?

 

[darag]

I don't agree. I think that NAMA should be set up and the bad loans should be transferred out. What will be left will be two good banks. These can be recapitalised and then refloated.

I don't think you can have NAMA without nationalisation. And if the banks are nationalised, then NAMA should go ahead anyway.

Better than NAMA, transfer the bad loans to Anglo.

Brendan

I agree you cannot have NAMA without nationalisation; but I disagree that NAMA helps at all. Banks don't become "good" because they've sold off some dodgy assets from their balance sheets; in fact it's likely the banks will become insolvent (or close to it) - they're "good" when they have a strong tier 1 capital ratio. The latter has to be addressed anyway by capital injection so the NAMA thing is an expensive and complex distraction.

The NAMA idea encourages people to miss the wood from the trees. NAMA is effectively another bank, which despite all the inevitable effort and heat/noise surrounding the valuation of the transferred assets will have NO effect on the consolidated position of Irish banking as far as tax payers' liability is concerned.

The only thing that matters for the taxpayers at this stage is that every bit of value is wrung out of these assets (i.e. the bad loans); if NAMA was being sold as a bunch of hardened debt-collectors or something I might buy it. Otherwise I fear a government controlled "bad bank" will be much worse than the existing bank at sweating these loans.

The government is going to have to stump up a huge wad of money anyway; to me, the simplest action would be simply to inject the capital directly (taking over the equity) and leave all the messyness of loan revaluation and debt collection to the existing banks.

The only other action the government should be actively pursuing is to merge some of the banks - not as a balance sheet exercise but to force the rationalisation of the sector leading to lower costs and raise profits to allow the condition of the banks' balance sheets to slowly be improved through retained profits. There is simply no need for 5/6 "native" retail banks in addition to the "foreign" banks; all the duplicated back office costs, branches and management must be a significant drag on the banking sector as a whole.

 

[z109]

Hi Yogan

I find it very difficult to follow your argument. Can we take it one step and one bank at a time so that I might be able to follow it?

Say that AIB has €20 billion in property development loans. And let's say that €12 billion of this is toxic - in other words it is worth less than €12billion, but we don't know how much.

The current plan is that AIB will sell the €20 billion to NAMA. Let's say that is sold for €17 billion.

NAMA gets the loans.
AIB gets €17 billion in government bonds.

AIB is now much easier to value as the uncertainty is reduced. ( Of course, the bonds could well become toxic, if Ireland's debt is further downgraded).

AIB's reserve ratios have now been reduced or wiped out by realizing the losses. They need further capital so the government has to put in more capital.

What does AIB do with the bonds? It will collect interest. It probably can't sell them as they would flood the market.

What does the government do with the loans? It collects interest and repayments and over time forces the sale of property to speed up the repayments. It then redeems the bonds.

Brendan

Sorry Brendan for being unclear, I left out the bit that shanegl has mentioned - ECB repo.

The value of bank assets is linked to their ability to raise cash for further lending which can then be used to create 'good' assets, that is loans that have some chance of being paid back. This is how banks work - they take existing loans and borrow against them. At the moment, the ECB is the only lender that is likely to lend to Irish banks (other than the state). To avail of repo, the loans must be packaged into a securitisation (I believe).

The C&D loans aren't worth tuppence in this scenario - the chance of them getting a rating level high enough, if securitised, to be eligible for ECB repo is nil. Add to this, even if they could by some magic process be packaged, they would take a haircut of some 20% on their repo value. Sovereign debt, on the other hand, has a much lower repo value, so even at face value, the government treasuries are 'worth' more to the banks than the C&D loans; they are a much higher powered asset. Indeed, aside from the ECB, they can be pledged as collateral in the commercial markets (should rates be lower there).

So there are a couple of effects:
- good assets for bad
- higher powered assets

The Quantative easing comes into play in that the government issued securities are swapped for the C&D loans without going through the bond markets, that is, assets are being created without an equivalent withdrawal of cash from elsewhere in the system.

Even should Ireland's debt be downgraded further, it is unlikely to be downgraded to the level that the C&D loans are. If, as is widely suspected, many are not generating any income, they are technically in default. That is why, I believe, it is valid to describe them as 'toxic' rather than 'misunderstood'!

BTW, I think your valuation is optimistic - a 15% haircut would entail a huge loss for the state. I think the end result will be mostly nationalised banks, a similar situation to RBS in the UK.

 

[Complainer]

T
Nationalising the banks and controlling the management decisions changes the focus from commercial to political. Will a nationalised bank call in a loan from a elderly or unemployed person? Political pressures will pollute the commercial operation and will negatively impact our banking operations. This will impact both individuals and businesses as the prudent people will pay even more for the sins of the financial gamblers as the banks/government will 'take care' of the little person. Irelands image will be further eroded as a country that takes assets from private companies rather than a government that supports private enterprise.

There was a banking academic on Vinnie Browne last week quoting the research that shows that banks are rarely effective in collecting their own bad debts, as they have an emotional involvement in those debts having granted the original loans.

There is an assumption that you need to nationalise the bank to get good management. The opposite is true as good bank management will not want to run an organisation where their decision making is subject to the whim of political pressures and elections. An arms length approach by government emphasising the seperation between state and banks is the right way. The operational decisions of bank managers could not be impacted by a trip to your TDs constituency office.

You are overestimating the impact of local TDs on any Govt operation. While the TDs may like to give the impression of huge influence on state agencies, all state agencies have independent boards are are not going to be significantly influenced by representations by a TD.

I'd be more worried about influence and cronyism at board level - the track record of the current Govt in appointing people to boards has been poor.

 

[ontour]

......banks are rarely effective in collecting their own bad debts, as they have an emotional involvement in those debts having granted the original loans.

The bad debt collection policies of banks varies. IMHO, they are not emotionally involved in the the loans they granted, their priority is to protect their image as part of the community so they sell on the debt to let a less image aware organisation collect the debt in any way possible.

You are overestimating the impact of local TDs on any Govt operation. While the TDs may like to give the impression of huge influence on state agencies, all state agencies have independent boards are are not going to be significantly influenced by representations by a TD.

I didn't say that the TDs could deliver on the banking decisions but they certainly could try as they do with medical cards.

 

[Duke of Marmalade]

There are some basic contradictions in the learned professors' epistle.

They speak of the dangers of understating the discount as having enormous implications for the taxpayers. But as others have pointed out these bad debts are going to belong to the taxpayer one way or another.

It is now accepted that the process will involve the State owning maybe 80% of the banks anyway rather as in the UK.

The learned ones suggest that the current proposal risks a situation where the taxpayer is nursing €30Bn of bad debts whilst share prices soar in the revitalised banks. But the taxpayer will have been the major beneficiary of this resurgence in values, will they begrudge sharing 20% of this with other shareholders?

The UK has not nationalised its main banks, rather they have gone for majority ownership, and theirs is a socialist government. Moreover they would probably have the skill base to manage the banking sector by public servants. If nationalisation is a last resort for the UK it should be an even laster for Ireland.

 

[Duke of Marmalade]

The one area I would be very concerned about would be the pension scheme deficits. If AIB can't afford to pay its pensions, then it should not do so, whether it is owned by the shareholders or the taxpayers.

Thank goodness we still have a democratic legal system, Boss.

If it was that easy to walk away from a pension fund deficit predators would be doing it all the time. To protect against this we have a law which states that pensioners get priority in a winding up of a pension scheme.

One presumes that the nationalisers are suggesting that the confiscated banks would be run as going concerns rater than put into liquidation. To save on pensions in the going concern would involve winding up existing pension schemes. But since the pensioners will be largely protected this saving will prove illusory as, in setting up a new scheme for existing staff, they will have to fund similar levels of pensions to which they are currently entitled.

 

[Padraigb]

There are some basic contradictions in the learned professors' epistle.

They are not all professors (nor, indeed, economists).

They speak of the dangers of understating the discount as having enormous implications for the taxpayers. But as others have pointed out these bad debts are going to belong to the taxpayer one way or another.

It is now accepted that the process will involve the State owning maybe 80% of the banks anyway rather as in the UK.

Accepted by whom? Where did that figure come from?

There is another possible scenario: NAMA takes over loans at a relatively high valuation (I have seen 85% of book value mentioned). That measure, on top of the preference-share recapitalisation already implemented, might be sufficient to ease the banks' problems so that they return to ordinary good health.

The learned ones suggest that the current proposal risks a situation where the taxpayer is nursing €30Bn of bad debts whilst share prices soar in the revitalised banks. But the taxpayer will have been the major beneficiary of this resurgence in values, will they begrudge sharing 20% of this with other shareholders?

I still don't see where the 80% comes from. What arrangement is there to assure it? And yes, if bank shares regained value because we as taxpayers relieved the banks of their debts, I would be very angry if a portion of that gain went to anybody other than the exchequer. On that, you can classify me as a begrudger.

 

[Duke of Marmalade]

Accepted by whom? Where did that figure come from?

And yes, if bank shares regained value because we as taxpayers relieved the banks of their debts, I would be very angry if a portion of that gain went to anybody other than the exchequer. On that, you can classify me as a begrudger.

I said "maybe 80%". It depends of course on the discount. Citigroup gave a range of scenarios and 80% seemed about midway. Anyway the political pressure will not be happy with much less.

I see your point, and I might even share it. But I am pointing out that the learned ones by greatly exaggerating the relative taxpayer risks of NAMA v Confiscation have undermined their credibility.

I'm a humble paddy and my instinct is that we ain't goin' to manage this better than the UK. If confiscation is wrong for the UK it is even wronger for Ireland.

 

[z109]

There is another possible scenario: NAMA takes over loans at a relatively high valuation (I have seen 85% of book value mentioned).

That would be the measure estimated by one of our sterling stockbroking companies?

You seem to be saying we should overpay for the assets without getting anything in return?

That measure, on top of the preference-share recapitalisation already implemented, might be sufficient to ease the banks' problems so that they return to ordinary good health.

In your dreams, buddy! (joke) But seriously, that would mean that every international investor and AIB are wrong (as in AIB looking to raise an additional 1.5 bn through asset sales this year).

Note also that recapitalisation through the acquisition of ordinary shares was specifically set out in the budget and in the Bacon Plan for NAMA. This suggests it will have to happen.

Note also that the suggested amount that NAMA will have available is 50 bn to buy 80-90 billion in assets. This also suggest a ceiling on the price (of about 45 bn to leave NAMA with working capital) with the only remaining argument about whether it is 80 or 90 bn in assets.

 

[North Star]

Personally I find the rush to extole the merits of nationalising the banks worrying. Be careful what you wish for is a phrase that comes to mind.
If the primary objective is to protect the system and stimulate/support sustainable lending to businesses and individuals, then the focus should be on the probability of that being achieved. Either way the taxpayer is running risk, either through overpaying for the assets or more dangerously through much higher social welfare as unemployment rises and stays at elevated levels for a long period. Thats why the banks are of systemic importance. A couple of thoughts
1) there have been several examples of situations when banks/banking systems have been technically insolvent, e.g The savings and loans crisis in the U.S in the 80s. What the banks require is time to trade their way out of the current position. Clearly they can not do this on their own and need external support i.e the Govt. on a temporary basis.
2) We as a country rely heavily on external investors to fund our Govt, our banks and our companies. Laterly we have very high reliance on ECB (as do many other countries including Germany). If the banks were nationalised, the damage to our external perception would be huge and in my opinion would have hugely damaging impact on the Govts. ability to fund its self and all the banks liabilities that it would have taken on. This were it to happen will cost the tax payer both in much higher external debt and in much more expensive funding costs. We must maintain international confidence in our ability to manage our debt.
3) There is little evidence that a nationalised bank can or wquld be capable of lending on the scale required to sustain employment. Has Anglo Irish been knocking on doors offering value loans?? obviously not, their immediate priority is to fund themselves
4) Current bank management can and have been replaced, with hopefully more to come, the executives should take personal responsibility for failing their fiduciary duties.
5) The Dept of Finance does not have the resources to effectively run our banking system
6) I find it difficult to imagine a state bank not having to deal with political influence/interference.
7) The Nama legislation wont be passed until near the end of the year, in the meantime all options such as a bank assurance scheme should still be on the table.
8) If Nama pricing requires Capital writedowns that force the banks to seek more Capital, the cost ultimately will I believe be far higher to the taxpayer than in technically overpaying for the assets.
9) We need to be pragmatic and take the steps which offer the highest likelyhood of having a normal/robust and privately held banking system. Once we are there, then we can demand whatever bank levy/dividend the Govt deems to be appropriate.
As politicians, they wont loose any votes chasing the banks once they start making profits again

 

[smiley]

northstar..excellent post.

 

[redstar]

20 Economists call for nationalisation of the banks

Funny .... I remember seeing 'Sinn Fein Workers Party' election posters in the early 80's shouting "Nationalise the Banks !". I laughed to myself, thats crazy talk from fringe loonies.
Amazing how fringe ideas become mainstream in a crisis

 

[Bob_tg]

They have expertise. They have actually studied banking and public finance in other countries. They have a wealth of experience and their arguments must be considered.

Prof. Brian Lucey, who is one of the lead authors of our article in question, is the same guy who forecast the boom in property prices would continue until 2010 !! (See [broken link removed]).

This puts a question mark over Prof. Lucey's credibility in predictive analysis.

Just because someone studies something regularly does not make them necessarily any more astute at forecasting outcomes. His current argument should be considered in terms of his track record - not his title or publications history.

 

[Firefly]

From said artcile....

Lucey’s findings contradict the view of the European Central Bank (ECB), which last week warned that the houses in Ireland were overvalued.

 

[Duke of Marmalade]

Fantastic link, Bob. What a farce? And in case anyone says the good doctor could not have foreseen the credit crunch, that 2006 link shows that our genius was at odds with the ECB who were saying houses were overpriced.

And what about the gem that Lucey was commissioned by a Mortgage and Finance house to produce his grossly optimistic report.

Credibility rating ZERO.

SFAIK Bacon's earlier reports were pretty spot on. These guys have a nerve in trying to intellectually bully Bacon and the rest of us.