Why we can't let the banks go bust

[darag]

People are getting carried away here I think. Everyone other than FG and Labour (and obviously many menbers of the public who mistakenly think that developers are being let off the hook) agree that NAMA is the way forward.

To claim that the only members of the public who disagree with the NAMA plan are those who "mistakenly think that developers are being let off the hook" is simply false. I neither agree with the NAMA plan, nor believe that it relieves developers of their debts. I do believe that developers will be far happier owing money to a government body than private bodies.

A separation of good and bad assets. Brian Lucey and the academics writing in the Irish times today are not for one moment arguing that the NAMA structure is not the right thing to do.

The letter from the 20 economists suggested a rather different approach than that currently being sold as the "NAMA plan". Your suggestion that there is consensus is simply false.

Option 1 (the academics): NAMA buys €90m loans for €30m. There is a €60m hit to the banks, which will require that to be covered by the taxpayer and the banks effectively nationalised. I have no issue with this nationalisation other than the fact that the state will have to come up with €60bn, or a large part of that, in CASH, in the next few months to recapitalise the banks. I am no economist, so would defer to any experts out there, but can we come up with €60bn cash pretty much immerdiately without turning to the IMF? That is the point which I think is a glaring ommission from Lucey et al's recommendations

Option 2 (Lenihan): loans are bought for €70bn (?). Immediate cash required to recapitalise banks is much less. Should the property market not recover, and I am not saying it will at all, losses will be absorbed over a longer time, and the government will hopefully be able to keep in slightly better control of the country's finances than they would if they had to stump up €60bn in cash in the next few months. Downside for many is that the banks wouldnt necessarily be nationalised.

False. NOTHING is going to paid for by CASH because the government doesn't have any. Everything will be paid for using borrowing - issuing government bonds. There is NO difference to the net position of the exchequer and the tax-payer either way.

NAMA will work the same way in both options. Developers will owe NAMA 100% of the face amount of their loans, and NAMA will try to recover as much as they can. Whether NAMA paid 30% or 70% wont affect this process, or the ultimate recovery

It's not about the recovery process; the loans are worth what they are worth. It's about who pays for the failure in Irish retail banking.

a) NAMA pays over market value - taxpayer picks up the entire bill.

b) NAMA pays market value - banks require re-capitalization which means shareholders pay for some of the bill.

c) Insolvent banks are allowed to fail before NAMA buys the loans - shareholders pay some of the bill, unsubordinated bond holders pay some of the bill and the government and bond holders share the bill for the rest.

This is NOT the japanese model, where the assets stayed with the banks, who had no incentive to work them out. This model cleans the banks, which is closer to the swedish model.

It's the Japanese model in that it's a 10 or 15 year plan based on the idea that it may be possible to recover value to the tax-payer if we hang in there long enough and that shareholders and bondholders should be protected from losses (which suited Japan because of the massive amount of cross-holdings in their business world). The Swedish model was to take it on the chin and allow the economy to move on after a massive asset price bubble burst.

If prices are the same in 10 years as they are now, the losses will be the same whether NAMA is done, or the loans stay with the banks which will have been nationalised. The argument is just around the mechanism and timing of the losses that we will have to pay for either way if we are to save the banking system. NAMA does get all the loans in one place, so if should be more effective to move on the multi-banked developers, and get a better recovery

the point is that the losses, and what we have to pay as taxpayers is the same. It is just an issue of timing, and I dont think we can afford to take the immediate hit!

You're wrong. I refer you to the a, b and c above. The choice between them very much affects how much the tax-payer ends up paying.

To those that suggest that we should just let the banks go under - basically doing nothing. Tossing a coin, head in the sand, hope for the best. Who knows what the repurcussions would be. I certainly wouldnt like to find out. There would certainly be panic, and a run on all the banks. One thing for sure is that the IMF would be running the country - and as a result minimum wage and social security would be a fraction of what they are now, and half the public sector would have been made redundant.

There are retail banks going under all the time - particularly in the US. It's not rocket science, it can be managed. Believe it or not, just because you don't know what the process is, doesn't mean it's a head in the sand approach. Lehman's was completely different as it was a huge underwriter of credit derivatives. Retail banks are much much simpler and have been springing into existence and folding since fractional reserve banking was invented 700 years ago without the sky falling down.

 

[canicemcavoy]

People are getting carried away here I think. Everyone other than FG and Labour (and obviously many menbers of the public who mistakenly think that developers are being let off the hook) agree that NAMA is the way forward.

What a bizarre way of putting it. Obviously you think the opinions of all the main political parties apart from Fianna Fail, the opinion of most of the general public, and the opinions of at least 46 economists, should be entirely discounted.

And just to point out that someone may agree that a NAMA-like solution might be a solution, but not this particular instance of NAMA. Fianna Fail can chant the mantra that they're doing what the Swedes did 'til they're blue in the face, but that doesn't make it so.

For one thing, Sweden is regularly voted as - behind Finland - the second least corrupt nation on Earth.

For another, their valuation commitee was a cross-party exercise and not - as in Ireland's case - a personal fiefdom of the Minister for Finance, no doubt to be staffed with the same yes-men and hacks who got us into trouble in the first place.

 

[steviel]

A few points for DARAG. (and this really is it this time!):

1. Borrowing money on the international markets to plug a €60bn hole in the banks now due to losses, is very different to borrowing from the ECB under the repo type arrangement proposed under NAMA. I dont think we could come up with €60bn CASH in the next few months from a mix of borrowing on the international markets, and raiding the pension fund. We can however borrow from the ECB to fund a NAMA structure.

2. Yes, small community banks go under in the US all the time, and there have been some reasonably big failures by Irish standards. Depositors are moved to other banks, and loans sold at a fraction of the value with shareholders and sub note holders wiped out, and senior debt holders made good by the state (the FDIC). But they are a tiny fraction of the system, and of the nations wealth. That is a bit different to letting your 2 largest banks, which dominate the banking system, fail. It would be like letting Bank of America and Citibank fail. What impact on the US financial system do you think that would have?

3. And how do the shareholders pay, share the load, under a recap if NAMA pays market value for the loans? There is precious little private shareholders capital left! Remember there is a good chunk of our money in there already. It would be burned through very quickly - would be a fraction of what is required. A drop in the ocean compared to the €60 odd billion needed. The state is paying no matter what.

4. My point was that there IS consensus in that the bad assets have to be separated from the good (something that Japan didnt do). A NAMA 'type' structure as you put it. The main issue is still around pricing

 

[csirl]

IMHO the short sharp shock is the way to go. There are very few situations, (and I'm talking generally, not just about banking) where the long drawn out transition is better than the short sharp shock.

 

[Duke of Marmalade]

So now we have the Gang of 46 writing to the IT. I thought Alan Aherne did a pretty good one man job in rubbishing their letter, both in the IT and on RTE this morning.

For a start he informs us that 240 economists were invited to sign up and only 46 did, a notable absentee being Patrick Honohan. So the G46 letter constitutes very much a minority view from that learned constituency.

To me the big issue in this academic debate is can we credibly let the bondholders take the hit - I don't think anybody has any issue with shareholders taking the hit, as they have done in spades.

The G46 say B/holders should suffer and this is now the FG line. Alan Aherne's refutation is that this can't be done because of the State guarantee. But that was a bit disingenuous. Can we viably dump on the bondholders when the State guarantee runs out in 9/10? I thought this would mean effectively putting the banks into receivership/liquidation, triggering the deposit guarantee and in effect collapsing the whole house of cards.

But if even a 20% minority of economic academics and an opportunistic, though generally responsibe, FG are proposing dumping on the bondholders maybe it is not the meltdown I think it is. And the price of these bonds suggests that the market is not at all sure that they are immune from being dumped. Any experts out there on what this course would truly mean in practice?

 

[darag]

1. Borrowing money on the international markets to plug a €60bn hole in the banks now due to losses, is very different to borrowing from the ECB under the repo type arrangement proposed under NAMA. I dont think we could come up with €60bn CASH in the next few months from a mix of borrowing on the international markets, and raiding the pension fund. We can however borrow from the ECB to fund a NAMA structure.

I think you're a bit confused; the government is not going to be borrowing any money from the ECB no matter what. The ECB will ultimately lend cash using government bonds as collateral - yes using an arrangement called repo. But the bonds have to be issued in the first place - either to provide the initial capital for NAMA or to re-capitalize the banks.

2. Yes, small community banks go under in the US all the time, and there have been some reasonably big failures by Irish standards. Depositors are moved to other banks, and loans sold at a fraction of the value with shareholders and sub note holders wiped out, and senior debt holders made good by the state (the FDIC). But they are a tiny fraction of the system, and of the nations wealth. That is a bit different to letting your 2 largest banks, which dominate the banking system, fail. It would be like letting Bank of America and Citibank fail. What impact on the US financial system do you think that would have?

Again I think you are confusing things; the impact would be great but not because of their share of the "nation's wealth". The reason you can't just shut up shop on AIB or BOI or Citibank or Bank of America (like you could with Anglo or the building societies) is because they are all vital pieces of their respective nation's payments and clearing systems. Banks are more than deposits and loans. There is no question that payments and clearing have to be protected at all costs. Again there is precedent and experience available to separate these bank functions and nearly all banks in fact have separate structures for lending - commercial and retail. Not to diminish the scale of the task but it is doable and has been done in the past.

3. And how do the shareholders pay, share the load, under a recap if NAMA pays market value for the loans? There is precious little private shareholders capital left! Remember there is a good chunk of our money in there already. It would be burned through very quickly - would be a fraction of what is required. A drop in the ocean compared to the €60 odd billion needed. The state is paying no matter what.

The existing shareholders will pay because the banks are now worth something - 3 or 4 billion market cap the last time I looked. A government recapitalization would dilute the existing shareholdings to practically zero (given we are realistically talking about putting in more than the total market cap) or nationalization would wipe the shareholders out.

4. My point was that there IS consensus in that the bad assets have to be separated from the good (something that Japan didnt do). A NAMA 'type' structure as you put it. The main issue is still around pricing

Well at least you are admitting that much which is an advance over the claim that it doesn't matter how much NAMA pays for the loans. As I pointed out above with my a, b and c scenarios it very much does matter. And we are talking about THE NAMA (the one being proposed by the government) not some hypothetical NAMA 'type' structure. I don't have a problem with the principal of transferring some bad loans out of retail banks - I have a serious problem with NAMA as proposed.

 

[Duke of Marmalade]

I think you're a bit confused; the government is not going to be borrowing any money from the ECB no matter what. The ECB will ultimately lend cash using government bonds as collateral - yes using an arrangement called repo. But the bonds have to be issued in the first place - either to provide the initial capital for NAMA or to re-capitalize the banks.

I think steveil has a point. As I understand it NAMA will be allowed to print fairly soft bonds (paying 1.5% p.a.) without actually issuing these to the marketplace. The ECB seems to allow that, as NAMA is acquiring assets (rather than equity).

If it was that easy to pay for equity why all this fuss about getting the Pension Reserve Fund to use its cash for the prefs? I think the ECB rules must be that equity injections must be funded by "real" cash, rather than printed bonds.

 

[steviel]

DARAG, injecting capital into the banks requires general borrowing on the international markets (at very penal rates, if indeed we can), raiding the pension fund, or diverting cash away from public services to put into banks (given that we have a very finite borrowing capacity right now). ECB will not help us out with borrowing for recapitalisation, indeed is prohibited under European legislation from directly buying sovereign debt of its member states.

The NAMA structure involves issuing bonds to the ECB, not to the international markets.

It is the main issue, and directly linked to the price that NAMA can afford to pay for the loans given the impact that the price has on the amount of recapitalisation, and therefore the amount of cash that is borrowed from international markets, or diverted from other sources.

 

[tiger]

So now we have the Gang of 46 writing to the IT. I thought Alan Aherne did a pretty good one man job in rubbishing their letter, both in the IT and on RTE this morning.

For a start he informs us that 240 economists were invited to sign up and only 46 did, a notable absentee being Patrick Honohan. So the G46 letter constitutes very much a minority view from that learned constituency.

It would be an error of logic to assume that the other 194 support NAMA.

Ahearne uses the words "sloppy" a few too many times for my liking.

I personally don't like NAMA in it's current format, but we need some "NAMA-like" solution, and I think it's important that there is real cross party & cross interest group debate, that some form of consensus is reached as we will be living with this for a long time.

 

[Purple]

we need some "NAMA-like" solution, and I think it's important that there is real cross party & cross interest group debate, that some form of consensus is reached as we will be living with this for a long time.

On that I agree 100% but with FG's proposing off the wall populist rubbish it's hard to see how it could happen.

 

[canicemcavoy]

Regulation has changed as well (or maybe that is wishful thinking), there are government people on the boards of all the banks, and the international markets will be more sensible in terms of lending for a while at least. So we are in a new era to an extent.

Honest question; which regulations have changed? I meant to ask this questions elsewhere but this might be the best place to ask it.

For example, has there been any new regulations about the ratio of deposits to lending that a bank has?

 

[darag]

Not to get side-tracked on a technical matter, when I said the government had to issue bonds, I meant simply that. Not that the government has to sell them to the markets. These bonds are "sold" to NAMA or the banks in exchange for equity. Either can then use repo with the ECB to turn them into cash. It matters little if NAMA issues the bonds either, the process is the same.

The only reason I brought this up was because steviel claimed that NAMA overpaying for the loans had the advantage of NOT requiring the government to have to flog bonds on the market. This is NOT an advantage as it makes no difference either way. The government does not need cash to re-capitalize the banks - it can issue bonds and hand them to the banks.

steviel has not addressed the substantive and vital point which is that it matters a great deal (in terms of cost to the taxpayer) what NAMA pays for the loans.

 

[Duke of Marmalade]

The NAMA structure involves issuing bonds to the ECB, not to the international markets.

Is that strictly accurate? The bonds finish up on the banks' balance sheets. Okay they can repo them at ECB for liquidity management. But I don't think NAMA issues bonds directly to ECB. Your main point though must be true - it is a much more onerous requirement to fund equity than to fund this NAMA (because of ECB rules).

Crossed posts with darag. darag I don't think that is correct. I don't think ECB rules allow the government simply to "print" bonds for that equity. That's why we had all this fuss about had the Pension Reserve Fund any spare cash or could it realise some assets of its own to help out. Buying equity seems to require "real" cash arising from real market transactions whereas NAMA bonds seem merely to be a matter of printing them.

 

[darag]

Duke, I don't think I suggested that the banks "prints" bonds. The government "prints" or issues the bonds. The government can then use these bonds to "buy" equity in the banks (i.e. recapitalise them) or to fund the capitalization of NAMA. The bonds end up on the balance sheets of banks or NAMA (and as you say can be repoed for cash with the ECB if the bank or NAMA wishes). They also end up in the national debt. Maybe we are saying the same thing. I don't see why the ECB would be happier to accept NAMA issued bonds for repo purposes than government issued ones.

I think this discussion has gotten too technical. There have been important issues being discussed here being swamped by details of the mechanics of how the cash is to be borrowed. It's not that relevant. Maybe a moderator could snip split these posts off to another thread called "The mechanics of funding NAMA" or something like that. My main point was that neither approach requires flogging government bonds into the markets.

 

[Duke of Marmalade]

darag, agree we are getting a bit off topic. I also had a typo in the original and have changed "banks" to "government".

Let's just flog it one more time. We agree that there are two completely different methods of the Government issuing bonds:

1) Through the market open tender process. This is what is used to fund government deficits.

2) Simply printing the bonds and exchanging them with a captive buyer for other assets. This is the NAMA aproach and has needed ECB clearance.

So the question is can government equity in the banking system be simply funded by method (2) or would they be forced into the market disciplines of method (1). I think the rules must state this latter.

Yes I agree this is a relatively minor technical side issue. For me the main matter that certanly I need answered is can the Government viably land a lot of this problem on bank bondholders as is suggested by the G46 and FG? If this is a viable option we must definitely follow it. My instinct is that to screw the bondholders would have such ramifications as to precipitate the meltdown we are trying to avoid.

 

[steviel]

The process is this, and i think it is THE main influence on the price of the loans (and the amount of resulting recapitalisation required)

1. NAMA / the government issues bonds (not sure which - I think NAMA directly).
2. These are given to the banks in return for their toxic loans (at some discount yet to be determined).
3. Then the banks take these bonds to the ECB and swap (repo) them for cash, which they can then lend to all of us.

The ECB has worked with Ireland in structuring NAMA so that they can effectively take newly issued Irish government bonds via the banks in return for cash. If we dont want the ECB's help in NAMA we have to find the money elsewhere, as the ECB are not allowed to lend money directly to their member governments, by buying bonds or otherwise (ie the government cannot issue bonds directly to the ECB in order to raise cash to recapitalise the banks). Therefore re-capitalisation funds have to come from the general exchequer (maybe borrow from the IMF?) - but in any case likely at the expense of public services and the pension fund.

Is it seriously suggested that the government turn round to the ECB and say we dont need their help. That we will take the hits in full now, recapitalise / nationalise the banks now, and find the money in the open market or from somewhere else ourselves?

 

[Purple]

Can this thread be made a key post? It's very informative. I disagree with darag and duke this this is too technical; the detail is what matters so keep up the good work guys.

 

[darag]

Duke, I think the confusion between us is what it means to "issue" bonds. It is often used in both senses - the creation of the bonds or alternatively the creation plus the initial exchange of the bonds - most often for cash. The confusion is my fault. I will use the terms "create" and "sell" from now on.

The ECB have to be consulted when any euro-zone government creates bonds whether these are subsequently exchanged for cash (most commonly) or for some other financial instrument (including equity, other bonds, etc.). What the bonds are exchanged for isn't the primary concern of the ECB. The fact that the bonds exist and can be used as collateral by the ultimate holder to borrow from the ECB at attractive rates of interest is their concern because each euro-zone government bond created represents a potential drain on their reserves.

And yes I agree that one of the most important issues is whether the bondholders can be made take some of the hit. But we haven't even gotten to ordinary bondholders yet. The current NAMA plan allows the shareholders and the unsubordinated bond holders to keep all their money. That alone is reason for me to dislike it. I have to admit that I haven't read the G46 letter so I am not in a position to comment. But we are not talking about wiping out the ordinary bondholders - pulling a figure out of the air, I suspect a liquidation of Anglo for example, once the unsubordinated bondholders are wiped out might involve a haircut of about 25% for the ordinary bondholders assuming the government provides backing for all the deposits. Not great for them but they've been receiving coupon payments for years in exchange for accepting risk of this eventuality.

steviel, I refer you to the first two paragraphs. The ECB have to be consulted and agree to the creation of ANY bonds by the Irish government. It isn't even possible for the government to turn it's back on the ECB - this is was one of the conditions of our entry into the Eurozone; the ECB have to be consulted whenever the government borrows.

 

[mobcon]

Allow me to introduce the following thoughtful seven points, I would like you to consider about the debacle in the Irish property market and proposed rescue by nama
1. Nama is not to help the developer, but is to help the banks who give the impression that they will release funds to the business community and private mortgages, when they have there toxic debt has been taken of their “books” - how much loans have they given out since they have received 7.5 billion from us (the taxpayers) ?
2. Brian Lenihan is smart guy and is doing the best job he can do in my opinion, to date I believe he has made the correct decisions, unfortunately he is being lied to by the financial elite and other vested interests and is getting no support from Mr Cowen (Mr Aherns protégée).
3. I have been in the construction game for 25 years and in the property game for the last 5 years as a coach and consultant doing feasibilities and believe me when i say that on a value basis most toxic assets are overvalued by at least 70-80%. Let me clarify my personal position - I am not in debt to any bank !
4. When are we going to see a auctioneer, who overvalued land and properties, which the lender accepted without due diligence be charged with illegal bad practices, remember all these bad practices will be covered up by nama.
5. Why not let the Allied Irish Banks, Bank of Ireland and Irish Nationwide go - push them off the edge of the cliff! That is what they would do if a company/individual had borrowed money from them and unfortunately the business failed.
6. Lets be practical and get real for a change - The shareholders have lost their investment anyway and in order for any shareholder to recoup there investment from € 1.20 back to € 22.00 it will need to increase by 1,200% as if that is going to happen within the next 30-40 years, look how long it took the shares to recover after wall street crash 50-60 years !
I personally lost € 10,000.00 in bank shares, could not afford it but I have to get with it
The Banks made bad commercial decisions and got it wrong, they should pay the price
Of mismanagement - does anyone know of any businessman who borrowed monies
From any of our main banks and was given clemency or dare I say treated fair by the their lender when things did not work out!
7. The alternative - Instead borrow 40bn, 20bn, invest it in Ireland inc in job creation and business loans only on condition that it all prices in Ireland across the board drop by 25% - which would lower our total cost base by 25%. 20bn into a new national bank (Anglo etc) and loan it out to deserving cases - all to be administered by a new elite of passionate Irish businessmen who have the interests of the country at heart - are they out there, I meet them every day !.
8. Is it amazing how many well known business people who are not involved in this property nightmare.
On behalf of the all the honest business people who are lying awake at night wondering how they are going to survive until Christmas and we are lot more in number than 50 sol called developers, the majority of which are masquerading as fronts for syndicates, comprising of accountants, solicitors, auctioneers, businessmen and bankers etc.

 

[Bronte]

Of mismanagement - does anyone know of any businessman who borrowed monies
From any of our main banks and was given clemency or dare I say treated fair by the their lender when things did not work out!
.

Yes there is one that I know of, Larry Goodman. He was too big to fail.