Irish banks could weather economic storm

THE collapse of Lehman Brothers after 158 years in investment banking has added to the growing credit crunch horror story.

And as the markets were trying to digest that event, Wall Street was hit with further bad news that the New York state had to throw AIG, one of the world’s biggest insurers, a $20 billion (€14bn) lifeline as it scurries around Wall Street in search of a $40bn rescue package to keep it afloat.

It may well be the next casualty of the subprime crisis which the markets thought was about to end with the bail out of Fannie Mae and Freddie Mac last week.

After it erupted in August 2007, punters thought it would be short lived with few consequences.

But as it wore on, one commentator dared to suggest the total cost in bad debts could be several hundred million.

That figure seemed outlandish at the time, and the latest estimated cost in bad debts and write-offs now stands at $511bn.

The financial crisis that has ensued is reckoned to be as bad as the financial carnage that followed the crash of 1929, that led to the great depression.

Irish banks are not directly exposed to the subprime market that has caused such havoc globally.

But at this stage the backwash from this home loans fiasco is starting to raise doubts about even relatively safe lending institutions.

By comparison with the international scene, Irish banks could face bad debts of between €6bn and €10bn over the next few years.

Dresdner Klienworht last week put the figure at €6.3bn for AIB, Bank of Ireland and Anglo combined, but nobody knows.

But the Central Banks say the exposure of banks here are sufficiently well capitalised to withstand the write-offs they face as builders and developers here inevitably fall foul of the slump in the British and Irish housing and commercial property markets.

However they were astute enough not to have invested in products linked directly to the subprime market which was good news from an Irish point of view.

However, the meltdown has raised the cost of borrowing in the interbank market significantly in the past few weeks and overnight borrowing in the US rose to 10%.

When this crisis began, inter-bank rates were about 0.5% above the normal rate, but are now close to double that, making it very costly for banks to borrow for further lending, adding to the scarcity of credit internationally, which could be a problem if Irish banks are forced to borrow big in the inter-bank market.

It is worth bearing in mind too that the Central Bank of Ireland has given Irish banks a pretty clean bill of health.

At the time of the publication of its last risk assessment of the banks, governor John Hurley said “the direct and indirect exposure of Irish banks to US subprime mortgages is negligible”.

That has not changed. What has changed, however, is the outlook for the global economy and by implication, for this economy, and it has darkened considerably as a result of this banking meltdown.

The value of Irish bank shares relative to their inherent value is a joke at this juncture with Bank of Ireland back at levels not seen since the mid 1980s.

That simply is wrong.

But banks here have become associated in the minds of British institutions with a construction sector in both Britain and Ireland that is or has pushed both economies into recession.

British fund managers contend that Irish banks will be severely undermined by the collapse in construction and have continued to sell off their holdings in British and Irish banks.

But bad debt levels in Irish banks have not even reverted back to the pre-boom days and not one has been forced to go to the market to raise money, despite persistent rumours.

It looks to have been the case that banks here are better managed than most, but that may not count in the end.

The problem now is that this global crisis threatens to undermine even well managed institutions such as the Irish banks. Professor Ray Kinsella of University College Dublin’s business school warned they need to face up to the threat by merging or forming strategic alliances that will prevent them from being picked off cheaply in the months ahead.

From an Irish perspective everything that could possibly have gone wrong has and the real fear is that this global financial meltdown could set this economy back years.

However, as things stand, talk of economic recovery in 2010 is looking very optimistic.