Report: Bank guarantee made Ireland look foolish

The Government did not know what it was doing when it tried to shore up the banks in 2008, as it thought the banks just needed money when in fact they were broke, a study by the European Commission says.

The blanket guarantee — which amounted to twice the size of the economy — made Ireland look foolish internationally, undermined its credibility, and turned the banking crisis into a State debt crisis, according to a review of the bailout.

The signs of an overheating economy from the property bubble were evident from before the banking collapse, but the EU, the OECD, and the IMF all missed it, the commission’s report adds.

And because the government introduced the guarantee, provided financial support to the banks, and set up Nama, there was little the EU, the IMF, and the ECB could do to help, as the State had assumed the bulk of the costs of rescuing the financial sector.

By November 2010, the ECB was keeping the banks open through €140bn of emergency liquidity, significantly more than Greece is now getting, and 85% of the country’s GDP. At that stage, ECB president Jean-Claude Trichet expressed concern.

The report reveals that the government was in official discussions with the troika three months before it felt pushed by Trichet into asking for a programme in November 2010.

The EU learned from Ireland’s banking debacle and, as a result, has written new rules meaning governments will not be free to take similar steps and bondholders will lose money in future.

However, back in 2008, a meltdown of the Irish banking sector was inevitable because of the way banks were overextended, especially in the property market, and the light-touch supervision.

The Lehman debacle was the catalyst that made the system collapse like a house of cards.

The Irish authorities could have limited the guarantee as Sweden did in 1991, but they were restricted by the fact there was no EU fund, and the fear bondholders would sue domestic banks.

By this time, the Celtic Tiger years were well over, and from 2002 the economy was booming thanks to a property bubble that burst in 2007, leaving the State without the huge taxes it had floated on.

The flexibility of the economy meant the adjustment was well under way before the programme started — decreasing prices and wages.

The report concludes that, thanks largely to the Irish authorities taking charge of the implementation of the programme, it succeeded in helping the country out of the crisis.