FINANCE Minister Brian Lenihan’s budget assertion that “the worst is over” is sadly wide of the mark. There cannot be recovery in the real economy unless and until solutions are found to secure the viability of our banks and building societies.
A start has been made on resolving our fiscal crisis. The Government must now focus on a new landscape for Irish financial institutions.
Firstly the enormity of the problem has to be acknowledged. Total private sector credit peaked at €404 billion last year and has contracted to €376bn. The losses from defaults on these loans are currently unquantifiable. We know property values and asset-based lending may take a 50% hit on loan values. All forms of loan repayments will be affected by the unprecedented contraction of our economic output, business failures, falling incomes and unemployment.
The NAMA vehicle is primarily there to deal with the property lending disaster zone. Banking impairment will extend right across personal lending.
Mortgage repossessions, personal loans, credit card and overdraft defaults – all form part of the debris to be dealt with.
Under the NAMA umbrella, we can begin to quantify immediate losses.
It is established that the following loan portfolios are to be transferred to NAMA: Anglo Irish Bank, €28bn; AIB, €24bn; Bank of Ireland (BoI), €16bn; Irish Nationwide Building Society (INBS), €8bn, and EBS, €1bn.
With each passing week, market realities about the extent of the “haircut” are becoming more realistic. The early predicted write-offs were 15%. Now 35% is a more commonplace suggested discount.
Irrespective of whether NAMA subsequently makes a profit or not, the crystallised losses for the banks upon loan portfolio transfers are immediate.
In order to maintain the approved level of capital ratios required by financial regulators these transactions will require recapitalisation of all these lenders in 2010. Otherwise their solvency is in doubt. The bad news is that, despite previous optimism, AIB and BoI will be trooping in to the Department of Finance for their capital in the next month or so. The consensus of speculation is that the following recapitalisations will be required: AIB, €4.4bn; BoI, €2.8bn; INBS, €1.2bn; EBS, €300m and possibly the TSB, €800m.
Public investment in these institutions is unavoidable because of systemic importance to the Irish economy. In the long term the taxpayer may get a return on this investment. Therefore, raiding the National Pension Reserve Fund to meet these injections of finance, while galling, can be justified. The current stockmarket valuation of AIB is €1.2bn and BoI is €1.5bn. This means de facto majority state ownership of our two big banks is inevitable. Nationalisation will ensure their survival albeit with the probable sale of subsidiaries abroad and becoming smaller institutions.
Tomorrow at 11am Irish Nationwide and EBS will hold simultaneous EGMs to facilitate the Government taking up special investment shares in return for capital injections. It is anticipated the two institutions will then be merged with the state having majority control. Failure to do so can only result in insolvency.
Irish Life & Permanent is also changing its rules to facilitate the severance of Permanent TSB (PTSB) from Irish Life. Our tarnished international reputation and the whopping losses incurred by foreign banks here may result in diminished competition from Ulster Bank, Bank of Scotland Ireland (BoSI) , NIB, ACC and KBC.
These three organisations – EBS, INBS and PTSB – have a negative net value. Together they are insufficient to develop as a real Irish competitor to the big two banks. The mix of business between personal loans, mortgages, credit cards, savings and commercial loans falls short of what is required.
So how can a potential third force bank be fostered? The obvious solution is for Ulster Bank or BoSI to merge into this triumvirate on a minority basis. All the advantages of economies of scale, synergies, skills and capabilities would create a formidable entity. The consolidation of the nationwide retail branch network and a streamlined head office would maximise the opportunity for its success. Minister Lenihan needs to fast forward his options and discussions in this regard. The Government alone can transform zombie failed institutions into a cohesive entity.
This leaves us with the remaining toxic garbage. Anglo Irish Bank prospects are appalling in all scenarios. The Government has already flushed €4bn of our money down the toilet last summer further to a half year loss of €4.1bn. A business plan has been put forward to the EU Commission for the future of the bank.
The new CEO, Mike Annesley, has proposed to split the bank into two institutions – a good and bad bank. There has been a clear out of senior management over recent weeks. Apparently to wind up the bank now would trigger mega defaults on outstanding loans. In retrospect the nationalisation of Anglo was the biggest single fiscal decision of any government in the history of the state. It wasn’t a bet, but a bailout. The NAMA scenario for Anglo is the worst of all institutions. 40% of its total loan book is due to transfer, representing €28bn out of total loans of €70bn. Even worse, the losses on the “mark to market” valuation are reported to be highest in Anglo, with a 40% impairment estimated. In simple terms, they have the most toxic loans and more of them than anyone else. It is unacceptable to raid the state’s pension reserve fund for Anglo capital. The minimum finance injection will be a further €4bn. Some estimates put the sum required as high as €9.6bn. Lenihan omitted any reference to this disaster in his budget speech or fiscal arithmetic. Since then, he has obfuscated on these inevitable realities. For the past six months the overriding public policy debate has been about our budgetary deficit of €2bn per month and the unsustainability of our public finances.
THE 2010 budget took the first important step in tackling that crisis. Now we must move on to dealing with the paralysis and underlying insolvency of our financial sector.
NAMA alone, even with proper market valuations, won’t achieve bank viability. The future architecture of Irish banking must now be determined. This can only be drawn up by the Government. There is no international or indigenous market solution currently. It’s not desirable for our main banks to be acquired by global conglomerates. They and their requirements would be treated as mere outposts.
To date, the Government is just dealing with the symptoms of this financial crisis. These include protocols and codes of conduct for mortgage defaults; a temporary ban on house repossessions; pressure to enforce the availability of SME credit; the establishment of an independent review and appeals system for loan approvals to business.
While each of these has some individual merit, the bigger picture is to create banks with the capacity to absorb pain and fund future economic growth. Punishment for the culprits must not be forgotten. Their forgiveness is not an option.
Minister Lenihan should now apply the same political courage and determination to lasting banking solutions as he did to last week’s budget. Only then can we say “the worst is over”.