National Bank of Greece ADR (fka NBGGY)

[Jester_Vandalay]

How low can we go?

The last 12 months have been utterly disastrous for Ireland’s banking sector and, in turn, for the Irish taxpayer.

So much has happened that will leave lasting scars on banking for many years, it is hard to encapsulate everything.

The most striking thing of all is the contrast between what we were being told about the situation and where it actually is now. In that sense, the year can be characterised as one of ever worsening scenarios. No matter how bad Minister for Finance Brian Lenihan told people the banking situation was, it kept turning out to be even worse.

Nama numbers

Take Christmas 2009. At that time, it was still widely accepted that the National Asset Management Agency (Nama) would buy close to €77 billion of bank loans, at a discount of roughly 30 per cent.

This was widely (although not universally) accepted as the case, because this was the figure that Lenihan told the nation it was going to be. It was contained in the first Nama business plan published in October 2009.

This plan suggested that the agency could spend around €54 billion buying €77 billion worth of loans, and still make a profit of €5 billion.

But as 2010 rolled around, the assumptions behind these calculations went completely awry. Nama, which has a commercial mandate, took a very tough line in deciding what price it would pay for the loans.

The moral hazard of using taxpayer funds to purchase loans at above their market value, in order to keep banks in private ownership, was just too much.

Equally, the European Commission applied tight scrutiny to the process and wanted to see every loan deal done. The final factor was that the loans given out by banks to property developers were in a much worse state than Nama - and Lenihan - had first believed.

Poor security, very little equity put in by developers, a lack of paperwork, worthless personal guarantees and a wrecked property market pushed the discounts paid to over 50 per cent. The impact on the banks was devastating. It forced them to take loan losses up front.

Black Tuesday

On Black Tuesday, March 30, Lenihan announced details of the discounts paid by Nama on the first batch of loans, and the subsequent amounts of money they would need in new capital, mainly from the state.

That morning, the expectation was that Anglo Irish Bank, having received €4 billion, would need another €6 billion to €8 billion. Lenihan also announced that it needed another €8 billion immediately and possibly a further maximum of €10 billion, bringing the total cost to €22 billion.

This has now been revised to around €30 billion to €34 billion.

For AIB, the figure was €7.4 billion of additional capital. By October it ended up being €10.4 billion, and the final figure will be higher.

In Irish Nationwide’s case, the expectation was an additional €2 billion. Lenihan announced a figure of €2.8 billion.

This has now been revised to €5.4 billion.

Even little old EBS needed more. It was widely expected that it would require €300 million. Lenihan said the figure was now €878 million.

At the time, we were told that the money going into Irish Nationwide and Anglo Irish Bank was probably gone, but we were investing in AIB and Bank of Ireland. In other words, we would get our money back.

As the amounts of money required for all the banks has gone up, it is increasingly difficult to see how the state will reclaim the billions of euro it is ‘‘investing’’ in these banks.

AIB will be broken up and most likely sold off. The price attained for the non-core parts, and probably the main Irish bank itself, will not cover the funds that the state will put into it.

In many respects, with the obvious exception of Anglo, AIB has been the most troublesome for Lenihan. Its executives took a tough stance on government intervention right from the start.

A protracted row about the appointment of insider Colm Doherty to the post of managing director saw the bank eventually win out. But, as the news broke that AIB needed another €3 billion more than previously thought, Doherty was gone. Including new executive chairman David Hodgkinson, AIB has had four chief executives since March 2009 - Eugene Sheehy, Dan O’Connor, Doherty and Hodgkinson.

In Bank of Ireland’s case there is a better chance but, with the state likely to end up with a majority stake in it, getting all its money back will be very difficult.

Bank of Ireland convinced many of its existing shareholders to throw more money into the stock when they did their successful rights issue, raising €1.5 billion from shareholders.

Unfortunately, those investors have seen the value of the shares they bought in the summer halve. It doesn’t augur well for pulling off something similar again.

Anglo and Irish Nationwide remain bottomless pits that our money is being poured into. That money won’t be coming back. Together, these two lenders are on track to cost the taxpayer a minimum of €35 billion.

Non-Nama loans

There could be worse to come. Having dealt with the crisis triggered by commercial property disasters, real cracks are emerging in other parts of the banks’ loan books - the bits they are not selling to Nama.

For example, around 10 per cent of all Irish residential mortgages are not being paid on time. Loans to major companies and SMEs are also expected to lead to significant losses.

Arise in eurozone interest rates could be the trigger for a new crisis.

Elsewhere in the banking sector, the non-Irish banks continued to retrench and feel the pain in 2010.Ulster Bank and HBOS had to increase their provisions for loan losses in Ireland.

In February, HBOS announced that it was closing its Halifax branch network in Ireland, with the loss of 750 jobs.

The remaining 850 jobs in Ireland were said to be safe, as the company said it would continue to run its corporate lending arm trading as Bank of Scotland (Ireland). But just six months later, it announced that it was closing this business as well.

The last 12 months have witnessed numerous nasty surprises, prompted by the realities of how comprehensively commercial property lending collapsed. The next year should see more activity and responses to those changes.

The passing of the Credit Institutions (Stabilisation) Act will ensure a more speedy break-up and shrinking of the Irish banks.

There will be some consolidation around the two big lenders in the Irish market, but there are few certainties about what will happen.

We are also likely to see staff cuts across the Irish banks. Some lenders are still operating with 2007 staffing levels.

As they shrink, their employment numbers will go down, too.

There are likely to be enormous job losses across financial services next year. The shape of banking has also been affected by the arrival of the IMF and EU through the bailout fund.

They want rapid action in addressing problems. The European Central Bank was a key driver in the arrival of the IMF here.

The ECB had be come alarmed at the extent to which it was providing liquidity to the Irish banking system.

Bonds issued by Nama to Irish banks were being cashed with the ECB. The gaps left by the collapse in wholesale funding and the enormous exit of deposits all had to be plugged by the ECB and the Irish Central Bank. Together, they are into the Irish banks for around €135 billion.

The uncertainty that persists around sovereign and bank debt in several eurozone countries will also cast its own shadow on banking in the year ahead.

The likelihood of a Portuguese bailout, and the storm clouds gathering around Spain, are not helping when it comes to the wider issue of stability of the euro.

Anecdotal evidence suggests that some Irish citizens with sizeable savings, and some larger corporations, are spreading their deposits around lenders in different jurisdictions.

Brokers describe how high net worth individuals are purchasing 0 per cent coupon German bonds, knowing that the transactions fees, et al, mean it will cost them money.

The fears are understandable, but the logic is hard to figure out. Irish bank deposits are as safe as the Irish state itself. But if you have fears about just how safe that is, the deposits are also heavily supported by the actions of the ECB.

Lenihan’s annus horribilis

The last 12 months have been utterly bruising for Lenihan.

The ever-increasing billions required for the banks were linked to the blanket guarantee he introduced in September 2008.

This decision has come back to haunt him with a vengeance. The worsening situation, which meant that estimates of cost were continually being revised upwards, eroded his credibility on the banking issue.

Several u-turns, particularly with the arrival of the IMF and EU, raised questions about the choices he had made to shape a solution to the banking crisis.

Take Anglo Irish Bank, for example. After courting the EU with a good bank/bad bank plan for months, Lenihan went ahead with a deposit bank/slow wind-down split of the bank. Now it’s just being wrapped up.

And it got worse. The speed With which things are now happening, post-IMF, gives the impression that Lenihan wasted too much time and took an excessively softly-softly approach with the banks.

This was further emphasised by the row over bank bonuses, which also appears to have backfired on him.

Those who wanted heads on pikes, any bankers, weren’t being given too much to feed on.

The slow progress of investigations into Sean FitzPatrick, David Drumm and the events at Anglo Irish Bank have given the impression that the individuals who made the decisions that cost the taxpayers billions of euro are simply walking away from the carnage.

Aside from specialist probes such as those of the Office of Director of Corporate Enforcement (ODCE) or the gardaí, there hasn’t even been much progress on official investigations into what went wrong.

Investigations

In 2010,we had two reports into the crisis: one by Central Bank governor Patrick Honohan, and the other by Max Watson and Klaus Regling. They aimed to explore how we got into this mess, but didn’t really point the finger at anyone.

They confirmed that the failure in bank regulation and government policy had contributed, as well as how the banks were run.

But they didn’t satisfy the public’s need to know that somebody did this and would have to pay for it somehow.

The biggest single issue the Honohan probe cleared up was the extent to which our crisis was a homemade problem. Bertie Ahern, Brian Cowen and a raft of others had blamed the collapse of Lehman Brothers for precipitating the Irish banking crisis.

Honohan concluded that, while both domestic and international factors were at play, our crisis was 70 per cent homegrown. It put a stop to the nonsense that had infected political discourse about the issue. The closing few months of 2010 have also clarified another issue which had dominated debate for the previous 18months - whether the banks were lending enough.

When it emerged in October that AIB, the country’s biggest bank, needed an additional €3 billion of new capital to bring its requirement to €10.4 billion, the debate was over. With the ECB providing €130 billion in funding to the Irish banks, it was clear that they were in a much worse state than many had imagined.

The IMF/EU bailout sets aside €10 billion more of new capital for the banks, with an additional €25 billion available on a contingency basis. Banks that are so strapped, and with such weakened balance sheets, couldn’t possibly be in a position to lend into the economy to anything resembling normal levels.

The hope now is that Lenihan’s new banking legislation, with its extraordinary emergency powers, will enable a fast and decisive clean-up of the Irish banks.

If it achieves that, they may eventually be in a position to move on and rebuild. But a lack of competition in the future is a real concern. Several foreign banks operating here are either closing or pulling back.

The most worrying aspect to the banking crisis, as 2010 draws to a close, is that, more than three years after the credit crunch began to emerge in international banking (August 2007), there is still so much uncertainty about the future of the industry.

We still don’t know who will own some of our banks in a year’s time, how big they will be, how much lending they will do, where they will get their funding or how many people they will employ.

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