February 12th Morning: The Recession Diaries
I don’t say this very often but here goes. Fine Gael has put forward a very positive proposal regarding the banking crisis; and once teased out (and implemented) could see us jump free of this particular crisis and back on the road to economic activity (one crisis down, 99 to go). Fine Gael? Well, a good idea is a good idea - and hopefully this one will get legs.
Richard Bruton, writing in the Irish Times, laid out the bones of the proposal:
‘This would involve separating from within each bank a new bank, with a separate legal structure, which would hold all the State guaranteed deposits and other short-term liabilities and which would buy from the existing parent bank the branch network and all those parts of the loan book which can be easily valued, such as residential mortgages and business overdrafts. These would constitute new “good banks” with clean balance sheets. They could be called “New AIB” and “New Bank of Ireland”. Their capital would be provided by the taxpayer, hopefully with other private capital, and some small shareholding could be given to the existing shareholders. These new banks would then be well capitalised with a clean balance sheet and fully open to resume lending.’
In many respects, this does the same thing as ‘bad’ bank proposals (or ‘legacy banks’ as Bruton calls them) in which all toxic assets would be placed. In this scenario, the toxic assets wouldn’t move - nor would the shareholders, creditors and senior executives - but everything else would; into new banks with clean balance sheets and no encumbrances.
Bruton claims it would be cheaper to capitalise new, clean banks than trying to, Sisyphus-like’, recacapitalise existing banks. He’s probably right. Davy Stockbrokers expects AIB and Bank of Ireland to write off €5.8 billion and €5.2 billion respectively over the next three years. That more than cancels out the Government’s recapitalisation - which is being kept deliberately low out of fear that a higher amount would effectively nationalise the two major banks.
And nationalisation, or public ownership, or public control is now the only option. Fine Gael accepts this, even if Bruton works hard to avoid using these phrases. For the establishment of ‘clean’ or ‘good’ banks is a bold interventionist initiative. It will be initiated by the state and funded by the state (’Their capital would be provided by the taxpayer, hopefully with other private capital . . . ‘). In effect, it would be state-owned, at least in the short-term. Even sans the leftist phraseology, Bruton recognises what is at stake:
‘No doubt the first instinct of the banks and their long-term creditors would be to scream blue murder. They are currently demanding, and expecting, continued State support in one form or another. But . . . why should the taxpayer should be exposed to potentially massive bad bank debts that could cripple the economy and take a whole generation to pay off? It is only right that bank losses are absorbed first and foremost by those who took on the risk of funding the risky lending policies of the banks.
Well said. In fact, so well said one might be surprised that it came from Fine Gael. But we shouldn’t fall into the mistake of thinking that Fine Gael is merely an Irish articulation of Thatcherism. It is isn’t (would a real Thatcherite propose subsidising shareholders who took a bath on privatisation as Fine Gael did in 2002 for Eircom?). Yes, it is fiscally conservative; but that isn’t the litmus test of neo-liberalism. After all, their predecessors could quite easily reconcile a vicious policy that took a shilling off the pensioners, a Minister for Industry who said that people starving in the ditches may have to be price for balancing the budget, with the establishment of a state company, the ESB, to electrify the country when the private sector failed to do so (and be branded ‘Bolsheviks’ for doing so). Bruton’s proposal comes from that same vein. It’s not that he is espousing social democracy, never mind a leftist takeover of the commanding heights of the economy - but he is espousing good sense, even if of necessity.
Fine Gael’s proposals make for an interesting contrast with Labour, which published its own banking proposals. While there is much that is good here, the main problem is that it accepts the current framework or architecture. Labour will support the Government’s recapitalisation plan if it contains:
- dedicated pools of funds ring-fenced for lending to small business
- realistic and credible statement of the scale of bad debts
- a write-down of impaired assets
- a Banking Commission
- a cap of €250,000 in executive pay
- a full investigation of Anglo-Irish Bank, and
- a moratorium of two-years on family home repossessions (the Government is proposing one year)
- retention of building societies
All these should be implemented, post-haste. The core problem, however, is that even if the Government accedes to these demands, the €7 billion capitalisation will still fail, will still be a waste of money. Put another way, the house is beyond repair. We can re-roof it, remove (but only temporarily) the wet-rot, shore up the foundations - it will still collapse. Best to find new accommodation somewhere else and start over (in this respect, while Labour refers positively to ‘good’ and ‘bad’ bank proposals, it only suggests the Government ‘examine’ them).
Fine Gael understands the need for a completely new model under public accountability. And, going beyond declamation and mere opposition, has put forward a new framework - a new abode, if you will, to move the economy into. It doesn’t answer all the questions - no one Irish Times article can - but it addresses the fundamental issue in the banking crisis in a creative way.
It would be self-defeating to ignore it.
Discussion
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Comment by: bogdodo
Feb 12th 2009 at 13:02
I confess I was surprised at this kind of radicalism coming from Fine Gael and I’d agree we have to welcome it wherever it comes from.
Am I right in thinking that the state would have to renege on the guarantee to shareholders and and other creditors for this to work?
I don’t understand the Labour Party’s inability to capitalise on the crisis and seize the high ground in ideas. It’s there for the taking - the current incumbents are so patently confused and dishonest and the anger among the people leaves them open to questioning the old ‘givens’ about the economy and society. Is it just a lack of good policy researchers or does the Labour Party subconsciously always envision itself as the junior party in a coalition?
Comment by: Donagh
Feb 12th 2009 at 15:02
If I can anticipate Michael on this question, it seems that yes, if the bad debt (toxic assets) were left with the old bank that they’d still be protected by the guarantee scheme until Sept 2010. So if the shareholders of the old bank tried to off load them before the scheme expires the taxpayer is liable for any value differential, assuming that a quick sale at the moment would price the asset at a much lower value then when the loan was taken out. It’s hard to be certain about this though, and I could well be wrong.
There is another idea, of writing down the debts in the existing banks to a percentage of their original value and then moving that asset into a state owned asset management company. The government would then issue a bond to the old bank for the value of the written down asset and then make up the difference of the original value of the asset with state funds. Its similar to Michael’s discussion of bad banks – so he can correct me if I’m wrong - again.
Comment by: bogdodo
Feb 13th 2009 at 11:02
Surely the Irish Government is sovereign and can renege on parts of the guarantee - if this came at the same time as the establishment of a number of good banks it might even decrease the cost of government borrowing by removing uncertainty.
Willem Buiter puts the injustice and impracticality of the cushioning bank creditors well:
Re. my last comments on Labour: Terrible timing!
Labour up 10% in the polls and Fine Gael dropping. It seems the electorate like what they are hearing - at least to the extent of making Labour the preferred option for the disaffected.
Imagine how much better they could do with a coherent radical programme!
Imagine converting skilled aeronautical engineers into wind, wave and tidal turbine designers and manufacturers. Imagine using the ESB expertise to make us an exporter of renewable energy into a pan-European/north African HVDC grid. Imagine planning to get all housing up to a BER B rating and above in 3 years.
That’s real ‘competitiveness’ for the future. €7bn should cover that nicely.
Comment by: Michael Taft
Feb 13th 2009 at 11:02
I’m inclined to agree with you, bogdodo. I would imagine there are any number of ways to escape the injustice of rewarding those who took the risk. One way might be to transfer the license from the old ‘legacy’ banks to the new ‘good’ banks. Clearly the ‘bank’ that was left behind wouldn’t be a bank in the ordinary, and possiblly legal, sense. One example of this is that they wouldn’t be deposit-taking - the depositors having moved to the ‘good’ banks. I’m sure there are oher ways of shaking this thing around - we could ask the bankers; they seem to be a creative lot.
One disadvantage Bruton’s scheme has is that the ‘toxic assets’ would be sweated for the benefits of the bank shareholders and credtors. Under complete public ownership, the assets would be sweated for the benefit of the state/taxpayers. An exaple of this would be a stretch of land - pretty much worthless now. Under public ownership, local authorities or other relevant public agencies could begin to build up land banks on the really cheap. This could be useful down the line - for housing, enterprise development, recreation, etc. I would still prefer the public ownership route for all Irish banks. But Bruton’s proposal is the next best and, so far, the only other that seeks to radically reconfigure the banking landscape.
Yes, bogdodo, you might have spoken a bit early on Labour’s perfomance. But you, and Labour, should speak out on positive, pro-growth srategies of the type you outlined: retraining workers into state-directed growth areas such as energy export. My fear is that if Labour and progressives don’t start giving real content to generalisations of ’stimulus’ we will be faced with our own boom-and-bust.