Banks – where are we, how did we get here, where are we going? Talk to Labour Party Economic Forum “The State of the Nation”, Cork City, March 2009
Professor Brian M Lucey School of Business Trinity College Dublin
• Causes of the Irish banking crisis – Local causes “cribbing and moaning” – International causes “dem lehman brudders”
• Where are we now? – Cleaning the stables – NAMA – competition
• Where are we going – Banks – economy
A litany of woes… • Unemployment, especially young male unemployment, at unacceptably high levels • Tight credit conditions (but beware…) • An unsustainable fiscal position • Growing problem of negative equity, esp amongst recent FTB’s • Stormy international bond waters still ahead
Brief Digression 1 - Fiscal • Fiscal position is grossly unsustainable. • A major part of the fiscal problem is structural deficit – this HAS to be closed • Three ways of closing it – Lower growth in state spend – Higher growth in taxes – Discovery of a pot of gold….
Brief Digression 2 - Bonds • Good News – NTMA have proven successful at raising lots of debt, at increasingly cheaper rates • Bad News – we have moved to a lower maturity profile – refunding issues loom Source : NTMA
30%
25%
20%
15%
10%
5%
0%
1
2
3
4
5
2010%
6
7
8
2008%
9
10
Causes of bank crisis • Banks borrowed too much internationally • They lent it out too much to property and related • Credit fuelled a housing and related bubble • International banking competition wasn’t to blame
Banks borrowed disproportionally abroad.. 100% 90% 80% 70%
Capital Other Liabilities
60%
Bonds - Irish
50%
Bonds - Non Irish Irish Customer Deposits Foreign Customer Deposits
40%
Irish Bank Deposits
30%
Foreign Bank Deposits
20% 10% 0% '1999
Source : Central Bank
'2008
And lent disproportionally to housing 100% 80% Other Business Wholesale/Retail Trade
60%
Other Personal Mortgages Real Estate
40%
Financial Intermediation construction
20% 0% 1999
Source : Central Bank
2008
And boy did they lend… • Lending to private sector as % of GDP – – – –
~50% 1995 ~100% 1998 ~150% 2005 ~300% 2009 !
• Vast increase in lending to developers – – – –
2009 prices 20b mortgages, 10b developers 1997 140b mortgages, 110b developers 2008 GDP rose by 75% for comparison
Private Sector Credit Q1/91 =100 1800 1600 1400 1200 1000 800 600 400
Source : Central Bank
M a r0 9
M a r0 7
M a r0 5
M a r0 3
M a r0 1
M a r9 9
M a r9 7
M a r9 3
M a r9 1
0
M a r9 5
200
fuelling a massive, unaffordable bubble 600 500 400 300 200 100 0 9 8 7 6 5 4 3 2 1 0 9 8 7 6 5 4 3 2 1 -9 r-9 r-9 r-9 r-9 r-9 r-9 r-9 r-9 r-0 r-0 r-0 r-0 r-0 r-0 r-0 r-0 r-0 r-0 r a a a a a a a a a a a a a a a a a a a M M M M M M M M M M M M M M M M M M M
New House Prices
Source : DoE database, CSO
Price/Earnings
This was not driven by competition 4.5
contributed to tighter credit for households
4 3.5 3 2.5 2
contributed to looser credit for households
Ja n03 Ju l-0 Ja 3 n04 Ju l-0 Ja 4 n05 Ju l-0 Ja 5 n06 Ju l-0 Ja 6 n07 Ju l-0 Ja 7 n08 Ju l-0 Ja 8 n09 Ju l-0 Ja 9 n10
1.5
Ireland - Competition
Ireland - Prospects
Source : Central Bank Credit Survey, ECB Herfindahl Index
Ireland - LTV
Which was no worse than elsewhere 1.4 1.3 1.2 1.1 1 0.9 0.8 0.7 0.6
Relative to euro irish standards contributed to tighter credit for households
Relative to euro irish standards contributed to looser credit for households
05 -05 -05 -06 -06 -06 -07 -07 -07 -08 -08 -08 -09 -09 -09 -10 n ay ep an ay ep an ay ep an ay ep an ay ep an a J J J J J J M S M S M S M S M S Competition
Prospects
LTV
Source : Central Bank Credit Survey, ECB Herfindahl Index
H Index
Or concentration…? 1.4 1.3
Irish banks more concentrated (less competition) than EU5
1.2 1.1 1 0.9 0.8 0.7
Irish banks less concentrated (more competition) than EU5
0.6 0.5 97 98 99 00 01 02 03 04 05 06 07 08 c c c c c c c c c c c c e e e e e e e e e e e e D D D D D D D D D D D D
Source : ECB Herfindahl Index, ratio of Ireland to “big5” ;
General consensus 1.
House prices are significantly determined by credit availability ; “inflation is always and everywhere a monetary phenomena”…this we lost sight of This is a function in the first instance of the supply of credit and the ability to pass this through Easy money …”
2. 3. •
4.
Effectively the Irish economy segued from one driven by competitiveness in the 1990s to one driven by a credit fuelled bubble in the 2000s” (Kelly “the irish credit bubble” 2009)
Lax regulation – –
“In addition to ignoring, or even condoning, fraudulent accounting, the financial regulator made strategic errors in not responding to the build-up of systemic risk to the banking system” (Flavin et al 2010) “Irish problems relate to a very old-fashioned credit boom and not to financial innovation. The failure was one of insufficient scepticism on the part of the Regulator.” (Honohan 2009)
Context Now • Banks – – Bankrupt beyond redemption if had to take losses on the chin – Losses could be as high as 50-60% of transferred value based on commercial court cases and property drops
• NAMA – – – –
Maybe the EU will save us from worst overpricing The crash is over! : Nov 30 2009 Judgement Day NAMA magic beans , sorry bonds still unclear. Micawbernomics rules…
What to expect • This time / Ireland is NOT different – many other countries have had banking + fiscal crises • A good starting point to what we can expect is to look at studies of systemic banking crises
IMF Analyses show the way forward • “Banking crises are also often preceded by credit booms,” • “Fiscal costs, net of recoveries, associated with crisis management can be substantial, averaging about 13.3 % GDP on average, and can be as high as 55.1 % GDP. Recoveries of fiscal outlays vary widely as well, with the average recovery rate reaching 18.2 percent of gross fiscal costs. While countries that used asset management companies seem to achieve slightly higher recovery rates, the correlation is very small, at about 10 percent” • “The effectiveness of government-run AMCs has been quite mixed: better where the assets to be disposed have been primarily real estate, less good where loans to large politically-connected firms dominated” • “Nonperforming loans tend to be high during the onset of a banking crisis, running as high as 75 percent of total loans and averaging about 25 percent of loan”. • “Crisis-affected countries often suffer from weak legal institutions, rendering a speedy resolution of distressed assets hard to accomplish”
• “. blanket guarantees are used in 29 percent of crisis episodes….they tend to be in place for a long period as well, about 53 months on average… Laeven and Valencia (2008) … find that they are often successful in the sense that they restore depositor confidence. However, they also find that outflows by foreign creditors are virtually unresponsive to the announcement of such guarantees, despite of being covered in most cases. Regarding the fiscal cost of using guarantees, they find that such guarantees tend to be costly” - median cost is 30% GDP • “On average, the net recapitalization cost to the government (after deducting recovery proceeds from the sale of assets) amounts to 6.0 percent of GDP across crisis countries in the sample, though in the case of Indonesia it reaches as high as 37.3 percent of GDP”. •
Working Paper 08/224 Systemic Banking Crises: A New Database
• “Severe regulatory measures increase both the likelihood of recovery and its duration while weak measures are insignificant.” IMF WP10/27 Recovery Determinants of Distressed Banks: Regulators, Market Discipline, or the Environment? • “Our findings raise the question of why crisis response policies that are risky for taxpayers might also be costly to the economy. One possibility is that readiness to deploy fiscal resources may hinder private efforts to carry out financial sector restructuring, thereby delaying crisis resolution. Also, these measures may give politicians too much influence over credit allocation, causing scarce financial resources to be channeled to politically favored enterprises or sectors, and thereby undermining efficient economic restructuring “ IMF WP 10/27 Responding to Banking Crises: Lessons from Cross-Country Evidence
What do we have? • Banks – – – – –
Asset divestitures (hollowing out) Financial engineering (swapping T2 for T1) Margin squeezing and revenue generation Entrenchment and consolidation Persistent unwillingness to face reality
• Govt – Maximal unwillingness of Govt to recap – Incrementialism 11b to get 100% of worthless bank, 15% of 2b bank, 0% of 1.5b bank…. – Persistent unwillingness to face reality
AIB AIB INBS
Bank of Ire