What has the Central Bank been up to?

There is an awful lot of property related lending masquerading as loans to SMEs

UCD economist  Morgan Kelly’s latest warnings about the state of the SME sector have, for obvious reasons. Photo: Don MacMonagle

UCD economist Morgan Kelly’s latest warnings about the state of the SME sector have, for obvious reasons. Photo: Don MacMonagle

Tue, Mar 18, 2014, 12:31

Sometimes things are very simple. Morgan Kelly’s latest warnings about the state of the SME sector have, for obvious reasons, been taken very seriously. They essentially consist of two parts. First, there is an awful lot of property related lending masquerading as loans to small businesses. Loans that should have provided funds for working and investment capital, not to buy the field next door. Second, if banks were to recognise those loans properly, we would have a second crisis on our hands.

We might debate the size of the problem but this would be a minor quibble. We might also point out that all of this has been known, in a general way, for some time. But the bigger question is focused on just why nobody has ever drawn much attention to the issue before now. In particular, what has the Central Bank been up to?

A cynic might think that a game of bait and switch has been involved: our attention has been focused on a bad debt problem, household mortgages, which has taken a very long time to even begin to be resolved. All the while the Central Bank has been moaning about how slow the banks have been to deal with the mortgage issue. With no movement on personal sector debt, there hasn’t been much interest - until now at least - in looking at other unresolved issues, albeit ones that are potentially just as lethal, in the corporate sector.

The Central Bank’s role in all of this is a bit of a mystery. If they wanted the banks to do something, why didn’t they just get them to do it? The lack of response to continuous Central Bank prodding suggests a number of possibilities. Maybe the banks felt empowered to ignore the authorities. Perhaps the prodding was half hearted - if one problem was to be cleared up it would have thrown the focus onto the SMEs. The only time a regulator will force a bank to recognise bad debts is when all are agreed there is sufficient capital to cover those write-offs. Despite protestations to the contrary, there may have been private fears about capital adequacy. Of course, we just don’t know.

This lack of transparency has been infuriating to many. And it inevitably leads to conspiracy theories. It is, of course, a wider European problem: nobody thinks that the upcoming ECB capital adequacy tests are going to come up with too many surprises. Comparisons with the pre-ordained Kiev referendum might be a bit over the top but they do have a point. We do know the answer to the question.

After all this time the banks are still a mess. And nobody has the appetite to do much about it. These are the conclusions that, in the absence of evidence to the contrary, we can have confidence in. Even the attempts to come up with a solution to future banking crises are foundering: the creation of a new resolution mechanism to deal with the next bank failures is descending into farce. Inevitably, on the issue of who pays. And this for a fund size that couldn’t have dealt with Ireland’s bank-bail out, let alone anything larger. So, we haven’t sorted out the last crisis and are now fighting about the next one.

The current generation of European leaders has decided that a little bit of growth cures everything. The bet is that sticking plaster solutions for current and future banking crises will do. The little bit of growth that we observe in the European economy will be enough to keep things together. And will last long enough such that if it all does blow up again, it will be somebody else’s problem.

Given the policy paralysis on this broader canvas it is not surprising that out own authorities have been keen to keep their heads down. If Europe wants to long finger it’s banking woes, who are we to disagree?