Significance of 'bad bank' as a liquidity boost often overlooked

Nama will in effect be a kind of quantitative easing, writes SIMON CARSWELL, Finance Correspondent

WHILE MUCH of the public focus on the Nama “bad bank” has centred on the toxic loans to be acquired from the guaranteed lenders, the clean-up plan will inject tens of billions of euro into the Irish banking system and provide an economic stimulus.

The guaranteed banks and building societies will sell their soured property development and associated loans by way of Government bonds, which the institutions can then use to draw cash from the European Central Bank (ECB).

One senior banker pointed to the significance of Nama as “a liquidity event” rather than as a bank cleansing exercise, saying that the massive injection of cash will benefit the funding positions of the banks as well as alleviating the pressure on their capital.

Other senior executives, including Bank of Ireland chief executive Richie Boucher and, speaking at an Oireachtas committee earlier this week, Anglo Irish Bank executive chairman Donal O’Connor, have pointed to the significant benefits of Nama to bank liquidity and funding.

O’Connor said Anglo’s balance sheet would be reduced and capital improved “at a stroke”, and this would help ease uncertainty.

However, the transfer of troubled bank loans to Nama and the securing of Government bonds which can be exchanged for ECB cash will also increase the banking sector’s already heavy reliance on the Frankfurt-based central bank.

Irish bank borrowing from the ECB has surged in the past year, spiking after the collapse of Lehman Brothers last September and again between February and March of this year when the institutions shed large volumes of corporate deposits, forcing them to turn to the central bank to stay afloat.

According to Central Bank statistics updated this week, ECB borrowing by institutions in Ireland, which include some foreign and IFSC-based banks, rose to €118 billion at the end of last month. This was down slightly from a peak of €120.6 billion in March, but compares with €88 billion in January and €43 billion last August.

Even assuming that the banks take a 15 per cent discount on the loans going to Nama, this would lead to the issuing of Government bonds worth €76 billion and the ECB in turn issuing tens of billions of euro more to the Irish banks.

This, in effect, amounts to a form of quantitative easing to stimulate economic growth and this is essentially a means by which the Government, through the ECB, can print money to grease the wheels of the financial system and keep the banks viable and capable of maintaining some degree of credit growth into the economy.

Given its significant benefits to the funding of the institutions, the Nama plan poses problems for the non-guaranteed Irish banks operating within the system which will have to cope with a sharp injection of funding into their rival lenders.

The EU will undoubtedly monitor closely for competition issues.