ANALYSIS: Focus must be on the core operations and a reliance once again on traditional deposits
BUILDING A banking system from scratch is no easy task. Before considering how to deal with the banks, Government and regulatory officials first looked at what size the system should be to service the economy.
They worked from the bottom up. Banks start life by raising deposits, not by selling loans, so the officials began with €157 billion, the amount of Irish deposits in the system at the end of 2010.
During the boom, Irish bank loans exceeded deposits by an unsustainable 80 per cent.
Following the global financial crisis, banks must once again rely on traditional deposits – and in particular on the retail and long-term deposits which are regarded as stickier – to fund their lending.
The norm is for loans to be 22.5 per cent in excess of deposits; the Central Bank target for its liquidity stress test to assess just how out of kilter the Irish banks were. Using this as a blueprint, it was estimated that the banks’ loans should be capped at €192 billion.
Interestingly, this is higher than the €177 billion of domestic loans at the four “live” banks, AIB, Bank of Ireland, Irish Life and Permanent and EBS. They have another €105 billion in non-Irish loans.
Minister for Finance Michael Noonan argued Irish bankers were “as likely to be funding apartment blocks on the Black Sea or dabbling in property schemes in Singapore, as they were to be investing in the Irish economy”. He said the banks must become focused on their core operations.
Fergus Murphy, chief executive of EBS, said yesterday banking was returning to “a community ethos” and “a more stable background”. “Banks around the world and in Ireland too forgot what our purpose is,” he said.
The Central Bank took the target loans figure of €192 billion and applied it to the four banks. Their loan books totalled €255 billion, so this meant that they had to offload €72.6 billion.
This is the so-called “deleveraging” target that they must meet by 2013 so as to wean themselves off emergency central bank funding of about €100 billion.
The Government believes the best way to restructure the banking system is around two big banks which offer a full service to customers – the opposite to the monoline or niche banks like property lender, Anglo Irish Bank.
Officials felt that Bank of Ireland, regarded as the “least worst” bank in the Irish system, had a strong franchise and should be left as untouched as possible.
The bank will be the first pillar of the new banking system, while AIB will swallow up EBS building society to form the second pillar.
The Government believes the foreign-owned banks such as Ulster Bank and National Irish Bank can form a further “pillar” to create competition.
The two main banks will be split into core and non-core businesses, with the non-core businesses taking the excess loans so they can be run down.
Bank of Ireland must offload €32.6 billion and the combined AIB-EBS €24.3 billion by 2013.
Irish Life and Permanent sits in a different space. Pensions and investments business Irish Life will be sold off but its bank, Permanent TSB, will be left separate. The bank has a large capital hole to fill and €15.7 billion in loans to offload to correct itself.
But it is also lumbered with loss-making tracker mortgages, accounting for 60 per cent of loans. Forcing it into another bank, before it is fixed, could cause problems for the acquiring institution. The shrinking of the banking system will inevitably mean significant job losses. Two main banks don’t need the existing 716 branches and 32,000 staff to service the banking needs of four million people.