Taxpayer facing €50bn bill for saving banking system

 

TWO YEARS after the Government first stepped in to guarantee the Republic’s banks’ liabilities to lenders and deposit holders, the taxpayer is facing a bill of up to €50 billion for saving the financial system.

Anglo Irish Bank will determine the final amount. The State took it over in January 2009 as it was effectively insolvent and there were growing concerns about the fact that it had disguised the lending of large sums to directors, including former chairman Seán FitzPatrick.

It is now planned to split Anglo into a funding or “good” bank and an asset-recovery or “bad” bank and wind it down over time. The Central Bank said yesterday that in a worst-case scenario this will cost €34.3 billion. If it were to reach that figure, the total bill for saving the overall system will be €50 billion.

In a best-case scenario, the Central Bank predicts Anglo will cost €29.3 billion, which will leave the taxpayer with a bill of €45 billion for the system as a whole.

The total bill includes €15.7 billion to prop up four other institutions: AIB and Bank of Ireland and two mutuals, Irish Nationwide Building Society and the EBS.

AIB will receive a total of €6.5 billion and the Government will get effective control of the bank in return. Bank of Ireland has already been given €3.5 billion and does not need any more. Irish Nationwide will get €5.4 billion and the EBS €350 million.

The State’s National Pension Reserve Fund (NPRF) is providing this money in return for stakes in all four. The Government regards this as an investment and expects a return. So the net final loss to the taxpayer will be €34.3 billion at worst and €29.3 billion at best.

The Central Bank explained yesterday that the performance of the Irish commercial property market will ultimately determine the size of this loss.

The best-case assumes that values will fall to 30 per cent of the peak that they reached at the beginning of 2007, but recover to 57 per cent of the peak by 2020.

The worst-case assumes that values fall to 35 per cent of the same peak and stay at that level for the next 10 years.

Property, and particularly commercial property, lies at the heart of the crisis. From the early years of the last decade, the banks fuelled a credit boom by lending large amounts of money to developers, which in turn inflated prices and created a bubble.

Anglo Irish led the way but the other four banks began competing with it, further inflating the bubble. But property prices began falling in 2007. Two years ago, the banks were in crisis. The money that they had lent was secured against properties whose values had collapsed. This damaged their balance sheets, threatening their solvency. Nervous investors then sold their shares, further hitting their ability to raise capital. At the same time, big commercial depositors began to move funds out of Irish banks.

On September 30th, 2008, the Government guaranteed deposits in the five banks and some of the debts that they owed to international investors for two years.

The following April, it announced the establishment of Nama, a State agency that would buy the banks’ property-related loans at a discount, allowing them to clean up their balance sheets.

The Government originally predicted that the discount would be about 30 per cent, and said it would provide funds directly to the banks to allow them fully repair their balance sheets, raise money and begin lending again.

Once Nama began taking over the loans last March, it emerged that the banks had misled the State about the full extent of their problems and the discounts were closer to 50 per cent.

At the same time, new rules increased the amount of capital banks had to hold. This meant that the State had to provide them with more direct aid. As the State had effectively taken over the banks’ liabilities, the uncertainty about the final cost meant that investors who lend money to the Government began to question its ability to repay those debts.

Over recent weeks, they began to increase the interest that they charge on Irish Government bonds. The yield on those instruments rose past 6 per cent in September, a record level, and has stayed there since.

The State has issued €20 billion worth of bonds this year. Yesterday Minister for Finance Brian Lenihan said that the Republic was “fully funded” up to next June.

As a result, the Government is not going to return to the bond markets for another three months. It hopes that this will give it enough time to clear up the uncertainty around the State’s future finances, and that the interest charged on Government debt will have fallen to more reasonable levels.