ANALYSIS: For the economy at large, the danger is that the banks will seek to conserve the new capital in the face of rising bad debts by refusing to lend to businesses, writes ARTHUR BEESLEY.
AT AN upfront cost of €7 billion to taxpayers, the recapitalisation deal for Allied Irish Banks (AIB) and Bank of Ireland (BoI) marks Brian Lenihan’s second attempt in two months to strengthen the fiscal core of the two biggest banks in the State.
The central question now is whether it can restore investor confidence in the banking system or stimulate lending into the ailing economy. On both fronts, the jury is out.
Just as the fallout from the nationalisation of Anglo Irish Bank last month put paid to Lenihan’s original plans for AIB and BoI, new disclosures about Anglo’s efforts to shore up its deposit base before the end of its financial year cast a pall over the Government’s latest recapitalisation initiative.
Anglo lent some €7 billion to Irish Life & Permanent (IL&P), whose Irish Life Investment Managers unit deposited a similar sum with the bank.
The lodgement with Anglo was categorised as a customer deposit – not a short-term interbank deposit, which it was – flattering the bank’s balance sheet at the end of September after a potentially fatal erosion in its deposit base.
Such losses led the Government to consider nationalisation last September, but it chose instead to guarantee the liabilities of the entire banking system for two years. (An extension of the guarantee, at least in respect of bond issues, is now on the cards.)
Although there are conflicting accounts about the role of the Financial Regulator in the IL&P manoeuvre, the impression left is of a concerted effort with the assistance of a rival institution to conceal the full extent of Anglo’s troubles from the public, the market and investors.
In the wake of the scandal over the concealment of directors’ loans at the bank, which was facilitated by Irish Nationwide Building Society, the involvement of a second institution in questionable transactions with Anglo further sullies the standing of the system at large.
This has deep relevance for the recapitalisation of AIB and BoI, a central pillar of which rests on their ability to convince private investors to provide new capital to them this year.
If they can raise €1.5 billion each from private investors, the 25 per cent stake in the ordinary share capital of each bank that the Government stands to receive will be cut to 15 per cent.
Each bank was obliged to raise €1 billion under the terms of the original plan, produced in December. Each failed, largely due to fear of nationalisation after the rescue of Anglo.
Whether they can do so now – given questions over the quality of their loans and questions, following the Anglo affair, about ethical standards in the Irish banking system at large – remains to be seen.
In the backdrop lies a poor set of financial results last week from the Danish owners of National Irish Bank (NIB), whose loan impairments were at a far higher level than those forecast by AIB and BoI. While the big two Irish banks are of far greater scale and diversity than NIB, the clear suspicion now is that their forecasts are far too optimistic and do not adequately reflect the growing threat to loan quality from the rapidly declining economy. There is a clear risk to the taxpayers’ billions here, as their capital is depleted as the banks’ bad debts rise.
Lenihan’s statement commits the Government to “examine proposals for the management and reduction of risks within financial institutions with respect to these specific exposures”.
Although this promise dangles the possibility of a bad bank or insurance scheme, there is no firm initiative at present and it is likely that, in the first instance at least, recapitalisation will proceed without such a backstop.
The Minister says he will carry work on this front “as a matter of priority”.
It is fair to say that private investors will not come forward until he provides clarity.
Having committed to examine the matter, going the distance with respect to protection against a catastrophic increase in “toxic” developer debt may well be the price of increasing the flow of credit to business.
For the economy at large, the danger is the banks will seek to conserve the new capital in the face of rising bad debts by refusing to lend to business.
The recapitalised banks have reconfirmed their December commitment to increase “lending capacity” to small and medium enterprises by 10 per cent and to provide an additional 30 per cent capacity for lending to first time buyers in 2009.
Capacity is one thing, of course. Lending is another.
For months, well-placed sources at very high levels in the Government circle have said Lenihan will be seeking management and board changes in both banks following recapitalisation.
While reports to that effect were never denied, there was no indication from last night’s statement that Lenihan is looking for heads.
Whether the two banks, whose own boards have seen their shares fall by more than 90 per cent, can convince the market that the best people are in place is open to question. Members of the public will make their own minds up.
However, total remuneration for all senior executives in both banks will be cut by “at least” 33 per cent following recapitalisation and no performance bonuses will be paid for these senior executives.
No salary increases will be made in relation to 2008 and 2009 and non-executive directors’ fees will be cut by at least 25 per cent.
The most senior bankers will still be frightfully well paid. Whether this plan can help them steer their ships to calmer waters will be seen in the coming weeks.