Wednesday, February 9, 2011

How Much Capital Does It Take to Save the Irish Banking System?

The Irish Independent reports that the final cost to bailout the Irish banking system might jump considerably.  In this case, the government-appointed chairman of a nationalized bank says that the Irish Central Bank and the government are dramatically underestimating what it will take.

As regular readers of this blog know, your humble blogger believes that all governments should adhere to the FDR Framework when it comes to their relationship with the financial markets.  Under the FDR Framework, governments

  • Should provide all market participants with access to all useful, relevant information in an appropriate, timely manner
  • Should not endorse a specific investment
In the case of the Irish government and its central bank, they have violated both aspects of the framework.

They are not providing all market participants with access to current asset-level information for the entire banking system.  Therefore, there is no data for market participants to analyze and determine what the cost of recapitalizing the system might be.

Rather, there are guesses thrown out as to the final cost of cleaning up the banking system.  Some, like the one in this article, are presumably based on better information because they have limited access to current asset-level information.

The government is also effectively endorsing investment by providing their estimate of the final cost of cleaning up the banking system. All this does is destroys credibility as the final cost of cleaning up the banking system is not something that the government or the central bank controls.

Your humble blogger is not saying that one party or the other in this debate over the final cost of the bailout is right.  Your humble blogger is focusing on the fact that each party has access to different information.  None of this information is available to the market.  As a result, the market does not know who is right.  [emphasis added]
Ireland will have to go to the IMF/EU for another €15bn -- on top of the €35bn already earmarked -- to save the banking system, the government-appointed chairman of Anglo Irish Bank warned last night. 
In a bombshell revelation, Alan Dukes said we will need 40pc more, or €50bn, to properly clean up the banks. 
The former finance minister also sensationally suggested €75bn would be needed to fund the existing NAMA operation and a so-called 'NAMA 2' to take more bad loans from the banks. 
His claims sparked a furious rejection from the Department of Finance who said that Central Bank Governor Dr Patrick Honohan had pinpointed a much lower figure. 
If Mr Dukes's assessment is true, it would mean taxpayers would have to foot interest on another major loan which would almost inevitably lead to even more stringent Budgets. 
The row ... also came as:
  • The Government ordered the sale of deposits at Anglo and Irish Nationwide by auction, effectively winding down these institutions.
  • Anglo revealed the largest loss in Irish banking -- at €17.6bn for 2010.
  • Job losses were confirmed at both Irish Nationwide and Anglo Irish.
  • Markets grew nervous after Finance Minister Brian Lenihan made remarks about some senior bondholders sharing the burden of the banking crisis.
Mr Dukes spoke bluntly of the grim outlook at a business conference in Cork: "A clean banking core will require somewhere in the region €50bn of new capital. Currently, Irish banks are unable to raise capital at this level from the markets. 
"The necessary capital must therefore come from Government, EU, IMF or other external sources,'' he added. 
He also said it was time for the outgoing government to sit down and discuss the banking crisis with the parties most likely to form the next government. 
... Earlier yesterday the High Court approved an order to sell off the €14bn deposit books of Anglo Irish Bank and Irish Nationwide and wind-down the two institutions. 
The Government has already been sounding out potential buyers for the deposit books, and sent confidential letters to several banks last week.
The Department of Finance is hoping a buyer for the deposits will be secured within the next fortnight. 
Once the deposits have been stripped out of Anglo and Nationwide, the institutions' remaining loan books will be merged into a new bank. 
The Irish Independent has learned the new bank will be able to hold some deposits and carry out some lending, but only on a very "limited" scale.

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