Wednesday, February 2, 2011

Ireland is Perfect Test Case for Current Asset-Level Data Stopping Bank Runs

The Irish Independent reported today that Irish banks are suffering a modern bank run.
AN unprecedented €40bn of deposits was withdrawn from Irish banks in December, dwarfing the flight in deposits earlier in 2010.
December's massive deposit exodus means a total of almost €110bn has been taken out of Ireland's 15 retail banks since the start of 2010.
The figures are revealed in monthly reports from the Central Bank.
... The most dramatic element of the latest data, however, is the sharp acceleration in the fight of deposits from the so-called 'domestic group' of banks.
In November, the group of 15 banks lost €26.7bn and by December the monthly rate of deposit loss soared to €40.3bn.
Depositors from outside Ireland are withdrawing their cash at the fastest rate, pulling out more than €35bn in December and €91bn in the full-year.
... The depositors have little motivation to keep their funds in Ireland, and many have been spooked into withdrawing money as the credit ratings of Irish banks deteriorated.
As has been discussed on this blog several times (see here, and here), bank runs are about psychology.  In the absence of current asset-level information on which to make an informed judgement, depositors are willing to keep their money in a bank if they believe the bank is solvent.  If solvency becomes an issue, depositors run for cover.

The solution and the way to stop depositors pulling money out of the banks is for the banks to provide current asset-level information.  With this information, credit and equity market analysts can analyze and value the assets and determine which banks are solvent and which are not.  Depositors can also do their own analysis or look to the results from the credit and equity analysts in making their investment decision.

Presumably, after purchasing bad loans from the banks for the last year, the remaining banks should be found to be solvent.

Therefore, announcing that the current asset-level data is going to be made available should slow down, if not stop, the individual bank runs.  The market will give the government the benefit of the doubt that its bad loan removal program has left the banks solvent until the credit and equity market analysts confirm or deny this fact.

Bottom line:  Ireland is the perfect test case given the rapid withdrawal of deposits from its banking system to see if providing current asset-level data will in fact stop bank runs.

No comments: