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In Ireland, Dire Echoes Of a Bailout Gone Awry In Ireland, Dire Echoes of a Bailout Gone Awry
(about 3 hours later)
The Irish bank bailout in the fall of 2008 was the first one to hit a euro zone country during the credit crisis, and it set some unfortunate precedents.The Irish bank bailout in the fall of 2008 was the first one to hit a euro zone country during the credit crisis, and it set some unfortunate precedents.
Now we learn that it was based in no small part on manipulative lies by venal bankers.Now we learn that it was based in no small part on manipulative lies by venal bankers.
The leak of audiotapes of phone conversations between top officials of Anglo Irish Bank, which was by far the worst of a very bad lot, has stunned Ireland and damaged its relations with Germany.The leak of audiotapes of phone conversations between top officials of Anglo Irish Bank, which was by far the worst of a very bad lot, has stunned Ireland and damaged its relations with Germany.
It now appears that the bank lied to Irish officials about how much trouble it was in when the government, at the end of September 2008, guaranteed all the bank’s liabilities.It now appears that the bank lied to Irish officials about how much trouble it was in when the government, at the end of September 2008, guaranteed all the bank’s liabilities.
On one tape, John Bowe, Anglo Irish’s director of the treasury, conceded that he had no rational basis for telling the government that 7 billion euros was all it would take to rescue the bank.On one tape, John Bowe, Anglo Irish’s director of the treasury, conceded that he had no rational basis for telling the government that 7 billion euros was all it would take to rescue the bank.
“If they saw the enormity of it up front, they might decide, they might decide they have a choice,” he said to his colleagues in a tape disclosed by The Irish Independent. “They might say the cost to the taxpayer is too high.”“If they saw the enormity of it up front, they might decide, they might decide they have a choice,” he said to his colleagues in a tape disclosed by The Irish Independent. “They might say the cost to the taxpayer is too high.”
It was important for the problem to look “big enough to be important, but not too big that it kind of spoils everything.”It was important for the problem to look “big enough to be important, but not too big that it kind of spoils everything.”
The problem certainly did “spoil everything” and continues to do so. The Anglo Irish bailout turned out to cost tens of billions of euros from Irish taxpayers and the European Union. Had Irish officials acted more wisely then, the country would still be in bad shape now, but the cost to the government would be much lower. There probably would have been less need for the continuing austerity that has, once again, caused Ireland to lapse into recession.The problem certainly did “spoil everything” and continues to do so. The Anglo Irish bailout turned out to cost tens of billions of euros from Irish taxpayers and the European Union. Had Irish officials acted more wisely then, the country would still be in bad shape now, but the cost to the government would be much lower. There probably would have been less need for the continuing austerity that has, once again, caused Ireland to lapse into recession.
But by then, the basic problem had been created. Ireland had inflated a property bubble far greater than the American one, and losses were going to be immense when prices collapsed. Regulators were clueless, or worse, about what was actually happening. There seems to have been no one in the government who was truly familiar with the bank. Outside experts were called in, but it is not easy during a crisis to evaluate something from scratch.But by then, the basic problem had been created. Ireland had inflated a property bubble far greater than the American one, and losses were going to be immense when prices collapsed. Regulators were clueless, or worse, about what was actually happening. There seems to have been no one in the government who was truly familiar with the bank. Outside experts were called in, but it is not easy during a crisis to evaluate something from scratch.
At the time, however, it was easy to think that the situation was not as bad as it turned out to be. Irish real estate prices had not collapsed — that would come soon — and it seemed possible that the problems affecting Irish banks, particularly Anglo Irish, were temporary.At the time, however, it was easy to think that the situation was not as bad as it turned out to be. Irish real estate prices had not collapsed — that would come soon — and it seemed possible that the problems affecting Irish banks, particularly Anglo Irish, were temporary.
The word was liquidity. If that was the only problem a bank had — if there was a temporary difficulty in raising money to reassure depositors but the underlying loans were solid — then a bailout could work with little or no long-term cost. But if the real problem was one of solvency, a bailout risked throwing good money after bad.The word was liquidity. If that was the only problem a bank had — if there was a temporary difficulty in raising money to reassure depositors but the underlying loans were solid — then a bailout could work with little or no long-term cost. But if the real problem was one of solvency, a bailout risked throwing good money after bad.
Two weeks before the Irish bank guarantee, the financial world was shaken by the collapse of Lehman Brothers in the United States. It showed that large financial institutions were interconnected in ways that no one had really considered before and quickly led to a consensus that the American government had erred in not somehow keeping Lehman afloat.Two weeks before the Irish bank guarantee, the financial world was shaken by the collapse of Lehman Brothers in the United States. It showed that large financial institutions were interconnected in ways that no one had really considered before and quickly led to a consensus that the American government had erred in not somehow keeping Lehman afloat.
We now know that Lehman was broke, but at the time it appeared to have ample capital. What was missing, one leading American regulator assured me at the time, was a requirement that the bank retain sufficient liquidity to deal with a panic.We now know that Lehman was broke, but at the time it appeared to have ample capital. What was missing, one leading American regulator assured me at the time, was a requirement that the bank retain sufficient liquidity to deal with a panic.
In that atmosphere, it may be understandable that Irish officials fell for the tempting story that there was no real problem, just a bit of unfounded panic. But once they did, the power shifted to the bankers. The tapes show that the bankers were furious about government delays in releasing money once the guarantee was offered.In that atmosphere, it may be understandable that Irish officials fell for the tempting story that there was no real problem, just a bit of unfounded panic. But once they did, the power shifted to the bankers. The tapes show that the bankers were furious about government delays in releasing money once the guarantee was offered.
“You’re putting the government at risk with your delays,” said David Drumm, Anglo Irish’s chief executive, in discussing what he would say to officials at a meeting. Talk of due diligence was ridiculous. Ireland had told the world “we’re all solvent.” Now, it should simply write “a two or three billion check and get on with it.”“You’re putting the government at risk with your delays,” said David Drumm, Anglo Irish’s chief executive, in discussing what he would say to officials at a meeting. Talk of due diligence was ridiculous. Ireland had told the world “we’re all solvent.” Now, it should simply write “a two or three billion check and get on with it.”
He described such a check as “very small.” Relative to the ultimate cost, he was right.He described such a check as “very small.” Relative to the ultimate cost, he was right.
With the guarantee in place, Anglo Irish felt comfortable seeking deposits across Europe. After all, it was guaranteed by the government of Ireland, rated AAA at the time. Who cared if that upset German officials angry that their banks would have to pay more to keep deposits? Mr. Drumm laughed when Mr. Bowe began singing “Deutschland über Alles.”With the guarantee in place, Anglo Irish felt comfortable seeking deposits across Europe. After all, it was guaranteed by the government of Ireland, rated AAA at the time. Who cared if that upset German officials angry that their banks would have to pay more to keep deposits? Mr. Drumm laughed when Mr. Bowe began singing “Deutschland über Alles.”
“This plays into all the German concerns about moral hazard, that they have been taken for a ride by these people,” Jacob Funk Kirkegaard of the Peterson Institute for International Economics in Washington said this week. “Stealth fiscal transfers to Ireland will not be politically possible in Germany unless this results in jail time for some of these people.”“This plays into all the German concerns about moral hazard, that they have been taken for a ride by these people,” Jacob Funk Kirkegaard of the Peterson Institute for International Economics in Washington said this week. “Stealth fiscal transfers to Ireland will not be politically possible in Germany unless this results in jail time for some of these people.”
There is plenty of sentiment in Ireland to provide such jail time. Patrick Honohan, the governor of the Irish central bank, called for a criminal investigation.There is plenty of sentiment in Ireland to provide such jail time. Patrick Honohan, the governor of the Irish central bank, called for a criminal investigation.
“This is new,” he said of the leaked tapes that indicated “Anglo Irish Bank was deliberately misrepresenting” its financial position.“This is new,” he said of the leaked tapes that indicated “Anglo Irish Bank was deliberately misrepresenting” its financial position.
It seems likely that investigation will extend to other banks, with searches for any internal memos or tapes that might indicate that other bankers were also dissembling. Mr. Kirkegaard suggested it could amount to an Irish “truth and reconciliation commission.”It seems likely that investigation will extend to other banks, with searches for any internal memos or tapes that might indicate that other bankers were also dissembling. Mr. Kirkegaard suggested it could amount to an Irish “truth and reconciliation commission.”
Whatever such an investigation may or may not discover, we have learned a few things about how to do bank bailouts, since Ireland got it so wrong.Whatever such an investigation may or may not discover, we have learned a few things about how to do bank bailouts, since Ireland got it so wrong.
First, save only those whose failure would have disastrous consequences for the country. Anglo Irish had virtually no retail banking presence. It had lent primarily to real estate developers, using money it raised overseas. Letting its bondholders take the medicine, and even its uninsured depositors, would have spread the losses to foreigners rather than taxpayers.First, save only those whose failure would have disastrous consequences for the country. Anglo Irish had virtually no retail banking presence. It had lent primarily to real estate developers, using money it raised overseas. Letting its bondholders take the medicine, and even its uninsured depositors, would have spread the losses to foreigners rather than taxpayers.
Beware of the quick fix. Ireland thought the bank guarantee would halt a run rather than cost it a lot of money. When large banks failed in the United States, the first instinct was to save them by arranging a takeover. That avoided immediate investor losses, but at the cost of damaging the acquirers and, in the process, making “too big to fail” banks even bigger.Beware of the quick fix. Ireland thought the bank guarantee would halt a run rather than cost it a lot of money. When large banks failed in the United States, the first instinct was to save them by arranging a takeover. That avoided immediate investor losses, but at the cost of damaging the acquirers and, in the process, making “too big to fail” banks even bigger.
Try to use the industry’s expertise in dealing with problems by making everybody share the pain. Cornelia Woll, a German political scientist at Sciences Po in Paris, has studied the Irish and Danish bank crises that came after property bubbles. She said one reason the Danes did better was that the other banks were dragged in — banks that would have been aware of the games the troubled banks were playing.Try to use the industry’s expertise in dealing with problems by making everybody share the pain. Cornelia Woll, a German political scientist at Sciences Po in Paris, has studied the Irish and Danish bank crises that came after property bubbles. She said one reason the Danes did better was that the other banks were dragged in — banks that would have been aware of the games the troubled banks were playing.
Minimize the number of institutions whose failure would matter and subject them to tougher regulation. So far this year, 16 American banks have failed, with minimal public attention. If the regulators blow it at a small bank, the country is not in trouble. If they blow it at a large one, the story could be much different.Minimize the number of institutions whose failure would matter and subject them to tougher regulation. So far this year, 16 American banks have failed, with minimal public attention. If the regulators blow it at a small bank, the country is not in trouble. If they blow it at a large one, the story could be much different.
This week, American bank regulators approved capital rules that were a little weaker than originally planned, at least for banks that are not too big to fail. Smaller banks can continue to use some accounting gimmickry to make themselves look better than they really are, and they can continue to count as capital some dodgy securities known as trust preferred, which are designed to look like tax-deductible debt to tax collectors and like secure capital equity to bank regulators. At least no more such securities are to be issued.This week, American bank regulators approved capital rules that were a little weaker than originally planned, at least for banks that are not too big to fail. Smaller banks can continue to use some accounting gimmickry to make themselves look better than they really are, and they can continue to count as capital some dodgy securities known as trust preferred, which are designed to look like tax-deductible debt to tax collectors and like secure capital equity to bank regulators. At least no more such securities are to be issued.
It is perhaps regrettable that the regulators caved in response to the intensive lobbying of community banks, which ran out the usual threats of being unable to lend if they had to follow the rules that had been proposed. The result may be that some banks will fail that could have been saved with better rules.It is perhaps regrettable that the regulators caved in response to the intensive lobbying of community banks, which ran out the usual threats of being unable to lend if they had to follow the rules that had been proposed. The result may be that some banks will fail that could have been saved with better rules.
But it is far more important for the regulators to show spine when dealing with the big banks, and it appears they are doing that. Those banks should have to hold more capital, and they will. The Dodd-Frank law calls for banks to prepare plans to allow them to close without infecting the rest of the industry, but there is no way to be sure they will work until they are tried.But it is far more important for the regulators to show spine when dealing with the big banks, and it appears they are doing that. Those banks should have to hold more capital, and they will. The Dodd-Frank law calls for banks to prepare plans to allow them to close without infecting the rest of the industry, but there is no way to be sure they will work until they are tried.
In 2008, many regulators were afraid to force bank investors to take losses, worrying that such an example might prompt them to abandon other banks and create unnecessary failures. That decision may have been justified then, but by now every investor should understand that nothing — except insured deposits — is sure to be protected.In 2008, many regulators were afraid to force bank investors to take losses, worrying that such an example might prompt them to abandon other banks and create unnecessary failures. That decision may have been justified then, but by now every investor should understand that nothing — except insured deposits — is sure to be protected.
As I listened to the Irish tapes, what stood out the most was the sheer arrogance of bankers who felt no shame that their imprudent lending had created a crisis. If we could listen to similar tapes at other banks in other countries, would there be any real difference?As I listened to the Irish tapes, what stood out the most was the sheer arrogance of bankers who felt no shame that their imprudent lending had created a crisis. If we could listen to similar tapes at other banks in other countries, would there be any real difference?

Floyd Norris comments on finance and the economy at nytimes.com/economix.

Floyd Norris comments on finance and the economy at nytimes.com/economix.