The justification for Lenihan’s ruinous guarantee of both bank deposits and senior bondholders was partly a legal one. Irish law, like UK law, makes it hard to favour depositors ahead of bondholders; so FDIC-style resolutions aren’t an option. One might object that laws can be changed by sovereign governments, but the other justification was political: big haircuts would have transferred losses to the UK and Eurozone financial systems.
The political objections to a haircut have diminished, or rather, the futility of trying to avoid one has become evident, as the monstrous scale of the resulting problem for the Irish sovereign has become more and more obvious to all over the past year or so. Now the outgoing Irish government has cobbled together a mechanism by which some bondholders could be haircut:
Stockbrokers are this weekend warning senior bondholders in Anglo Irish and Irish Nationwide to brace themselves for writedowns after the government moved to sell off the banks’ €14bn deposit book last week.
Fine Gael’s Michael Noonan, the man most likely to be the next finance minister, gave a strong indication yesterday that once the deposits are removed, reductions of some sort are likely, but only with agreement from Ireland’s EU partners.
“Deposits and senior debt rank equal in creditor status, so you can’t haircut senior debt without haircutting depositors,” said Donal O’Mahony, global strategist for Davy.
“However, if a bank’s balance sheet is restructured so that depositors and senior debt holders are separated, such as through a deposit book disposal, then senior debt is left on its own at the top of the balance sheet — and is vulnerable to politicians’ errant ways.”
Well, errant ways or belated realism, take your pick. One wonders how much of the EUR14Bn were Anglo liabilities – you’d think those depositors would have long since panicked and fled.
Over in mainland Europe, they can see which way the wind is blowing: the Irish corporation tax rate, (reluctantly) assented to by Europe back in December once the ‘no haircut’ commitment had been reaffirmed by the Irish Government, is now being bickered over again. It’s pretty obvious that a haircut is coming. According to the Irish broking firm, Goodbody, via FT Alphaville, there’s about EUR21Bn of unsecured debt that could be haircut. Yet it’s hard to see how even (a highly improbable) total wipeout of EUR21Bn would help all that much. As well as the EUR150Bn of toxic debt they’ve gradually been owning up to, Irish domestic banks had suffered about EUR19Bn of deposit run by the end of the year:
Because we don’t have a breakdown between deposits at the six State-guaranteed institutions and the other 14 institutions serving the local economy, we probably can’t get at the information most people want. But I would suggest that the next best indicator is the private sector deposits held at the 20 domestic institutions which fell by €19bn in 2010 and €3bn in December to leave a year end balance of €157bn.
By the way, Ambrose’s scary EUR110Bn of deposit flight during 2010 is for all financial institutions in Ireland, most of which (foreign subs) are not part of the Irish Government’s funding problem, though the scale and acceleration of the flight certainly illustrates the loss of confidence. More and more convoluted means are being employed to paper over the domestic cracks: lots (EUR130Bn?) of ECB support of course, but also some very dodgy looking self-issuance:
Alas, it seems that alternative funding has in fact increased by €14bn with banks “self-issuing” debt to themselves and converting it to liquidity at the ECB.
The numbers just keep getting bigger, in a way that makes you wonder just how much determination is going to be required of the ECB. Namawinelake again (he manages to keep track of both the murky finagling and the bigger picture, somehow: a star):
There is only a finite amount of funding in Irish banks that will need continuing ECB and CBI support for replacement should it “flee”, but at €429bn in the 20 domestic banks, are the ECB/CBI’s pockets deep enough?
As for the total sovereign liability that is brewing up behind all this, Namawinelake also has some handy rough workings, in a comment to one of his own posts:
The real question is what will happen with ECB operations that see €100bn in our banks at present, how long can this emergency funding continue (it started in Sept 2008 in earnest) and will part of that end up on the national debt? So general govt debt of €148bn in 2010 + €43bn deficit 2011-2014 + additional capital for banks (€35bn earmarked of which €25bn is described as a contingency) + debt redemption nil (rollover) + NAMA €45bn (€40bn bonds including pyt for sub-€20m exposures and €5bn development debt) + swapping of ECB/CBI ELA for national debt x,
So €271bn + x for ECB/CBI ELA swap for general government debt
Obviously NAMA will have some value as will ELA and we start off with some funds in the NTMA/NPRF so the net will be less than that , but I would have said €220bn as a rough ballpark.
That’s a 50% increase in the Irish debt by 2014; comfortably the wrong side of the event horizon. Goodbody, via FT Alphaville, has this to say about that drop-in-the-ocean EUR21Bn that might be haircut:
As a rule of thumb, every 10% haircut on the unguaranteed, unsecured bank debt is equivalant to 1.3% of GDP. We would note that the longer the process goes on, the less incentive there is to burden share with senior, unsecured, unguaranteed bank debt holders. Time is of the essence.
Well, the Irish government had a couple of years to sort out something better. It’s far too late now, and the bailout is going to be retraded, with the usual Eurotheatrics, soon.