Banking inquiry: Burning questions and still little by way of answers on crisis
Sean FitzPatrick's loans, the property bubble, Sean Quinn's stake in Anglo and the €440bn bank guarantee. With a banking inquiry on its way, Joe Brennan and Emmet Oliver pose the 10 queries that must be answered .
1. Were we warned about the property bubble?
In November 2005, an important OECD memo was leaked into the public domain, which said the Paris-based body believed house prices in Ireland were at least 15pc overvalued. While this figure didn't shock most homeowners, the comments recorded in the same memo from the Irish Central Bank did.
The Central Bank didn't seem to have any great problem with the figure itself, but seemed more worried that releasing such a figure could destabilise the whole housing market.
The reaction of the Central Bank seems to suggest that official authorities were more worried about collapsing the property market than cooling it down in an orderly and sensible fashion. While it was never going to be easy to prick a balloon of this scale without some pain, the inquiry needs to find out were alternative steps considered and if not, why not?
Nobody is suggesting that authorities ignored rampant house price inflation during the late 1990s and early part of the decade, but what the inquiry needs to establish is -- could the bubble have been deflated and if so, how?
While warnings from the OECD and the IMF about house price inflation appeared regularly, the private warnings from these bodies are likely to have been even more forceful. What did Irish policy makers say in response? What did their political masters say in response?
Apart from the routine Financial Stability reports from the Central Bank, what other warnings about house prices were passed to the government by civil servants and regulators? Why weren't the warnings heeded and who precisely didn't heed them?
2. Banks flogging their own properties
Any meaningful inquiry will also need to delve into the massive property disposals undertaken by the country's two main banks just a few short years before the property market collapsed.
AIB raised eyebrows in 2005 when it flogged part of its Bankcentre site in Ballsbridge under a €367.7m sale-and-leaseback deal to a group of individuals assembled by the bank's own stockbroking arm, Goodbody.
In 2006, it sold its existing offices on the site to developer Sean Dunne and Hibernian Life and Pensions for €377.7m. The same year, Bank of Ireland disposed of its Baggot Street headquarters for €180m, while both banks sold off large parts of their branch networks.
Questions at the time about whether the banks had called a peak in the market were strongly rebuffed, with AIB arguing its property sales allowed it "to further grow its business by freeing up capital to fuel lending growth to satisfy increasing customer demand in a continuing strong economy".
If an inquiry establishes that the banks privately thought -- as many sage observers believed -- that the boom was coming to an end, then why did they use the released capital to continue to support rampant property speculation?
3. The mortgage free-for-all
The expert, or experts, that will spearhead a statutory commission of inquiry would do well to start off by reading a hard-hitting report compiled last year by the Consultative Consumer Panel. The report slated the Financial Regulator for failing to intervene to deflate "a highly visible property bubble" as it allowed banks to peddle 100pc mortgages, interest-only home loans, 'teaser' rates and mortgages with longer terms of up to 40 years. A proper probe needs to find out why this was the case and what vested interests ensured it wasn't tackled?
The pile-'em-high-and-sell-'em-cheap model, where sheer volumes of lending helped Irish mortgage providers maintain the tightest margins in Europe, has come back to haunt the sector.
They were caught in a bind as loan volumes slowed to a trickle and wholesale funding and deposit rates soared during the crisis.
Now the banks are coming under pressure from their own funders to start increasing mortgage rates -- at precisely the time when tens of thousands of borrowers are already struggling to meet interest payments.
4. Loan loss provisions and capital building in the banks
Back in the old days, Irish banks were able to set aside large provisions to build up reserves for when the economy hit a bad spot and bad loan losses mounted.
But new accounting rules -- International Financial Reporting Standards (IFRS), adopted in 2005 -- put paid to that, requiring that lenders only set aside money to cover bad debts as they were expected to occur.
As such, the banks were only making minimal provisions when the economy was in full flight, and Allied Irish Banks, for example, was telling analysts that it only expected to write off 0.35pc of its loan book over the course of an economic cycle. Analysts now reckon it could end up writing down as much as 10pc of its loan book over four years.
How come the Central Bank and Financial Regulator did not follow the Bank of Spain's system of 'dynamic provisioning' -- which ignored the accounting authorities -- and forced banks to build up 'rainy day' reserves in times of plenty? After all, Ireland and Spain were going through remarkably similar property booms in the decade leading up to the crisis.
And even if the authorities here weren't of a mind to follow Spain in ignoring IFRS, why didn't they seek to make the banks hold more capital. While Irish banks saw a core tier one capital ratio of 4pc as an acceptable minimum, Canadian lenders, for example, were being forced to work off at least 8pc of pure equity capital.
5. Secret stake-building
One of the biggest questions that the inquiry must address is why the regulator stood idly by as the family of Sean Quinn built up a 25pc 'secret' stake through financial derivative instruments known as contracts for difference (CFDs).
It was known as early as January 2007 that the Quinns were using CFDs, which allow investors to gain an exposure to a stock with an initial outlay of as little as 10pc as its cost. But when share prices fall, the holder of these CFDs must cover their losses in what's termed as a 'margin call' from his broker.
Unlike ordinary shareholders in a company, who are required to show their hand once they pass the 3pc line, CFD holders have no disclosure obligations.
CFD providers normally hedge their exposure to clients' positions by buying the underlying stock. It is speculated that some of these were scraping out a bit of extra profit by lending the stock out to hedge funds and that they were placing massive bets on Anglo's price falling -- further damaging the Quinns' position.
In July 2008, when the Quinns converted a 15pc Anglo CFD position into ordinary shares, it was estimated that 13pc of the banks' shares were out on loan to such speculators, known as 'short sellers'. It only emerged six months later that the Quinns had a further 10pc CFD exposure, which was placed among the so-called 'Golden Circle' of Anglo clients.
Alarm bells should have gone off when CFDs surfaced in the 2005 battle for control of Jurys Doyle Hotel Group and Sean Dunne built up a stake using CFDs and in 2007 when Liam Carroll used them as he accumulated a 29pc holding in Irish Continental Group.
6. Seanie's loans
The statement released by Sean FitzPatrick in December 2008 shocked the banking industry and the public. FitzPatrick admitted that over eight years he moved loans, ultimately amounting to €87m, out of Anglo Irish and into Irish Nationwide before year end and never disclosed them to shareholders. While FitzPatrick was coming clean in December 2008, it was far too late for many Anglo shareholders.
But FitzPatrick has at least admitted to moving the loans, what the inquiry has to find out is who knew about these loans during those eight long years? Regular returns from Anglo Irish would have gone to the Central Bank, but were the loans spotted? How many people in Anglo Irish Bank itself knew about the loans? This newspaper recently reported that up to 45 people would have known.
There is also the question of the placing of Sean Quinn's Anglo stake, built up through CFDs. An inquiry needs to establish who precisely assembled the so-called 'Golden Circle' or 'Maple Ten' investors who took a chunk of the shares. Also what did regulators know about this and when? Did anyone in the Department of Finance even know?
Another crucial question concerns how the purchase of these shares was funded, because the taxpayer later suffered a considerable loss on this transaction, as did the bank. Did regulators know how the purchases were being funded?
But these questions will lead to a far bigger question. Anglo Irish Bank was in serious trouble from early 2008 onward, with the bank suffering deposits outflows and a loss of market confidence. Were the regulators aware of this and what action did they take?
Did they panic over Anglo's situation and make the wrong decisions? At what point did the government and the Department of Finance become aware of Anglo's loss of market confidence.
7. Permo/Anglo transactions
The so-called "circular transactions'' that took place between Anglo Irish and Irish Life & Permanent in September 2008 are crucial to understanding the links between regulators and the banks during the financial crisis.
The main reason for these transactions was obvious -- Anglo Irish needed to bolster its balance sheet coming up to year-end after a awful time when it suffered from considerable deposit outflows.
Irish Life & Permanent (IL&P) for reasons that are not entirely clear, decided in September 2008 to transfer, via a subsidiary, €7.23bn to Anglo Irish Bank, with Anglo placing a similar sized amount of money with IL&P.
In documents seen by this newspaper the two banks maintain that regulators endorsed this transaction as part of what was loosely called a "green jersey'' agenda. However regulators have disputed this. The inquiry needs to find out whether there was official endorsement for these kinds of transactions at any point. In a famous quip to Anglo executive Willie McAteer, the former financial regulator Patrick Neary is supposed to have said "fair play to you Willie'' when told how the bank would be managing its balance sheet coming up to year-end. This is the Anglo account of what transpired; Mr Neary has yet to offer his view on what took place.
There are also serious questions about what the Department of Finance said about these transactions when it found out about them. Did the Department endorse them in September, 2008 or later, the inquiry needs to find this out?
8. That infamous night
What happened on the night of September 29, 2008 when the Irish taxpayer was asked to stand over €440bn of bank liabilities? This is the most crucial question of all that needs to be answered. While the bankers and the politicians have given glib accounts of what transpired in government buildings that evening, the whole purpose of the inquiry must be to establish who said what on that night?
Did AIB and Bank of Ireland bully the Government into extending the guarantee? Or did the Government come up with the idea of the guarantee itself and then propose it to the bankers? The latter seems unlikely, but the tone and kind of language used by the bankers that night is crucial to giving the rest of us an understanding of how this far-reaching public policy decision was reached.
The question of what proposals were put before the Government, by their own officials, is also crucial. The banks have never explained exactly which institutions were suffering funding problems in the week running up to the guarantee.
It is presumed it was Anglo Irish, but the inquiry must discover what was happening at the other institutions. It has been suggested that officials suggested nationalising Anglo at that point. If that's the case why didn't the politicians take the advice? In a wider sense was any thought given on nationalising the entire system at that point?
9. Nationwide conundrum
Where to start? Why the society's former boss Michael Fingleton was able to transform a lowly mortgage provider to lender of choice to some of the country's largest developers arguably stands as one of the most blatant examples of the regulator turning a blind eye to corporate governance.
What was particularly remarkable was that he carried this out while operating under the notoriously leanest board within the entire financial sector.
Views that Fingleton ran the society as something of a personal fiefdom were underpinned by claims in an affidavit from Brian Fitzgibbon, a manger who took a constructive dismissal case against the mutual in 2007.
He claimed that many loans did not receive credit-committee approval and, indeed, the committee existed "simply to satisfy the requirements of the regulator."
Suspicions that he bankrolled top names in power -- with minimum paperwork -- were backed up by revelations on RTE's 'Prime Time Investigates'; 'fast-tracked' loans to outgoing EU Commissioner Charlie McCreevy, Bertie Ahern's former girlfriend Celia Larkin and Fianna Fail senators Francie O'Brien and Don Lydon.
There is also the issue of Fingleton's €1m controversial 'loyalty' bonus in 2008, agreed when he turned 70, which would never have been needed if the regulator had ensured that the society had engaged in proper succession planning.
10. Non-executives and top shareholders
While there has been huge public outrage over the salaries paid to non-executive directors at the banks, the real question is: were they doing their jobs properly?
The main function of non-executives is to keep their executive peers on their toes and rein them in if they are getting too wayward and acting in an imprudent manner. Did they check that property credit, risk and corporate governance standards were being observed in their institutions?
And then there is the investment community. Do top institutional investors bear a responsibility for pushing banks into dangerous and excessive lending to keep the all-important earnings per share growth stories on track?