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There's so much discussion about the Irish Bank Resolution Corporation (IBRC) promissory notes floating around that it can be hard to separate fact from fiction. What we know for sure is that the former Anglo Irish Bank and Irish Nationwide Building Society, which merged last year to create (IBRC), have done enormous damage to this country's economic well-being.
The growth of these lenders during the bubble was remarkable. Anglo grew its loan book by more than 40pc each year on average over the period 2003-2006. This rate of expansion was about twice the heady pace of credit growth recorded by Bank of Ireland. By 2008, Anglo had €90bn of loans on its books, equal to 50pc of Ireland's GDP. Irish Nationwide expanded lending by one-third annually.
At the peak of the bubble, Anglo had become a dangerously oversized merchant bank with a loan book that was fatally concentrated in commercial property. Anglo funded these loans in the main by attracting more than €50bn in deposits. In that regard, Anglo was different from the other Irish banks, which relied more heavily on issuing bonds and interbank borrowing to fund loan growth. Anglo's ratio of loans to deposits was the lowest among the Irish banks.
Anglo's accounts for 2008 show that around the time of the introduction of the bank guarantee, households held deposits of €20bn with the bank. Businesses, charities, public sector bodies, pension funds and credit unions held another €30bn in deposits.
Anglo owed about €5bn to holders of commercial paper and certificates of deposits and owed roughly €10bn to senior bondholders. The remainder of the bank's funding was made up of borrowings secured on Anglo's assets, including loans from the ECB.
The accounts show that Anglo had €10bn in capital on its books, equally split between shareholders' equity and subordinated debt. Eventually, this capital was wiped out by the bank's losses, even though some of the subordinated debt was temporarily covered by the blanket bank guarantee which expired in September 2010.
The unexpectedly deep recession and collapse in property values resulted in huge losses on Anglo's assets. The final tally for the bank's losses will not be known until IBRC has disposed of all of Anglo's loans, but a reasonable projection might be in the region of €40bn.
Shareholders and those who owned subordinated debt absorbed €10bn of these losses. The State stumped up €30bn in the form of capital injections to cover the remaining losses so that those who provided funds to the bank would be repaid in full.
This €30bn capital injection, mostly in the form of a promissory note, is equivalent to an eye-popping 20pc of GDP. As other commentators have pointed out, without this burden Ireland's national debt would be expected to peak at a more sustainable 100pc of GDP.
Looking back, what could have been done after 2007, if anything, to reduce the State's share of these losses? This question has attracted surprisingly little consideration. One exception is the report on the banking crisis written by Patrick Honohan, governor of the Central Bank, which criticises the exceptionally broad scope of the bank guarantee. In particular, the report criticises the inclusion of long-term bonds and some subordinated debt in the guarantee.
Losses were eventually imposed on Anglo's subordinated debt, but not on long-term senior bonds. Of the €10bn that Anglo owed to senior bondholders in September 2008, €6bn was repaid in full during the two-year period of the blanket guarantee. The remaining €4bn reverted to unguaranteed debts of the bank after September 2010, but this money is also being fully repaid at the insistence of the European Central Bank.
Had Anglo's bonds been excluded from the guarantee, haircuts of up to, say, 50pc could in principle have been imposed on the €6bn in bonds that were scheduled to be repaid during the guarantee period. As a reference, 50pc would have been the discount had the bank been put into liquidation and losses shared equally across the bank's unsecured creditors.
The exclusion of senior bonds in the guarantee, therefore, might have saved €3bn for the State. Of course, it may be that the ECB would have blocked any move to impose losses on senior bonds during this period, as they have done since. In that case, the exclusion of senior bonds from the guarantee would have made no difference to the allocation of losses.
And €3bn is a lot of money. The annual interest cost of this addition to the national debt amounts to €150m. This is a significant amount of government spending, though it pales into insignificance compared with the €32bn in budgetary adjustments that will be introduced over 2008-2015.
It is clear that the numbers do not support statements to the effect that if Anglo's bonds had been excluded from the bank guarantee then the country would not be in the mess that it is currently in.
Of course, the Government could have considered allowing Anglo's losses to fall entirely on the bank's unsecured creditors. This would have meant losses for depositors of between €20bn-€25bn, implying discounts of nearly 50pc on their deposits.
The reality is that the Government could not have protected Anglo's depositors in full without a large capital injection into the bank. The economic implications of imposing large discounts on bank deposits are rarely discussed by those who advocate such a policy. That said, it does not necessarily follow that the Irish State should bear the full burden of rescuing Anglo's depositors, since many of them are based abroad.
Finally, it is sometimes claimed that the promissory notes are an expensive way to recapitalise Anglo. This is simply false. Those who repeat such claims ought to think a little more deeply about the ultimate source of the funds being borrowed to recapitalise Anglo and the associated interest rate. It's time for more facts and less fiction.
Dr Alan Ahearne is an economist at the Cairnes School of Business and Economics at NUIG, and also a former adviser to ex-finance minister Brian Lenihan
Irish Independent
