Thursday 25 December 2014

Blame for collapse of banks rests with people who probably broke no laws

Drip-feed of information from trial highlights need for full inquiry to provide detailed narrative of crash, writes Colm McCarthy

Published 20/04/2014 | 02:30

Debacle: Sean Quinn, whose insurance firm went bust
Debacle: Sean Quinn, whose insurance firm went bust
Anglo did not go under because of the loans extended in July 2008 to resolve Sean Quinn's stock market speculations

The outcome of the Anglo trial, and the acquittal of Sean FitzPatrick, underlines once again the need for a proper banking inquiry.

Responsibility for the collapse of the Irish banking system has yet to be allocated. Clearly it lies with bankers and their supervisors, but which ones? Responsibility will never be allocated fairly, or at all, through criminal trials, for the simple reason that bank crashes do not typically arise from behaviour that breaches the criminal law. Anglo did not go under because of the loans extended in July 2008 to resolve Sean Quinn's stock market speculations. It was bust already at that stage and went down with a deficiency more than 10 times what was lent to take out Mr Quinn's underwater share positions.

The acquittal of Mr FitzPatrick angered many people judging by the traffic on social media. He had been selected as the personification of whatever had gone wrong, and the public were denied the spectacle of Anglo's former leader being led away in chains. It should be clear that if Sean FitzPatrick had been charged with personally causing the Irish banking crash, if such an offence existed, he would also have had to be acquitted. He was certainly a significant player in the downfall of the financial system but so were scores of others, including some yet to be identified, in senior positions in the banks, every one of which had to be rescued. Neither was he on trial for mismanaging one of the largest banks and the one which inflicted the largest losses, since mismanagement of business enterprises is not a criminal offence.

The Anglo trial was about specific offences under company law and the court concluded that Mr FitzPatrick should be acquitted on the evidence. Patrick Whelan and William McAteer were convicted on some of the charges laid, deemed responsible for making illegal loans to 10 people to finance the purchase of shares in the bank. The loans, it would appear, were deemed illegal because the borrowers were required to assume personal liability for only 25 per cent of them, with the remaining 75 per cent secured on the shares themselves.

Loans to the Quinns imposed 100 per cent recourse or personal liability and were deemed to benefit from an "ordinary course of business" exception in the legislation. These loans went sour due to the incapacity of the borrowers to repay when the shares proved to be worthless. The verdict of the court must be respected but it has some curious implications.

It appears to countenance bank lending at a 100 per cent loan-to-value ratio for the purchase of listed shares in the lending bank, so long as 100 per cent recourse is provided for. No prudence test appears to have been applied. This may well have been inside the "ordinary course of business" as practised at Anglo but is hardly lending behaviour a prudent bank would undertake or a prudent regulator would encourage. I am not aware that any of the other Irish banks, even at the height of the bubble, were offering 100 per cent LTV loans for share purchases.

Whelan and McAteer are entitled to feel aggrieved in that their chief executive, David Drumm, who on the evidence played a central role in events, has faced no charges at all.

The losses incurred by Mr Quinn on his Anglo share speculations were not the reason Quinn Insurance collapsed. The firm went bust, to the tune of €1.65bn according to the liquidator, through underwriting insurance risks at prices that were too low and it ended up with inadequate claims reserves. The private misfortunes of the company's owners in the stock market cannot be faulted for the collapse of the insurer: had it been solvent, it would have survived. The deficiency is being financed through a levy on all insurance policies, the proceeds going to pay underprovided claims in Ireland and also in the United Kingdom, where Quinn Insurance also wrote insurance business at prices that were too low. During the week it emerged that a motor insurer, Setanta, has also gone bust, leaving 75,000 car and van owners without cover.

This company was run by Irish people and sold insurance only in Ireland but chose to register and be regulated in Malta, an EU member. Just as the responsibility for Quinn's UK policyholders was assumed by the Irish insurance compensation fund, since Quinn was regulated in Ireland, the Irish policyholders of Setanta should now be rescued by the Maltese insurance compensation fund. If this does not happen and a further cost is imposed on the Irish fund, a situation will have emerged where the Irish public are on the hazard for foreign misadventures of Irish-regulated insurers elsewhere in the EU, but the reverse does not hold. Is it the policy of the Central Bank to permit Irish insurers to register and be regulated abroad in EU jurisdictions where they face this exposure, while accepting Irish liability for losses of Irish-regulated companies abroad?

The Setanta collapse is the third insurance debacle in Ireland in recent years. The Quinn collapse was followed last year by the discovery of damaging losses at the Irish operations of RSA, the large UK-based insurer, which stepped up with additional equity to restore the solvency of its Irish operation. If there had been no banking crash, these three insurance collapses would have been seen as major failures of financial oversight and there would be demands for an inquiry into the management and regulation of the insurance sector.

The general public will be paying an extra tax on insurance premiums for decades as a result of the Quinn episode and the cost could rise if there are no Maltese funds to deal with the Setanta fall-out. In addition to the imminent Oireachtas banking inquiry, there should also be an inquiry into these failures in the insurance industry.

The take-out by Anglo-financed borrowers of the Quinn stake was not a critical event in the sense that it sparked the collapse of Anglo or of the broader system. Anglo's goose was already cooked, which is why the share price had weakened, creating the Quinn crisis and the panicky response. The Irish banks went bust because they lent by the billion to swathes of borrowers who failed to pay them back. By the summer of 2008 the Irish commercial property market had already collapsed and everyone in the finance sector knew this was the case. It was also clear there would be serious problems with residential mortgages and other loans.

It is not satisfactory that the broader public is being drip-fed additional hard information about the Irish banking collapse, one of the biggest to have occurred anywhere in the world, only as an accidental by-product of criminal prosecutions and civil actions in the courts. There has been no proper banking inquiry. The various official reports and the best efforts of journalists have yet to provide a detailed narrative of what happened inside each individual bank, nor have they documented adequately the regulatory failures highlighted again during the Anglo trial.

There will be other court cases. Mr Drumm could be charged and his extradition from the US sought. There may have been other accounting irregularities, and there are also various civil cases in the pipeline. These cases will not substitute for a proper inquiry, which needs to furnish a factual narrative of the banking (and insurance) failures through the decade leading up to 2008, and of the inadequate regulatory response. Most of the responsibility for the debacle rests with people who in all likelihood broke no laws.

Sunday Independent

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