Sunday 15 December 2019

Banks forgot 75/25 rule

Sir -- Louis Ryan's letter (Sunday Independent, February 28) raised some interesting points as to why the main Irish banks had 'failed to see the obvious' and embarked on a spree of lending to developers and speculators, which will take decades to sort out.

As a former bank official, I remember the famous '75/25' rule for bank lending.

This meant that a bank could only lend 75 per cent of its assets (mainly customer deposits) and was obliged to place the remaining 25 per cent in safe government bonds or securities, which could be redeemable in an emergency. This rule was to sort out the number of bank failures in the late 18th and early 19th centuries when a series of bad harvests or loans could trigger a 'run' on a bank.

Gradually as the experience of a run faded from memory, banks steadily increased their lending to 100 per cent of assets, then 150 per cent, then 200 per cent or even more through 'sophisticated' financial instruments. What is truly amazing is that not even the US Federal Reserve Bank or other regulatory bodies could spot the inherent dangers in this type of reckless lending. The Irish Central Bank has a strong case to answer in how this debacle came about.

Now that the Irish banks strive to get their lending/ deposits ratios back to something like '75/25' rule, this is causing the present lack of credit lending as they try to recapitalise. Louis Ryan is spot on when he states that 'banks are not in the business of risk lending'. Their primary duty is to protect the interests of depositors and savers and as they have broken the famous '75/25' rule, they are now seriously under-capitalised. One man's saving is another man's borrowing and there are no magic rules in trying to expand credit without assets or deposits.

Bernard O'Grady,

Muswell Hill, London

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