Rational economics will require external forces : May 12 2009

Published in the Irish Times May 12 2009


THE MOST important debate, declaration of war aside, in which the members of Dáil Éireann will ever participate is this week. The debate is the decision whether to bring the banks under the auspices of Nama or to nationalise them.

At stake is EUR 90 billion of taxpayers money three years tax revenue the international reputation of Ireland as a haven of cosy crony capitalism, the cost of international borrowing and the future health of the economy.

However, calling it a debate is wrong. Debate implies a sequence of informed speeches designed to sway the Opposition towards one s own position. The Dáil discussion s outcome is as predetermined as the course of the stars, with whipped vote fodder on all sides reiterating existing party positions before trooping loyally through the Tá or Níl gates, regardless of their own perspective or how persuasive they found the other side.

As an Oireachtas member noted to me last week on another issue: I will always vote with Fianna Fáil, regardless of my conscience.

The debate on Nama, the proposed National Asset Management Agency, and nationalisation has been ongoing for some time. My position is well-known that temporary nationalisation is a superior approach to the banks being under Nama s auspices on a semi-permanent basis.

There are as yet no serious, independent economic commentators in Ireland that have come out on economic grounds against temporary nationalisation. Where independent commentators have demurred it has been on the basis of managerial concerns regarding the politicisation of lending. Note that here I stress independent commentators bank and market employees are not, and cannot, be expected to be independent, and their comments should be weighted accordingly. This is not to ignore or denigrate these views, merely to contextualise them.

Nama, we are told over the weekend, is facing legal challenges, as was forecast. It has been warmly greeted by the Green Party and by commentators on the left who have suggested that the State as a significant landowner-landlord would allow direct State intervention in these markets. Thus those who oppose nationalisation on grounds of political interference find themselves sharing space with those that propose Nama as a vehicle for political interference.

We are also told that were it a private entity, Nama would require upwards of 700 specialist staff to operate, while plans suggest a staff of 30-40. Finally of course, there is the fact that any realistic asset management agency will require recapitalisation of such magnitude that the State will become the owner of at least 80 per cent and possibly much much more of the banks.

A persistent assertion against nationalisation is that nationalised banks will not gain access to the international interbank markets. The argument is logically flawed, but if true, contains the most dire portent of economic failure ever issued by a finance ministry. Banks, like all large operations, place and receive funds daily to smooth out peaks and troughs in their own financial requirements.

The Department of Finance asserts that a bank that is nationalised (as opposed to one that is merely 90 per cent State-owned) would simply be refused such funding from the international markets. There is no evidence or research findings that I or others can find that indicates that this is necessarily so.

Empirically, we find state-owned banks operating with interbank liquidity funding. Funds flow to the highest yielding lender for a given level of risk, the risk being the risk of the ultimate backer of the entity doing the borrowing. In a nationalised situation, this is the State. Banks also borrow to enable them to extend more funds than their deposits alone would allow.

This latter business model, of funding one s operations via wholesale money markets, is one that is no longer possible and to defend it is to defend as a model for the future banks such as Anglo, Northern Rock, Depfa and others who have failed. A version of the argument suggests that nationalisation, by imposing losses on the second-tier capital, bondholders, will cause them to shun banks seeking liquidity. Again this is asserted, not proven.

In any case, this second-tier capital is trading at a low percentage of face value, with many investors therein having already realised significant losses and being thus potentially amenable to accepting a mild premium on existing value to exit the market.

The only logical situation wherein a nationalised bank were to find itself unable to source interbank liquidity is one where the markets were doubtful of the repayment capacity of Ireland. We are also told that the only way in which the banks can operate at present is that they have the de facto backing of the State, de jure via the bank guarantee.

How nationalisation can weaken this situation is not clear. Apart from a treasury manager from a large international bank stating we will not lend to nationalised banks come what may , we must take this argument as being at best unproven. If, however, the department has had such advice, then that is equivalent to the international markets calling bankruptcy on the State, as they would be saying that they did not consider that the State could, with nationalised banks, meet its ongoing obligations. And we know that the State will have to in effect take on the banking system. So where does that leave us?

In my view, the economic arguments against nationalisation are not as strong as those in favour. However, it is clear that we have moved from the economic to the political realm in this debate.

Regardless of the economic arguments, it is clear that the Government feel that they have such political capital invested in Nama that to retreat from their position now would be to show weakness. This does not bode well as it implies that politics will override economics when we are in an economic crisis.

Perhaps implementation of rational economic policies will have to await external forces with no political allegiance to the present State.

Brian Lucey is associate professor of finance at Trinity College Dublin

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