NAMA must be made more accountable to taxpayers

One of the critiques of nationalisation is that state owned banks are open to risks of political influence and cronyism.

Surely then NAMA, a state owned “bad bank” is also exposed to the same risks?

Can the Government realistically avoid the threat of cronyism that risks favouring the property speculators at the expense of the taxpayer?

One of the glaring omissions in framing NAMA is not the entity itself but the policy context in which it will live. It is being proposed in a post-bubble policy vacuum that has not sought to understand or apply the lessons from past.

The missing piece is the public enquiry into and appreciation of the reasons why a NAMA has become so necessary for the financial survival of not only the entire banking system but of the economic survival of state itself.

In socialising bank debt, NAMA will mothball property for years in the hope that that once again people will speculate on rising property prices. The higher the price paid by NAMA for the banks loans the larger the required upturn in property values. The unpalatable fact is for it to succeed, property values will once again have to surge in value. Whose interests are served should this happen?

Banks shareholders and certain classes of bond holders are not the only equity investors to benefit from NAMA. During the boom, developers raised private equity through pooled investment schemes promoted by wealth management divisions of stockbroker and other financial intermediaries to their wealthy clients. Banks not only lent to developers but also lent to billions to private investors who took equity stakes in development schemes.

Wealthy professionals such as barristers, lawyers, dentists together with successful businessmen and women, leveraged off their personal balance sheets, borrowing vast sums to take a stake in the latest venture.

Most private equity investors never considered the shareholder risks involved in agreeing to stand first in line to absorb losses. It appears that billions of these private equity “borrow to invest” loans are to be transferred to NAMA. Many investors are facing financial ruin as a result should their loans be called in. Who are these private equity investors and how politically connected and influential are they?

Despite Government’s assertion that NAMA will pursue defaulting borrowers to the “ends of the earth” it will not happen. NAMA will buy loans not based on their near worthless value today but use a formula that mimics a future property market. It will enter into and fund work out arrangements and do so in private. Inherent within this process is a forbearance that buys time for people to protect their wealth and exposes NAMA to powerful influential forces.

For certain those that in the past colluded to manipulate property assets, generating unprecedented wealth for a small number of people, will use their power and influence to protect their wealth.

Public representatives will shortly debate and pass legislation giving birth to a NAMA, in one form or another. How many are private equity investors in property schemes or directly or indirectly exposed to property loan losses and facing financial ruin? It is the public interest that those in positions or power and influence are not conflicted by their own personal financial affairs in deciding on one of the most serious of pieces of legislation.



Before any vote, citizens should be assured that their public representatives’ conflicts of interest, where they exist, have been declared and openly dealt with. Each year, members of the Oireachtas and boards and senior employees of state and semi-state bodies must declare their financial interests. Perhaps, they should also be required to declare their bank borrowings and whether or not they are not they are in default on their loans and will become NAMA clients.

Rarely has banking posed questions of society as it has it Ireland as few societies have ever become so exposed to severe consequences of a bank led economic collapse.

One solution proposed is for a body of eminent respected international experts to oversee and publically report on NAMA as it decommissions billions in toxic debt. It has been done before in another context when other weapons of destruction were being put out of commission.

NAMA is a classic hallmark of "groupthink"

Taoiseach Brian Cowen’s defiance in the face of robust critique by experts of his and Finance Minister Lenihan’s bad bank plan is worrying in the extreme.

Labour’s Joan Bruton has spoken of a “Cowen-Lenihan parliamentary dictatorship that is allowed to rule by decree without scrutiny or amendment”. Politics aside, their behaviour suggests a dangerous psychological phenomenon called groupthink.

Sticking to the plan in the face of disconfirming information is not a hallmark of good leadership. It is a hallmark of groupthink, sometimes called bunker mentality. It occurs when small groups of people become blind to external influence and is an understood facet of poor governmental policy and decision making systems. Disastrous policy decisions have resulted. Examples include the US escalation of the Vietnam War, Watergate, the invasion of Iraq and more recently the global credit crisis.

On the opening day of the Battle of the Somme on 1st July 1916, the Ulster 36th Division was close to breaking through German lines. Spotting the opportunity General Perceval wanted to commit his 49th Division to support the Ulster men and exploit the gains made. But his superior General Morland, who could see the opportunity from his observation post high in a tree, refused as it wasn’t part of the plan. The Ulster men were decimated as the Germans counterattacked due, it is said, to Morland’s inflexibility.

Similarly inflexible Taoiseach Cowen’s insistence in sticking to the NAMA plan ignores the possibility of better alternatives.

Like General Morland both he and Minister Linehan are insisting on sticking to the plan. Yet at least two formidable alternatives have been proposed having substantive support from a wide body of experts. They are Richard Bruton’s Fine Gael good bank/bad bank option and Professor Anthony Honahan’s hybrid called NAMA “2”.

At the heart of Government’s decision making processes may lie a psychological phenomena well understood and guarded against by effective leaders. Called groupthink, it seeks to explain the dangers of small cohesive groups. It seems such groups can have a psychological drive for consensus at any cost that suppresses disagreement and prevents the appraisal of alternatives.

During an Oireachtas committee session enquiring into the causes of Ireland’s banking crisis, a senior Department for Finance Official, when asked to divulge the advice provided to the Minister for Finance, declined as convention was not to divulge such information. He did say the advice reflected the consensus at the time. The Irish consensus and its powerful evocative metaphor of a “soft landing” is an example of groupthink at work.

Bertie Ahern once wondered why sceptics of the soft landing consensus –whom he called moaning minnies- didn’t commit suicide. The sceptic’s warnings were ignored by the small groups who set policy and made decisions in Ireland’s banks, it’s financial regulator, central bank and government.

Such is the small internecine village of Irish business, banking and politics that few if any are ever willing to swim against the tide. It is unlikely that any of the people involved realised the dangers of groupthink and acted to guard against them. Their cosy consensus cross contaminated all groups and none acted to prevent what was a predictable and inevitable outcome of a credit fuelled, construction led boom in consumption.


Economist, Colm McCarthy has rightfully called for an enquiry into what went wrong in Irish banking. There are many answers to what went wrong during the latter stages of the Celtic Tiger. If groupthink with its drive for consensus at any cost is one explanation then the danger is this behaviour is embedded in the way government continues to be led, for most of the same actors remain on stage.

One of the critical aspects of groupthink is poor decisions made under pressure invariably result in poor outcomes. Crisis decision making by one such small group last September when Government pledged the wealth of the state in support of the banks may have been groupthink behaviour.

Having hoisted their petard called NAMA, Taoiseach Brian Cowen and Minister Brian Linehan should be mindful of another leadership lesson from the past. When faced with critical decisions during the Cuban Missile crisis US President Kennedy ensured that his decision group was not exposed to the risk of group think.

The hallmark of great leaders is their capacity to guard against the dangers of groupthink through including for diverse views, testing assumptions and enquiring into alternatives when reaching decisions. Defiance, obduracy and unwillingness to accommodate alternatives to NAMA is worrying as it suggests that the phenomenon of groupthink is a feature of Irish governmental decision making.


Note:
Groupthink occurs when a group makes faulty decisions because group pressures lead to a deterioration of “mental efficiency, reality testing and moral judgement”. Its symptoms include amongst others; Illusions of invulnerability - creating excessive optimism that encourages taking extreme risks; Collective rationalisation - where people discount warnings and do not consider assumptions; Belief in inherent morality – groups believing in the righteousness of their cause, ignore the ethical or moral consequences of their decisions; Pressure on dissenters - where people are under pressure not to express arguments against any of the group’s views ;Self-censorship - where doubts and deviations from the perceived consensus are not expressed. Self-appointed “mindguards” - where other people protect the group and the leader from information that is problematic or contradictory to their cohesiveness, views and decisions.

Stabilising our banking system is key to the national interest

Government’s strategy to stabilise Ireland’s banks and make them work again has a wider national interest dimension as the national banking system could become dominated by foreign owned banks.

Of all banking systems Irelands’ is the most acutely damaged. No other government is faced with tackling the insolvency of all its domestic banks. Few countries have had to support their entire banking system to the degree Ireland has been required to do and will be required to do for the immediate future. Much public concern and commentary has been focussed on Government’s strategy of adapting a bad bank model whilst eschewing temporary nationalisation.

Much as people would prefer banks were forced to book losses in full, the systemic risks posed by their imprudent exposure to a handful of large borrowers means that choices are limited in the extreme. NAMA may not be the only option but for now it appears to be the only game in town.

Debate is focussed on how best to structure the clean up to limit tax payers’ costs, with public opinion highly sensitised to the price to be paid by NAMA for developers debts. Government may yet fall should it not convincingly sell its banking strategy. No one, including Government is adequately addressing what form of national banking system will be required and how its regulation, governance, ownership and control may be optimally structured to support economic recovery.

Having a workin banking system is critical. Cleaning up banks or arranging for new banks that work is key. The banking system is in a perilous state as a consequence of an economic policy that facilitated a bank credit fuelled, construction led boom in domestic consumption.

The hope is that the rising tide of global recovery will once again lift all boats including Ireland’s. The risk is recovery will be too weak, more so if predictions of a double dip recession triggered by rising commodity, food and oil prices come to pass.

Sorely damaged, the economy will struggle to recover in the face of fiscal constraints, a mountainous national debt, mass unemployment, increased taxation together with consumer and business reluctance to spend and invest. In the throes of a deflationary spiral Government is leaving the prospect of additional state equity support for banks, or temporary nationalisation, quietly on the table.

So far Government has deploying an escalating stabilisation strategy through its blanket guarantee, emergency capitalisation of AIB and Bank of Ireland, nationalisation of Anglo Irish Bank and NAMA bad bank approach. Rather like an earthquake the first shock wave serious damaged banks property lending portfolios. But powerful after shocks impacting commercial real estate loans, but-to-let lending, home mortgages, small business and consumer lending are exposing banks to further losses.

The IMF, anticipating losses yet to be realised as the wider economy contracts, advised extending NAMA’s powers to buy up other assets. It also advises temporary nationalisation as responsive strategy should banks be insolvent as a consequence of bad debt buy outs.

For Irish banks the headline data is ominous. House prices will fall by 50% and housing completions will drop to 10,000 next year from a height of 70,000. Residential rents are down over 20% forcing investors to default. Commercial property vacancies are climbing, rents are falling as yet to be completed buildings add to a massive stock pile of “see through” vacant buildings. Unemployment may reach 540,000 next year. Tens of thousands of homeowners are in negative equity. Private sector credit is contracting as consumers and business increase savings and pay down debt. New car sales have shrunk dramatically. Retail sales are falling and VAT receipts are down. Governments’ revenue targets, set in April will not be reached.

The elephant in the room no one has attempted to synthesise the scale of economic downturn and banking system capacity required to support recovery. The real problem is not just how bad things will get but how the economy responds to improving global circumstances. Downsizing may rob the country of the resources needed when times improve. Through what economists call the gap between actual and potential output, should national resources shrink to match actual output at far lower levels of activity then there may be no capacity to aid recovery.

One of the national resources required is a functioning banking system. A critical dilemma faced by Government is how to ensure that any reconfigured banking system that evolves is not dominated by foreign owned banks. Some observers maintain the national interest requires that at least one major bank remains headquartered in Ireland and is predominantly national in focus. As Government rolls out its bank stabilisation strategy it may also have an eye on the design of the new banking system and how to ensure the national interest is protected. Governments elsewhere have been known to hold strategic stakes in banks to ensure a functioning banking system is not captive of the constraints of foreign owned banks.

Taxpayer to suffer as cost of bank credit rises

As the banking sector shrinks through mergers and acquisitions in the years ahead, the Government must ensure sufficiently strong controls of financial institutions to prevent excessive profit-taking at the expense of customers, writes Bill Hobbs

The socialisation of bank debt is an inevitable consequence of a credit crisis. Tax payers always pay up as there is no one else who can. The citizen’s burden will be crystallised in the difference between what the banks should be paid for their loans what they will be paid and the return eventually achieved by NAMA in the years to come as it unwinds from one of the largest property portfolios ever assembled. Meanwhile the cost of bank credit is set to rise and may require state intervention to inhibit banker’s excessive profit taking behaviour.

In previous documented credit crisis the cost of bank credit has risen and remained stubbornly high long after the crisis itself has abated. Ireland’s experience could well be acute as it has experienced one of the most dramatic credit crunch led economic reversals ever.

Yet to be defined are two important issues; public policy in relation to land and property and policy in relation to the structuration of the Irish banking system. The first requires informed debate as NAMA has the capacity to influence the property market for years to come and contains an inherent conflict. Maximising tax payer’s return from its asset portfolio could cause another bout of property speculation. The second must deal with designing and crafting a new banking system to ensure it can generate the credit required to fund economic recovery.

For now banks are exclusively focussed on rebuilding their shattered balance sheets. They will be forced to increase the price of credit and services to generate the profits required to pay for loan losses and build the higher levels of capital now required. For example mortgage holders with PermanentTSB will now pay more for credit and cannot switch to a cheaper provider. It’s only a beginning as others will follow suit and raise the cost of both loans and services. The era of low margin credit and cheap services is over as banks adjust both their cost and income profile. Banks will also focus on cutting costs as they dramatically reduce operating capacity build up during the boom years. Many bank employees are set to join Ireland’s growing jobless population as their employers roll out their cost control programmes.

Meanwhile consumer and business choice – competition- has evaporated as customers become captive of their existing banking relationship. Such disempowerment of competition could be amplified as banking power will become more concentrated through what is another inevitable consequence of the crisis – banking consolidation.

The problem for consumers and the majority of Irish businesses is they have no access to credit other than through Irish banks. Irish businesses, which in the absence of deep and wide market for capital, are entirely reliant on bank credit to fund their business capital requirements. Ireland has not developed alternative sources of capital for its indigenous small to medium sized business enterprises. Thus both citizens and businesses are captive of their banks travails and cannot switch to alternative providers.

While NAMA will hope to address land and property development debt the second round of bad debts to hit the banking system has yet to be revealed. Banker’s imprudent lending behaviour that fuelled the property bubble was equally applied to their business and consumer lending. Both consumer and business debt default rates are rising and banks have not as yet divulged the likely scale of losses they will have to contend with. Ominously and inevitably domestic credit growth has stagnated and the back wash of bad debts will now swamp banks balance sheets.

Yet to emerge from the banking crisis is a blueprint for a new Irish banking system. The price paid by NAMA could trigger the nationalisation of AIB unless international investors are convinced the bank proposes a viable investment proposition. Bank of Ireland is similarly but less acutely exposed to a similar fate. But what of the second tier banks, PermanentTSB, EBS, INBS and the state bank Anglo Irish? All four are considered to have no future as independent banks. Ireland’s clutch of once competitive, foreign owned banks have been placed into a state of cryonic suspension as their owners focus on their own national marketplaces.

The probability, given the worsening deflationary environment, is that international investors will shy away from investing in Irish banks for some time to come and it will be left to Government to both drive and finance the establishment of a viable banking system capable of funding domestic credit need.

NAMA legislation will empower the Finance Minister to enforce consolidation of Irish banks of systemic importance to the economy. The future could see two dominant banking groups AIB and Bank of Ireland, together with what some call a “super-mutual” consolidated combination of PermanentTSB, EBS and INBS. But any super-mutual would be far too small a bank to balance the combined market power of the big two. Another scenario could see PermanentTSB bolted onto to one bank with a combined EBS/INBS bolted on to the other.

The outcome will probably result in the creation of an oligopolistic banking system with two banks dominating the marketplace. Competition considerations may be overridden in the national interest to both stabilise and craft a banking system that works. In which case there is a distinct danger of adverse profit taking behaviour as revitalised banks flex their power. In the absence of competition they will have an unfettered temptation to ratchet up margins.

Robust and effective oversight mechanisms should be in place to ensure that banks do not engage in excessive profit taking behaviour. Keeping a close on how banks are costing and pricing credit will be important. While direct price controls are notoriously difficult to implement, the state and its citizens must be assured that banks are behaving correctly. Arguably it’s in the public interest that Irish banks unfettered dominance in the provision of credit is checked by powerful and effective oversight and controls where required.