Working banking system and credit insurance needed

Without a credit insurance scheme, small business will continue to fail, says Bill Hobbs

You would be forgiven for thinking Fogape was a coffee drink. It’s not. It’s the name of a highly regarded, Chilean state sponsored, small business loan guarantee scheme.

Years ago, with a small amount of seed capital, the Chilean government kick started a loan insurance guarantee scheme to provide viable small businesses with access to bank credit on affordable terms. In the aftermath of the global crisis, quick to realise the urgency of ensuring credit access to their small businesses, the Chilean’s beefed up their scheme.

Here, when pushed on a small business loan guarantee scheme, Minister Mary Coughlan made the usual soothing noises that her officials were “looking into it”. She even mentioned Fogape as a good model. Her successor Batt O’Keefe solemnly announced that his officials were “still looking into it”. They probably still are.

Lately Fogape has surfaced again, this time in Fine Gael’s manifesto, which mentions a self-financing, small business loan guarantee scheme.

Our banking system has become an economic black hole, continuing to suck in state capital and retail deposits never to be seen again. While the Central Bank’s fourth attempt to get to the absolute bottom of banks losses may disprove Alan Duke’s controversial estimate of an additional €15bn in state capitalisation, three years on and what’s left of the small business banking system?  “Barely functioning” aptly captures those that remain “open for business”.

If we want a working banking system, one that investors will be prepared to fund, we have no choice but to continue to plough capital into Bank of Ireland and AIB. Of course their existing bond holders will have to bear the pain. But astonishingly we have yet to publish and affect special resolution laws that would allow the state to enforce an equitable restructuring. Politician’s electioneering proclamations of “not another cent to the banks” are empty rhetoric without the power to deliver.

The Danes used their powerful laws to shut down one of their own bad banks. They forced bond holders to take a sizeable bath. But they didn’t stop at bond holders. People with deposits suffered too as amounts over the Danish deposit guarantee of €100,000 had a 41% haircut applied. In the absence of the temporary extraordinary state guarantee, Irish deposit holders are similarly exposed to losses.

Internationally, the primary function of deposit guarantee schemes is to instil confidence so that people do not rush to take their deposits out at the first sign of trouble. They also pressure banks to behave themselves by demanding a hefty fee for coverage should they misbehave themselves. Participating banks effectively insure one another’s deposits, with the state providing a back-stop support. When faced with systemic failure, governments are forced to step in to guarantee all deposits and senior bonds which apparently rank equal to deposits here.

Could Irish depositors face similar losses? The answer is yes, should one of our banks fail or be closed down this would become a probability and not just a theoretical possibility. All the more reason to get banking working again and supporting the credit creation system with meaningful guarantees for viable small businesses.

Why have we not seen a Fogape type scheme implemented? The answer within a system designed not to change. In the labyrinthine corridors of executive civil service power and influence, government cannot respond quickly enough if at all.

Ask anyone who has managed to persuade government officials to do something and they will tell you of the sheer frustration of trying to get things done. They will tell you of the senior civil servant goal keeper, whose job it seems is to stop everything getting past them and cover their colleague’s behinds’. They will tell you of senior public service managers who frustrate, procrastinate and drag their heels. They will tell of people whose main contribution is to explain why things cannot be done. They will tell of draconian interpretation of compliance with EU directives and pointless red tape that prevents small business from functioning as it should. They will tell you that any new government will face an immediate battle with powerful organised internal interests that will fight tooth and nail to protect the status quo.

Fogape was a “no-brainer”, an easy to do, effective response to the credit crisis. In the private sector it would have been up and running within six months. In the public sector it could take up to six years and longer. Similarly laws allowing the state to close bad banks should also have been in place well before now.

With a political campaign in full swing, and job creation targets vying with another, small business remains largely forgotten. One thing is for sure. Without a working banking system and supporting credit insurance scheme, small business will continue to fail.

A version of this article appeared in the Irish Examiner, Business Section on Monday 14th February 2010.