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In the battle for popularity perhaps only bankers rank lower than politicians. This, presumably, was somewhere in the minds of Taoiseach, Enda Kenny and Tánaiste Eamon Gilmore when they summoned leading bankers to the Dáil last week in an attempt to force them to pass on the one-quarter of one per cent interest rate reduction by the ECB to their mortgage customers.
The initial refusal of the banks to do so was characterised as brazen by politicans of all hues. The public was pretty much outraged. Eventually, AIB capitulated: the bank, which is almost totally owned by the state, obviously felt it had little option but to toe the government line but made clear its reluctance by issuing a terse single-sentence statement to the effect that it would comply with the government’s wishes – but its reluctance was obvious.
Given the depth of woe that the activities of the banks have inflicted on the country, it is a simple reflex to be offended at bank managements’ refusal to pass on the interest rate cut. But a simple and emotive reflex action does nothing to illuminate the reality that the interest rate controversy obscures.
Until now, the government’s stated policy towards the banking sector could not be clearer and is summed up in a single line in the Programme for Government: “The new Government will seek to dispose of the public stakes in the banks as soon as possible at the best possible return to the taxpayer.”
Indeed, as late as last July the government was congratulating itself on disposing of 34.9 per cent in Bank of Ireland in exchange for more than €1 billion from a consortium of investors headed by US billionaire Wilbur Ross. (It can only be imagined what these people think of the government demand and the subsequent invitation to the Central Bank to ask if it required legislation to enable it to force banks to comply with government mortgage rate diktats.)
Against that background it is hardly surprising the Bank of Ireland declined to comply with the government’s demand that it reduce its rates. Bank of Ireland is in a relatively advantageous position insofar as the government only own 15 per cent of its shares. But, if nothing else, the bank would have felt justified in resisting government’s demand on the grounds that it is entirely illogical given its stated policy to encourage the banks to restore themselves to profitability and effectively to prepare themselves for sale.
In a stroke, the government has undone the positive message it sent out of the world regarding the state of the Irish banking sector at the time of the Bank of Ireland deal. In order to prove themselves attractive to investors and repay at least a fraction of the massive state “investment”, the banks must restore their capacity to generate profits and rebuild their balance sheets. They must prove that management has the capability to run the businesses. But, just as important as capability to trade, is the freedom to do so. In that respect, the government intervention is a retrograde step.
Nobody is disputing that the situation of mortgage-holders is in all too many cases dire and that is made worse by a blatantly dysfunctional banking system. In the case of Ireland, banks are actually losing money on large parts of their mortgage books with rates that are level with or below the cost of funds.
This of course is yet another example of hopeless mismanagement on the banks’ part but efforts to sustain artificially low rates only compounds the problem in the long term.
In spite of its massive majority, the present government has shown a healthy capacity for opportunism and populist strokes. Right now, as far as the government is concerned, banking policy – and particularly interest rate policy – revolves exclusively around bank debtors, in particular mortgage holders. It is if depositors simply did not exist.
And this is at a time when European face not just a potential solvency crisis due to the prospect of massive write-downs of sovereign debt: they are also experiencing a less visible but potentially just as ruinous liquidity crisis.
Banks across Europe are effectively locked out of the wholesale markets. Where they can access funding, rates are often prohibitive.
When wholesale funding is absent, the importance of the deposit franchise becomes critical. Ireland has experienced a serious level of capital flight. Without the bedrock of stable deposit funding, planning becomes impossible. Governments – and not just in Ireland – are constantly looking to the banks to increase levels of lending to the SME sector. But banks cannot set lending budgets unless there is a reasonable degree of certainty that they can fund that lending. In the past, banks could rely on a post-funded banking model where it could commit to lend and then fund later through the wholesale markets – that is now simply not possible. One of the big lessons of the financial crisis In Ireland and elsewhere was just how dangerous it becomes when regulators – and indeed governments – get in thrall to bankers. In Ireland it was about encouraging a culture of unfettered and insane lending activities: elsewhere it was about turning a blind eye to ruinous risk-taking, safe in the knowledge that government would bail out the ensuing mess.
But populist and illogical political interference in the day-to-day management of the banks simply postpones indefinitely the day when we get back a properly functioning and competitive banking system –which is why, in spite of the appalling mismanagement and bottomless cynicism they have shown themselves perfectly capable of displaying, the banks should be allowed to do their jobs and the Regulator to do his.