2. Anglo & INBS Crash
ο 2008 β Irish property bubble spectacularly bursts
ο September 2008 bank guarantee
β¦ 2009 β Merrill Lynch states βAnglo is financially soundβ
β¦ 2009 β Anglo is nationalised
β¦ March 2010 β Anglo posts the largest loss in Irish corporate
history (β¬12.7 billion for 2009)
β¦ March 2011 β Anglo then breaks its own record (β¬17.7
billion loss for 2010)
β¦ The INBS numbers are proportionally even worse
β¦ Both banks insolvent
3. Now - The IBRC
ο Anglo Irish Bank = β¬29.3 billion
β¦ Defunct β no new deposits and no new loans
β¦ Insolvent
β¦ Under criminal investigation
ο Irish Nationwide Building Society = β¬5.4 billion
β¦ Defunct β no new deposits and no new loans
β¦ Insolvent
ο β¬30.6 billion promissory notes β to pay for ELA
β¦ Letters of comfort
β¦ Never brought before the Oireachtas
ο β¬4.1 billion exchequer payments
4. Guarantee
ο The Anglo/INBS debts were originally guaranteed
by the Irish State in September 2008 as part of the
blanket bank guarantee
ο The Irish Government made an initial payment of
β¬4 billion to cover Angloβs debts in 2009. This was
paid out of the exchequer finances. β¬0.1 billion was
paid to INBS
ο Over the course of 2009 and 2010 it became
increasingly clear that Anglo and INBS were
insolvent
5. Averting Collapse
ο If the insolvent banks were to collapse their debts
would have fallen back on the Irish State and
become sovereign debt - a consequence of the
bank guarantee
ο To prevent this the Irish Government had to obtain
external funding β the Eurosystem of Central
Banks was the only realistic source of this funding
ο Anglo did not have sufficient eligible (i.e. good
quality) collateral to obtain the required amount of
Emergency Lending Assistance (ELA) from the
Central Bank
6. Emergency Lending
Assistance
ο To prevent their collapse the Government
negotiated a mechanism with the Central Bank of
Ireland setting out the conditions under which the
Central Bank would provide Anglo/INBS with
sufficient Emergency Lending Assistance (ELA)
ο This required the implicit consent of the European
Central Bank (ECB) governing council.
ο Any future changes to the agreed mechanism also
require the consent of the ECB governing council
7. Paying Back the ELA
ο The ELA provided by the Central Bank to the
IBRC is what enables the IBRC to pay-off its
obligations
ο Most of the bondholders have now already
been paid using this ELA
ο The ELA is also used to pay-off
creditors/depositors and to enable the IBRC to
retain its banking license
ο Eventually the ELA has to be paid back to the
Irish Central Bank
ο This is done through promissory note
repayments
8. Promissory Note
ο The Irish Government negotiated with the
ECB governing council to create a
βpromissory noteβ as a liability owed to the
IBRC (Anglo/INBS)
ο The promissory note is therefore an asset
of the IBRC
ο This asset can be used by the IBRC as
collateral to obtain the necessary ELA from
the Central Bank
ο This is because the Irish Government is
backing the promissory note with βletters of
comfortβ
9. The price
ο A promissory note is a negotiable
instrument
β¦ one party (in this case the Government) makes an
unconditional promise in writing to pay a defined sum of
money to the other party (in this case Anglo/INBS β now
called IBRC), on specified future dates or on dates to be
determined, under specific terms
ο The Stateβs obligation is to pay down
β¬30.6 billion over 20 years (2011-
2031)
10. How it works
ο The promissory note repayments are paid to
the IBRC β the IBRC then reduces its ELA
obligations to the Central Bank
ο In practical terms the Irish Government has
received a loan from the Central Bank to pay
off the bondholders
ο It is ultimately a transfer of wealth from the people living
in Ireland to the bondholders that lent to Anglo/INBS
ο The bondholders and other creditors continue to be
paid using the ELA from the Central Bank β the
promissory notes represent our commitment to
eventually repay the Central Bank
11. How much it costs
ο The Irish Government is scheduled to make over β¬47 billion
of promissory note related payments between March 2011
and March 2031. This is composed of:
β¦ β¬30.6 billion capital reduction β the β¬30.6 billion owed
β¦ β¬16.8 billion in interest repayments
ο Much of the funding for this will need to be borrowed unless
the State is running substantial fiscal surpluses. This is very
unlikely in the medium-term
ο These borrowings will therefore also have to be financed
β¦ at an assumed 4.7% interest rate on borrowings the total cost to
the State will reach β¬85 billion by 2031
β¦ Some of which will eventually return to us due to the circular
nature of the payments
12. What happens when the ELA is paid
back to the Central Bank?
ο Central Bank of Ireland (CBI)
ο Asset side of their balance sheet
β¦ CBI reduces its ELA assets by β¬3.1 billion
ο Liability side of their balance sheet
β¦ CBI expunges β¬3.1billion from the system
β¦ Inflationary impact if this is not done β increasing the
money supply (monetisation of debt)
13. Socio economic implications
ο Over 2% of GDP will be drained out of the
State each year up to 2023 to make the
promissory note repayments
β¦ this will be through an additional β¬3 billion to β¬4 billion
of fiscal consolidation (tax increases/spending cuts)
ο IMF research (Leigh et al, October 2010) indicates
that each 1% of fiscal consolidation:
β¦ reduces GDP by 0.5% to 1% and
β¦ Increases the unemployment rate by 0.3 percentage
points
14. Socio economic implications
ο The β¬3.1 billion promissory note payment due to be
made by the state on behalf of the former Anglo on
March 31 2012 is:
β¦ greater than the total cost of running Irelandβs entire
primary school system for an entire year and
β¦ greater than the estimated cost to provide a next
generation broadband network for all of Ireland (β¬2.5
billion).
ο β¬30.6 billion is equivalent to just under 20% of
Irelandβs current GDP or β¬17,000 for each person
working for pay or profit in the State. β¬47.9 billion is
30% of Irelandβs current GDP.
15. The issue
ο The interest rate is not the issue
β¦ A red herring
οThe real issues are:
The size of the principal
β¦ Reduction in the principal β write down
When we are making the repayments
β¦ Changing the schedule of repayment β
holiday, postponement
16. Risks in promissory note
suspension/postponement?
1. βThe ECB will cut off funding to our
pillar banksβ
2. βIt will impact on the European banking
systemβ
3. βIt will undermine investor confidence in
Irelandβ
4. βIt is a condition of the EU/IMF
Memorandum of Understandingβ
Are these risks plausible?
17. Risks to
suspension/postponement?
ο βThat the ECB would cut off funding to our pillar
banksβ
β¦ Remove funding and the pillar banks will fall
β¦ But this would trigger the very contagion the ECB has been
trying to prevent
β¦ ECB cannot give the pillar banks inferior T&C to other Euro
zone banks
ο βImpact on the European banking systemβ
β¦ Promissory note payments do not involve the European
banking system
β¦ No precedent created as IBRC is not a functioning bank
18. Risks to
suspension/postponement?
ο βUndermine investor confidence in Irelandβ
β¦ Not a sovereign default
β¦ Ireland is already shut out of the markets and locked into
an official programme of assistance until the end of 2013
β¦ Amelioration of the Anglo/INBS burden improves Irelandβs
debt dynamics and makes Ireland better placed to pay its
other debts
ο βA condition of the EU/IMF Memorandum of
Understandingβ
β¦ The promissory note repayments are not a condition of the
deal agreed with the troika
19. Decision makers - ECB Governing
Council
ο ECB concerns:
β¦ Precedent regarding repayment of debt obligations β
parachute drop analogy - floodgates
β¦ Adherence to rules and protocols β is flexibility legal?
β¦ Mildly inflationary β monetization of the debt
ο But the ECB need a success story
β¦ The Greek programme has already failed
β¦ The Portuguese programme is failing
β¦ Italy is in the firing line
β¦ Promissory note flexibility can help prevent the Irish
programme from failing
21. What about the bond?
ο β¬1,250m of Anglo Irish Bank senior
bonds
β¦ Not covered by the guarantee
β¦ Not secured against Angloβs assets
ο Disingenuous to say we are not
paying it
ο Moral hazard and the ECB