August 25 2009
I am writing to you in response to your recent letter asking for comments and observations from Fine Gael on the draft NAMA Bill in order to facilitate a discussion at the Oireachtas Joint Committee on Finance and the Public Service on August 31.Fine Gael Concerns about NAMAAs you are aware, Enda announced last Friday that Fine Gael does not support the Government's approach to resolving the banking crisis. Our concerns about the NAMA Bill arise from its potentially colossal cost, from its uncertain benefits and from the evident unfairness of asking taxpayers to take responsibility for the reckless behaviour of developers and banks. In particular, we are concerned at:
* The likelihood of over-payment by taxpayers to bank shareholders and bondholders for toxic bank assets of highly uncertain value. The distinction in the draft Bill between current "fire sale" market prices for bank assets and their underlying property collateral and their long-term economic value has some valid theoretical underpinnings, but in practice the latter is impossible to estimate. The banking and property crashes in other countries such as Japan should be a cautionary tale for those who believe that the price for certain types of property will inevitably recover from current market prices. Given the scale of this venture, over-payment could hobble the public finances for a decade;
* The doubtful impact of NAMA on the current lack of bank credit for businesses and households; and
* The wisdom and fairness of transferring responsibility to the taxpayer for the collection of troubled developer debts, and the terrible incentives this creates for repeated reckless behaviour by banks at some future date.
A Fine Gael Alternative
As you know, Fine Gael has, as far back as last April, offered a two-track alternative to NAMA that we believe addresses these problems.
Under Track 1, we propose to ensure improved credit availability for businesses by the establishment a wholesale "Good Bank", or National Recovery Bank, capitalised by the State and further leveraged by the ECB and funding markets using the "asset covered bond" model that is well-established in other EU countries.
In parallel, under Track 2, the banks would be given until the end of the Guarantee period in September 2010 to pass a rigorous "stress test" to show that they had repaired their own balance sheets by selling assets (such as foreign subsidiaries), raising more deposits and negotiating down their own liabilities to long-term providers of risk capital and funding.
In the event that the banks cannot pass such a Stress Test by the end of the Guarantee period, Fine Gael's proposal is to split each failed bank into two, leaving the assets with the most uncertain values (the developer loans) in legacy property management companies owned largely by the shareholders and other classes of risk investors.
Deposits, other short-term liabilities, easy-to-value loans like mortgages and business overdrafts, the branch networks and the vast majority of the staff would all move safely and seamlessly into a new, going concern "clean bank", initially owned and guaranteed by the taxpayer. These new "clean banks" would be well capitalised with a clean balance sheet and fully open to resume lending.
We are confident that this break-up procedure would never prove necessary for most of the banks, as they and their investors would have every incentive to avoid it. All the major banks have already announced plans to buy back debt from their bondholders at a discount in a way that generates capital to absorb future losses. These types of "debt buybacks" and debt-to-equity conversions would accelerate dramatically under our policy and at greatly discounted prices.
The advantage of this model over the current NAMA proposal is that the risks and responsibilities associated with working out distressed developer-related loans would remain with those professional bankers and investors that funded the loans and that are best placed to recover them. While the taxpayer may have to have some participation in the legacy property management companies, their losses will only be incurred after the private investors. Private investors would employ the best skills and judgement to recover as much of the money as possible, and there would be no public disquiet about a soft-touch approach for the well-connected developers.
I am, of course, aware of your oft-stated concerns regarding the implications of our proposal for financial stability. But it is international best practice for risk investors in the banks, including some classes of bond-holders, such as owners of subordinated debt, to absorb loan-related losses ahead of taxpayers. This, after all, is the nature of capitalism.Financial stability would also be maintained during this process by extending the Guarantee as necessary on debt roll-overs and all new funding coming into the banks until the sufficient recapitalisation has been achieved and confidence restored.
The Need for a Full Debate on Alternatives to NAMA.
It is disappointing that, given the enormity of the decisions we face over the coming months, that the Government has facilitated so little considered and objective evaluation of the benefits and weaknesses of the NAMA proposal vis--vis the alternatives. To justify its assertion that there is no workable alternative to NAMA, the Government to date has published nothing more than an 11-page summary of a report by Peter Bacon.
I would respectfully suggest that this has not been a formula for generating cross-party or widespread public support for any proposal to deal with the banking crisis. The draft NAMA Bill should now be delayed. In September, the Oireachtas Joint Committee on Finance and the Public Service should hear testimony from international and domestic experts of the pros and cons of the NAMA proposal vis-a-vis the alternatives that have been presented by other Parties and experts.
Detailed Observations on NAMA.
As I hope you appreciate, Fine Gael's preferred approach to resolving the bank crisis is based not on a dogmatic attachment to a particular model, but rather on a set of core principles: protecting the taxpayer from huge, unmanageable risks; minimising and ensuring a fair distribution of the losses associated with reckless lending by the banks and reckless investments by developers; and improving financial stability and credit availability for struggling businesses and families.
Notwithstanding our deep concerns about the principles underlying the Government's proposed approach to resolving the banking crisis, I am nonetheless concerned to submit detailed observations on how the draft NAMA Bill might be radically overhauled in order to protect the taxpayer and the wider economy.
Below I set out nine specific issues on which I would welcome further detailed engagement by the Minister at the Oireachtas Committee with a view to agreeing amendments to the draft Bill on which I hope all Parties might agree.
1. We want to explore how the Bill could be re-drafted to protect the taxpayer from over-payment to the banks by NAMA by minimising political interference in the process and by establishing a fully independent appeals mechanism that could also hear appeals against high valuations by NAMA.The Government had claimed prior to the publication of the draft Bill that the valuation process would be immune from political influence. But the draft Bill gives the Minister very substantial influence on the "adjustment factors" that NAMA must take into account when estimating the "long term value" premium over current market prices. Valuations and payments by NAMA to the banks can be over-ruled and increased by the Minister, while there is no corollary provision for independent or Ministerial challenge for over-payment by NAMA for bank assets.
2. We want to explore how the NAMA Bill could be re-drafted to ensure that owners of risk capital (both equity and subordinated debt) fully share in the losses resulting in write-downs by NAMA.In particular, we want further clarity as to what status the stated Government policy of avoiding nationalisation of the banks plays in the valuation process. We also want to understand the mechanisms for ensuring losses are absorbed by owners of non-equity risk capital (subordinated debt) in the event that the write-downs by NAMA more than wipe out all the equity in the banks.
3. We want to explore how the NAMA Bill could be re-drafted to allow for risk-sharing between the taxpayer and risk investors in the banks in the future work-out of the bad loans, as has been recommended by the IMF. We do not accept that the bank levy promised by Government to recover NAMA losses is a credible mechanism for risk-sharing between taxpayers and investors.In this regard, we would welcome your views on Professor Patrick Honohan's recommendation that NAMA should pay the banks less than fair value for bad loans, but in return give owners of bank equity and subordinated debt an ownership share in NAMA with upside potential.
4. We want to explore how the Bill could be re-drafted to re-assure the taxpayer that the over-riding objective of NAMA is to maximise the returns to taxpayers on assets purchased by collecting as much of the debts owed as possible, and to put in place the necessary clarity of mandate, robust incentives to achieve this objective, and set benchmarks of comparison. It is not appropriate that this be left to unpublished guidelines.
Only last November, the IMF finished a study on banking and property busts in seven other countries where the NAMA approach was adopted, and concluded that "Government-owned asset management companies appear largely ineffective in resolving distressed assets, largely due to political and legal constraints."
In layman's terms, the IMF believes that state quangos are much less skilled than private bankers at recovering loans from well-connected borrowers. In France, a similar state-owned asset management company in the 1990s lost a total of EUR18 billion (including funding costs) out of EUR28 billion of assets purchased from Credit Lyonnais.
In this regard, a major weakness in the draft Bill is the absence of any principles to guide its relationship with the developers, such as the policy on foreclosures, bankruptcies, work-outs or any of the other hard-nosed aspects of asset management which must be present to protect taxpayers. For example, without explicit protections, there is a very real prospect that in a few years' time, these same individuals will pop up again to buy these assets at an enormous discount, only this time they will be backed by funding from the same banks whose liquidity problems are now being eased. This will not, in my view, be acceptable to the public.
It is not conducive to public confidence that this be left to unpublished, future guidelines to be drafted by the Minister. The "rules of engagement" between NAMA and developers in default of their loans must be clarified in advance.
5. We want to explore how the Bill could be re-drafted to deliver new innovative mechanisms for political oversight, transparency and accountability of this extraordinary agency. These would include giving the Oireachtas an oversight and approval role for the appointment of the directors and CEO, providing "whistle-blower" protections for insiders exposing mal-practice and ensuring detailed oversight and reporting to the Oireachtas by experts appointed by the Office of the Comptroller and Auditor General of all key stages in the NAMA process, such as loan valuation and asset recovery.
6. We want to explore how the Bill could be re-drafted to require banks that participate in the Scheme to use a proportion of the extra ECB liquidity generated to support bank lending to SMEs and households. There is a danger than banks will use the extra ECB funding only to build up their cash reserves or to pay down other inter-bank or market liabilities.
7. We want to explore how the Bill could be re-drafted to deliver new supports for home-owners at risk of repossession, such as a Scottish-style equity purchase scheme by NAMA for householders facing repossession from mortgage lenders designed to bring their debts down to manageable levels (combined with some mortgage debt write-down by the banks).
8. We need further clarity on the method of payment for loans by NAMA, with particular regard to the coupon to be paid on NAMA bonds in short and long-term and other terms and conditions. We need greater clarity on the agreement with the ECB on NAMA bonds, including whether the ECB has committed to accepting NAMA bonds as collateral for liquidity operations over full duration of life of NAMA.
9. We want to explore how the Bill could be re-drafted to establish the principles under which NAMA will manage the property market (in which it will be a weak monopoly seller) in Ireland's long-term economic interests.I look forward to further engagement and debate on this most important issue for the country over the coming weeks.
Richard Bruton T.D.