Sunday, December 5, 2010

Economist Constantin Gurdgiev's Solution to Irish Banking Problem

The following is an extract from an article which appears in today's Sunday Independent. It is titled:

There is no safety in these numbers

....The first path requires abandoning the memorandum on the State's bank guarantee, signed with the troika, that commits the Irish State to ensure the continuation of bond repayments to Irish bank bondholders. This step is easy to take.

Within the ECB/EU/IMF team, it was the EU that insisted on underwriting bank bondholders, against the advice of the IMF. Even a simple glance at the numbers above would imply that should the EU continue to adhere to the same position, by 2012-2013 it will have to deal with the worst possible scenario -- an insolvent member state with insolvent banking and household sectors. The fallout from this for the EU would be far worse than some €60-90bn in the debt writedowns required to repair the Irish economy.

The next step -- after shredding the Irish Government commitment to the bank bondholders -- will be to rebuild the banking sector through a structured recapitalisation of the Bank of Ireland and AIB, by a combination of debt-for-equity swap -- setting current bondholders to equity holders in the banks -- the state purchase of shares in the banks at a heavily discounted price, and a restructuring of Irish bank debts to the ECB. Alongside these financial measures, the banks must be cleansed of their top management and reformed in areas of their long-term strategy and operations.

The state guarantee must remain only for the depositors and even this should be limited, after the reforms take place, to deposits under €200,000. A voluntary insurance scheme should be set up for all deposits in excess of that amount. It can be underwritten, in part, by the State in exchange for premium payments out of deposits. Anyone suggesting that a debt-for-equity swap would result in the Irish banking system collapsing altogether should go back to May this year, when the Bank of Ireland carried an €852m conversion of subordinated debt for equity, netting a capital gain of €233m in the process.

Restructuring bank debt today is the only alternative to a disorderly default in a few years' time. The latter outcome would imply -- following Argentina's and other recent scenarios -- a total stop to all functional banking operations in the country and a full restructuring of the sovereign and bank debts, carried out while the markets panic.....
Read the full article at Sunday Independent

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