Ireland Sets Up A 'Bad Bank' As First Eurozone Country: Will Others Follow Suit?

Irish bank debt plan a first for Europe

By John Murray Brown
Published: April 7 2009 20:39 Last updated: April 7 2009 20:39

Brian Lenihan, Ireland’s finance minister, described it as a bold and radical measure. But the plan for the state to assume the bad debts of the country’s main commercial banks was attacked by the main opposition party as a "big time bomb" for the Irish taxpayer.

The Irish plan, the most striking part of Tuesday’s emergency budget, involves a government-controlled agency taking property assets and loans to developers off the banks’ books in return for government bonds. Mr Lenihan said the agency would take over loans with a book value of €80bn-€90bn ($59bn-$67bn, £54bn-£61bn), although actual value is much lower.

Ministers expect banks, which have benefited from a blanket government guarantee since last autumn, to co-operate with the plan though the government is willing to pass legislation to enforce the transfer if necessary. The government already has 25 per cent of Bank of Ireland and is finalising a plan to take a similar stake in Allied Irish Banks.

The transfer may force banks to recognise additional losses, although the government said it was prepared to recapitalise those institutions in return for ordinary shares if necessary.

The "bad bank" proposal makes Ireland the first European country to offer to take toxic assets off the balance sheets of lenders that are still privately owned. Similar structures have been examined in other countries such as the UK, but were abandoned because it would be too difficult to value the assets properly.

The Irish plan is simpler than schemes adopted by other European governments because the main problem for Irish banks is bad loans caused by a speculative property boom, rather than holdings of complex debt securities.

However, Mr Lenihan is likely to face considerable public anger over the plan. Aware of the public perception that it represents another bank bail-out, he emphasised "this is not something the banks especially want because we’re insisting on the banks taking their losses up-front for the sake of the economy".

The governing Fianna Fáil party has in the past been accused by opposition parties of favouring the building industry, many of whom are big political donors. But Mr Lenihan said those who borrowed money would have to repay their loans in full, and warned "there will be a hardening of the approach to these borrowers".

He acknowledged that the issuance of bonds would result in a "significant" increase in national debt levels, but "the cost of servicing this debt will be offset, as far as practical, from income accruing from the assets of the new agency." Any shortfall would be met by a levy on the banks’ assets.

Richard Bruton, Fine Gael finance spokesman, said it was an enormous gamble. "We don’t know what price the taxpayer will have to pay. We don’t know if the working out of this leaves a huge deficit. Will the bankers pay up?"

He pointed out the value of assets being assumed by the new agency was "equivalent to more than 50 per cent of GDP, the equivalent of 12 years of income tax".

In an interview with Irish radio, Mr Lenihan conceded it might be 10 years before the full cost would be clear.