Showing posts with label Banking reforms. Show all posts
Showing posts with label Banking reforms. Show all posts

Friday, October 6, 2017

Sunday, June 19, 2016

19/6/16: Irish Regulators: Betrayed or Betrayers?..


As I have noted here few weeks ago, Irish Financial Regulator, Central Bank of Ireland and other relevant players had full access to information regarding all contraventions by the Irish banks prior to the Global Financial Crisis. I testified on this matter in a court case in Ireland earlier this year.

Now, belatedly, years after the events took place, Irish media is waking up to the fact that our regulatory authorities have actively participated in creating the conditions that led to the crisis and that have cost lives of people, losses of pensions, savings, homes, health, marriages and so on. And yet, as ever, these regulators and supervisors of the Irish financial system:

  1. Remain outside the force of law and beyond the reach of civil lawsuits and damages awards; and
  2. Continue to present themselves as competent and able enforcers of regulation capable of preventing and rectifying any future banking crises.
You can read about the latest Irish media 'discoveries' - known previously to all who bothered to look into the system functioning: http://www.breakingnews.ie/business/report-alleges-central-bank-knew-of-fraudulent-transactions-between-anglo-and-ilp-740684.html.

And should you think anything has changed, why here is the so-called 'independent' and 'reformed' Irish Regulator - the Central Bank of Ireland - being silenced by the state organization, the Department of Finance, that is supposed to have no say (except in a consulting role) on regulation of the Irish Financial Services: http://www.independent.ie/business/finance-ignored-central-banks-plea-to-regulate-vulture-funds-34812798.html

Please, note: the hedge funds, vulture funds, private equity firms and other shadow banking institutions today constitute a larger share of the financial services markets than traditional banks and lenders.  

Yep. Reforms, new values, vigilance, commitments... we all know they are real, meaningful and... ah, what the hell... it'll be Grand.

Wednesday, January 13, 2016

13/1/16: Bail-ins in Europe: Have Some Fun, Legal Eagles…


In a recent article for Forbes, In Europe, 2016 Will Be The Year Of Lawsuits, Frances Coppola neatly summed up the problem of the EU’s attempts to structure a functional bail-in mechanism for failing banks resolution regime.

I covered to topic in a number of previous posts here (the more recent one). But as the first days of the New Year are rolling in, the problem is becoming apparent.

FT covered the problem with Portugal’s Novo Banco bail in here. Summing up the case: “Europe’s new regime for winding up failing banks has made an inauspicious start, as investors lashed out at the European Central Bank for allowing Portugal to impose losses on almost €2bn of senior bondholders in Novo Banco”.

And beyond Portugal, there is the case of Austria’s attempt to reduce burden on taxpayers from bailing out Hypo Alpe Adria via “imposing losses on bondholders through a reversal of guarantees given by the province of Carinthia”. Back in July 2014, the whole house of cards that is Europe’s ‘no-bail-outs’ promise of the new regulatory architecture was taken down by the Austrian court ruling that ex post bail ins of bondholders can’t be done. Which rounds things from the impossibility of ex post bail-ins to the impossibility of ex ante bail-ins.

And then there is the case of the Cypriot banks’ depositors bail-ins of 2012 that is about to start going.  A reminder of the case: “The EU initially agreed to provide bank recapitalisation assistance as it was necessary to safeguard the Eurozone, but in March 2013 the European Commission and the European Central Bank relented and set new conditions for providing financial assistance that involved depriving depositors of Cyprus Popular Bank (Laiki Bank) of all their savings – except the government-guaranteed amount of €100,000 – and in the case of Bank of Cyprus of 47% of uninsured deposits. The EU’S change of mind was unprecedented and unexpected because bank deposits are regarded as sacrosanct. …The EU was not prepared to assist depositors in Cyprus with €7 billion because the International Monetary Fund (IMF) was not satisfied Cyprus could sustain such a debt.”

One must also remember the role of the European ‘regulators’ in all of this mess. Take the Bank of Cyprus. It passed EU banks stress tests just before it crashed and burned in a subsequent bail-out and bail-in to the tune of €23 billion to the taxpayer and a 47.5% haircut on deposits over €100k.

It looks like 2016 is going to be a fun year for European financial sector ‘reforms’ and a stimulus to the legal profession. All paid for by the taxpayers, of course.

Tuesday, September 8, 2015

8/915: Five Years of Dodd-Frank Act: Two Posts on Reforms Impact


Five years ago, on July 19, 2010, President Barak Obama signed the most far-reaching regulatory reform of the U.S. financial system since the end of the Great Depression – Dodd-Frank Wall Street Reform and Consumer Protection Act.

The Act has three core pillars:

  • enhanced protection of consumers;
  • expanded regulatory reach over risk management (including the markets for derivatives), and
  • the Too-Big-To-Fail (TBTF) safeguards.

Given its ambitious scope, the Act was designed to shape American response to the Global Financial Crisis, both in terms of addressing some of the underlying causes, and mitigating future systemic risks. Not surprisingly, the passage of the Act was lauded at the time as a historic moment

My first post, covering Consumer Protection and Derivatives regulations under the Dodd-Frank Wall Street Reform and Consumer Protection Act is available here.

My second post on Dodd-Frank Act, covering regulation of TBTF banking and financial institutions is available here.

Friday, January 2, 2015

2/1/2015: Irish Banking System: Still Reliant on Non-Deposits Funding


A handy chart from Deutsche Bank Research on sources of funding - focusing on deposits - for euro area banks.
















Irish banks are an outlier in the chart, with domestic household and Non-Financial Companies deposits forming second lowest percentage of banks' funding in the entire euro area. As of Q3 2014, Irish banking system remains less deposits-focused and more funded by a combination of other sources, such as the Central Banks, Government deposits and foreign/non-resident deposits.

And the dynamics, post-crisis, are not impressive either: since the onset of the Global Financial Crisis, there has been lots of talk about increasing reliance on deposits for funding banking activities. Ireland's extremely weak banking sector should have been leading this trend. Alas, it does not:

Wednesday, October 9, 2013

9/10/2013: Leveraged and Sick: Euro Area Banks - Sunday Times October 6

This is an unedited version of my Sunday Times column from October 6, 2013.


Newton’s Third Law of Motion postulates that to every action, there is always an equal and opposite reaction. Alas, as recent economic history suggests, physics laws do not apply to economics.

The events of September are case in point. In recent weeks, economic data from the euro area and Ireland have been signaling some improvement in growth conditions. Physics would suggest that the reaction should be to use this time to put forward new systems that can help us averting or mitigating the next crises and deal with the current one. Political economy, in contrast, tells us that any improvement is just a signal to policymakers to slip back into the comfort of status quo.

Meanwhile, the core problems of the Financial Crisis and the Great Recession remain unaddressed, and risks in the global financial markets, are rising, not falling.

More ominously, the Euro area, and by corollary Ireland, are now once again in the line of fire. The reason for this is that for all the talk about drastic changes in the way the financial services operate and are regulated, Europe has done virtually nothing to effectively address the lessons learned since September 2008.


Last month we marked the fifth anniversaries of the Lehman Brothers’ bankruptcy and the introduction of the Irish banking guarantee. These events define the breaking points of the global financial crisis. In the same month we also saw the restart of the Greek debt negotiations ahead of the Third Bailout, the Portuguese Government announcement that its debt will reach 128 percent of the country GDP by the end of this year, a renewed political crisis in Italy, and continued catastrophic decline in the Cypriot economy. Public debt levels across the entire euro periphery are still rising; economies continue to shrink or stagnate. Financial system remains dysfunctional and loaded with risks. Voters are growing weary of this mess. In Spain, political divisions and separatist movements gained strength, while German and Austrian elections have signaled a prospect of the governments’ paralysis.

In Ireland, the poster boy for EU policies, pressures continued to build up in the banking system. The Central Bank is barely containing its dissatisfaction with the lack of progress achieved by the banks in dealing with arrears and is forcefully pushing through new, ever more ambitious, mortgages resolutions targets. Yet it is not empowered to enforce these targets and has no capacity to steer the banks in the direction of safeguarding consumer interests. Business loans continue to meltdown hidden in the accounts.

Meanwhile, the latest set of data from the banking sector is highlighting the fact that little has changed on the ground in five years of the crisis. Domestic deposits are flat or declining – depending on which part of the system one looks at. Foreign deposits are falling. Credit supply continues to shrink.


Perhaps the greatest problem faced by the euro area and Ireland is that since the late 2008, tens of thousands of pages of new regulations have been drawn up in attempting to cover up the collapse of the banking system. Well in excess of EUR 700 billion was spent on ‘repairing’ the banks. And yet, few tangible changes on the ground have taken place. The lessons of the crisis have not been learned and its legacy continues to persist.

There are three basic problems with euro area financial systems as they stand today - the very same problems that plagued the system since the start of the crisis. These are: high leverage and systemic risks, excessive concentration of the banks by size, and wrong-headed regulatory responses to the crisis.

European banks are still leveraged far above safety levels. Lehman Brothers borrowed 31 times its own capital in mid-2008. Today, euro area banks borrow even more. No new European rules on leverage have been written, let alone implemented.

New York University’s Volatility Lab maintains a current database on systemic risks present in the global banking sector. Top 50, ranked by the degree of leverage carried on their balance sheet, euro area banks had combined exposure to USD 1.376 trillion in systemic risks at the end of last week. The banks market value was half of that at USD668 billion. Average leverage in the euro area top 50 banks is 58.5 or almost double Lehman's, when measured as a function of own equity. Two flagship Irish banks, still rated internationally, Bank of Ireland and Ptsb, are ranked 37th and 46th in terms of overall leverage risks and carry combined systemic risk of USD11.4 billion. Accounting for the banks provisions for bad loans, the two would rank in top 20 most risky banks in the advanced world.

Compare this to the US banking system. The highest level of leverage recorded for any American bank is 20.4 times (to equity). Total systemic risk of the top 50 leveraged financial institutions in the entire Americas (North and South) is around USD489 billion, set against the market value of these institutions of USD1.4 trillion.

Since September 2008, systemic risk in the US banking system has more than halved. In the case of euro area, the decline is only one-fifth.

Euro area banks positions as too-big-to-fail are becoming even stronger as the result of the crisis. In the peripheral euro states, and especially in Ireland, this effect is magnified by the deliberate policies attempting to shore up their banking systems by further concentrating market power of ‘Pillar’ banks.


Another area in which change has been scarce is the regulations concerning the funding of the banks. The crisis was driven, in part, by the short-term nature of banks funding – the main cause for the issuance of the September 2008 banking guarantee in Ireland.

In the wake of the crisis, one would naturally expect the new regulatory changes to focus on increasing the deposits share in funding and on reducing banks’ reliance on and costly (in the case of restructuring) senior bonds. None of this has happened to-date and following Cypriot haircuts on depositors one can argue that the ability of euro area banks to raise funding via deposits has now been reduced, not increased.

In addition to driving consolidation of the sector, Europe’s political leaders promised to raise the capital requirements on the banks. Actions did not match their rhetoric. Higher capital holdings are not being put in place fast enough. The EU is actively attempting to delay global efforts at introduction of new minimum standards for capital. As the result, current levels of capital buffers held by the top 50 euro area banks are below those held by Lehman Brothers at the end of 2008. Irish banks capital levels, even after massive injections of 2011, are also lower than that of Lehman’s once the expected losses are accounted for.


Even more ominously, the ideology of harmonisation as a solution to every problem still dominates the EU thinking. This ideology directly contradicts core principles of risk management. By reducing diversity of the regulatory and supervisory systems, the EU is making a bet that its approach to regulation is the best that can ever be developed. History of the entire European Monetary Union existence tells us that this is unlikely to be the case.

Moving from diverse regulatory systems and competitive banking toward harmonised regulation and more concentrated financial sector dominated by the too-big-to-fail ‘Pillar’ institutions implies the need for ever-rising levels of rescue funds and capital buffers.

Currently, there are only two proposals as to how this demand for rescue funds can be addressed. You guessed it – both are utterly unrealistic when it comes to political economy’s reality.

The first one is promising to deliver a small rescue fund for future banks rescues capitalized out of a special banks levy. The fund is not going to be operative for at least ten years from its formation and will not be able to deal with the current crisis legacy debts.

The second plan was summarized this week in the IMF policy paper. Per IMF, full fiscal harmonisation is a necessary condition for existence of the common currency. A full fiscal union, and by corollary a political union as well, is required to absorb potential shocks from the future crises. The union should cover better oversight by the EU authorities over national budgets and fiscal policies, a centralised budget, borrowing and taxing authority, and a credible and independent fund for backstopping shocks to the banking sector. In more simple terms, the IMF is outlining a federal government for Europe, minus democratic controls and elections.

Under all of these plans, there is no promise of relief for Ireland on crisis-related banking debts. In fact, the IMF proposals clearly and explicitly state that the stand-alone fund will only be available to deal with future crises. Addressing legacy costs will require separate mutualisation of the Government liabilities relating to the banking sector rescues. The IMF proposal, in the case of Ireland, means accepting tax harmonisation and surrendering some of the Irish tax revenues to the federal authorities.


At this stage, it is painfully clear to any objective observer that fundamental drivers of the Financial Crisis triggered by the events of September 2008 remain unaddressed in the case of European banking. Thus, core risks contained in the financial system in Europe and in Ireland in particular are now rising once again. Politics have been trumping logic over the last five years just as they did in the years building up to the crisis. This is not a good prescription for the future.






Box-Out: 

A study by the Bank for International Settlements researchers, Stephen Cecchetti and Enisse Kharroubi, published this week, attempted to uncover the reasons for the negative relationship between the rate of growth in financial services and the rate of growth in innovation-related productivity. In other words, the study looked at what is known in economics as total factor productivity growth – growth in productivity attributable to skills, technology, as well as other 'softer' sources, such as, for example, entrepreneurship or changes in corporate strategies, etc. The authors found that an increase in financial sector activity leads to outflow of skilled workers away from entrepreneurial ventures and toward financial sector. This, in turn, results in the financial sector growth crowding out growth in R&D-intensive firms and industries. The study used data for 15 OECD countries, including some countries with open economies and significant shares of financial sector in GDP, similar to Ireland. The findings are striking: R&D intensive sectors located in a country whose financial system is growing rapidly grow between 1.9 and 2.9% a year slower low R&D intensity sectors located in a country whose financial system is growing slowly. This huge effect implies that for the economies like Ireland, shifting economic development to R&D-intensive activity will require significant efforts to mitigate the effects of the IFSC on draining the indigenous skills pool. It also implies that Ireland should consider running an entirely separate system for attracting skilled immigrants for specific sectors.

Friday, December 30, 2011

30/12/2011: Taleb's quote

AN excellent quote from Nassim Taleb via @econbrothers :

"If we attempt to systematically extinguish all forest fires, we will eventually experience a big one".

Which, of course, goes to describe concisely and precisely the fallacy of rescuing all banks that Europe has pursued as a principled policy. The old Schumpeterian creative destruction is a required condition for functioning of the private economy, with the latter being the required condition for functioning of the public economy as well. Bankruptcy - as a tool for clearing the hazardously dead forest of private enterprises - must apply to the banks too.

By underwriting the entire private banking system, the EU has created the Mother of All Hazards - a dry forest with numerous pockets of quasi-extinguished fires burning. Now, all we need is wind...

Monday, September 19, 2011

19/09/2011: Highly Leveraged Banks' real impact on economy

An interesting paper from CEPR sheds some (largely theoretical) light on the real side of the current global financial crisis.

CEPR DP8576 titled "Financial-Friction Macroeconomics with Highly Leveraged Financial Institutions" by Sheung Kan Luk and David Vines (September 2011: available here) models the current crisis by adding "a highly-leveraged financial sector to the Ramsey model of economic growth". The paper shows that the presence of high leverage in financial sector "causes the economy to behave in a highly volatile manner" and thus exacerbate the macroeconomic effects of aggregate productivity shocks.

The model is based on the mainstream financial accelerator approach of Bernanke, Gertler and Gilchrist (BGG). The core BGG model assumes leveraged goods-producers are subjected to idiosyncratic productivity shocks, inducing them to borrow from a competitive financial sector.

Luk and Vines, by contrast, assume that "it is the financial institutions which are leveraged and subject to idiosyncratic productivity shocks." As the result of this, leveraged financial institutions "can only obtain their funds by paying an interest rate above the risk-free rate, and this risk premium is anti-cyclical [ in other words the premium is higher at the time of adverse productivity shock, i.e. during the recession], and so augments the effects of shocks."

Luk and Vines parameterise the model to US data under the assumption that "the leverage of the financial sector is two and a half times that of the goods-producers in the BGG model". The assumption is relatively robust for the current environment in the US. It is probably less robust in the case of the EU where financial sector leverage is likely to be higher in a number of countries due to:
  1. Traditional over-reliance on debt financing of the banking sector
  2. Lower rates of deleveraging in the banking sector than in the US, and
  3. Greater deposits attrition during the crisis.

The study finds that the presence of leveraged financial institutions "causes a much more significant augmentation of aggregate productivity shocks than that which is found in the [traditional] BGG model."

In the nutshell, this provides a plausible explanation as to the channels through which financial sector funding and operational strategy risks (leading to higher leverage) transmit through to real economy. It also links more directly monetary policy to the real economy as well. Ben, keep that printing press running... nothing can possibly go wrong with negative interest rates, mate.

Friday, June 18, 2010

Economics 18/06/2010: Banks, bonds and banks again

Brian Lenihan confirmed yesterday that the Government is now seeking an extension of the bank guarantee scheme by 3 months to the end of 2010 to coincide with capital requirement deadline set by the FR. The extension with cover new liabilities of 3mo-5 years and will not cover subordinated debt. This was expected, given the profile of maturing banks debt and the dire conditions in the funding markets where investors have been reluctant to extend new funds to Irish banks (based on the high risk perception concerning the sector and geography) and the interbank lending markets remain in elevated yields territory. Sovereign spreads reaching 313 bps for 10 year paper over the bund are not helping either, record levels, indeed.

Added uncertainty weighted on the banks is stemming from the rumors surrounding the issue of regulatory controls that the Central Bank is expected to impose on banks loans distribution across various sectors. It is expected that the CB will push (next week?) for specific maximum exposure ceilings on lending to property sector for banks. If so, this will require serious re-thinking of Irish banks models away from the traditional reliance on property-based collateral deals going to finance more property-related investments and in favour of more business and consumer oriented banking.

The winner - of the Big 4 - here will be BofI, which has a much more customer-oriented model of consumer banking than AIB (not to mention ptsb or Anglo). But all banks will find it challenging to bring in more consumer orientation in the environment where thy are trying to push up margins on existent paying clients. And even more importantly, all banks will find it difficult to enter serious business investment markets.

Meanwhile, on wholesale funding side, things are now so desperate that the EU - never the first to push for greater transparency - is being forced to publish the results of stress tests on the region’s banks. Expected before the end of this month, the tests are likely to be a hogwash - Merkel already stated that the 'EU has taken precautionary measures' in relation to stress tests results. Whatever this might mean, one wonders.

There's an excellent post on econbrowser blog (here) on the extent of the PIIGS banks problems and the expected size and geographic distribution of potential contagion. A chart below says it all:
I mean, really, folks, we beat Greece and Portugal as a combination. And for UK banks, we beat all other 3 sickest puppies.