Extract from the transcript: Very long post
Pat Neary: No regulatory authority, including the Financial Regulator, central bank or any other part of the international financial system anticipated the scale of the meltdown in international markets or the dismantling of the interbank credit markets that arose from the collapse of Lehman Brothers. One thing, however, was clear, namely, the ability of all banks, including Irish banks, to raise other than very short-term funding in the market essentially was eliminated. The fear in the market caused large corporate deposits to move out of the banking system and seek the safety of sovereign instruments.
A question that has arisen is whether the loan exposures of Irish banks that are ultimately secured on property has contributed to the liquidity problems the banks faced before the Government guarantee was put in place. The global systemic failure in capital markets leading to the closedown of international interbank markets clearly is the main contributor to the lack of available funding. However, although Irish banks do not have exposures to the subprime losses and have had limited contact with so-called toxic products, the decline in share prices of the quoted Irish banks is being attributed by market commentators to the decline in the economic position here and the consequent prospects for both commercial and construction-related lending ultimately secured on property.
The Financial Regulator had been alert to this concern for some time and has already taken significant action. In 2006 and 2007, in response to the emerging issues in the property market, we took a number of measures aimed directly at speculative commercial real estate loans and high loan-to-value ratio mortgages, especially 100% mortgages. We required banks to set aside much more capital with regard to these types of loan. We also disapplied a number of options for lower capital weighting which were available under the capital requirements directive. Our capital regime is thus one of the more stringent in Europe.
Speculative lending to construction and property development in Ireland amounts to €39.1 billion, of which €24 billion is supported by additional collateral or alternative sources of cashflow and realisable security. This leaves a balance of €15 billion secured directly on the underlying property. There will undoubtedly be some losses on these exposures. However, any such losses would occur over a number of years and would be offset by profits on performing loans over the same period.
Among the actions we are taking are the following: we will immediately recruit an additional 20 senior supervisory staff with banking experience to be placed on-site in key banks to monitor developments; we are now requiring banks to set out new business plans focusing on the need to reduce their risk profile and how their models of banking are sustainable in the new environment; and there will be enhanced reporting obligations regarding capital, asset quality and individual large loans to supplement our daily liquidity reporting requirements. In addition, there will be a number of other measures announced by the Minister as part of the guarantee scheme.
Sean Ardagh:
This suggests that, contrary to the advertisements on buses which portray the Financial Regulator as protecting people, it is protecting the liquidity and solvency of financial institutions.
On the elephant in the room, while I am in no way suggesting that Mr. Neary should resign, there exists in the public domain questions in this regard. Perhaps Mr. Neary will outline for the committee the reasons he believes he should not resign.
Deputy Peter Kelly: I welcome the delegation to the meeting. I have only one question. Did the Financial Regulator see the current financial crisis coming?
Pat Neary: Deputy Kelly asked if we saw this coming. I do not think any regulator anywhere across the globe saw this meltdown and its proportions coming. There have been casualties in every country. It began in the United States but every European country has had casualties and every European government has had to invest huge amounts of money in solving the problem. Therefore, the answer is “No”; nobody saw this coming or foresaw the scale of the international crisis.
Deputy Ciarán Cuffe: I, too, have only one question for Mr. Neary. What job has he done right since the introduction of the euro?
Deputy Seán Sherlock: I have listened to what the Financial Regulator had to say. When he addressed this committee on 29 April I asked the following:
If a downturn occurs in the construction sector and there is potential for defaulting on loans, does that leave the banking sector vulnerable? Is there a role for the regulator in that regard in seeking to modify the behaviour of banks in terms of the way they loan to their customers in the future?
Aside from other questions I asked on the day, the response I got to that particular question from Mr. Neary was as follows:
There is no evidence that lending for speculative property development starved other sectors of resources. I have no sense of that happening but will reflect on the question and, if there is any evidence that it has taken place, I will revert to the Deputy with a reply.
Following on from Deputy Ardagh’s question, I would be more blunt. Is Mr. Neary’s position untenable?
Pat Neary: A concern was expressed as to whether the Financial Regulator was up to the task and the extent to which alarm bells were ringing. As I said, no regulatory authority anywhere foresaw the depth and impact of the recession. Having said that, if we wind back the clock to August 2007 when the seeds were sown and the first defaults occurred relating to securities backed by sub-prime mortgages, we will see that the domestic standing group was established at that stage. That group includes senior representatives of the Central Bank and the Department of Finance. Mr. Horan is our senior representative in the group and all of these issues were raised within it. All of these matters were on the table at the highest official level and contingency arrangements were put in place to deal with them, including crisis planning, ensuring there was access to the European Central Bank and so on.
Deputy Kieran O’Donnell:
In the light of what has happened, I seek Mr. Neary’s comments on his own financial stability report, published last November, in which it was stated, “The health of the banking system remains robust when measured by the usual indicators: solvency, profitability, liquidity asset quality and market indicators”. The facts do not bear this out. As for the future, does Mr. Neary believe there is an immediate requirement for a capital injection into the banking sector to keep it viable?
Senator Shane Ross: I thank Mr. Neary for his attendance at what is a difficult time for him. I do not hold the same view as some of my colleagues in that I believe he should resign. Moreover, he should have resigned some time ago. The reason is that it is very important that the Financial Regulator have the confidence of the people above everything else. It is obvious that he does not have the essential confidence that is necessary. The market investors in the banks have completely lost confidence in him, as have the banks’ depositors. Both groups have been voting with their feet. Investors have been selling their shares and depositors, certainly up to Monday fortnight last, were moving their deposits out of the banks as fast as they could to anywhere but those banks of which Mr. Neary is in charge. The only people who appear to have confidence in Mr. Neary are the bankers and property developers of this country.
Were such sentiments only coming from me, Mr. Neary would not need to worry too much. However, the criticisms of him are coming from everywhere. In an article in today’s edition of The Irish Times Mr. Michael Casey who worked in the Central Bank and is on the board of the International Monetary Fund states:
The Financial Regulator and Central Bank should have been more proactive at a much earlier stage in cooling the ardour of the property market. Even without the interest rate instrument there were several things which could have been done, ranging from moral suasion, to insisting on prudent loan-to-income and loan-to-property price ratios, from raising risk weightings for property to insisting on more diversified loan books within the banks.
He continues to make a key point about one of the problems Mr. Neary has inherited and of which he is part, by stating, “Close relationships between regulators and banks - difficult to avoid in a small country - will have to be ended”. The evidence is clear that the close relationship between the regulator and the banks is too cosy to be comfortable. Mr. Neary has often enunciated this point himself by stating he is not in favour of a highly regulated or rules-based system, but of a principles-based system. When asked for a definition, it is stated this allows “each regulated financial service provider to determine for itself how best to abide by regulatory requirements”. To me that is a licence to give all the cowboys in the banks freedom to do exactly what they like, when they like, within fairly loose rules. It is a laissez-faire attitude.
At the same time, the Financial Services Authority in the UK fined their banks £20 million. The difficulty we appear to be facing is that the thesis that the Financial Regulator is very close to the banks seems borne out by evidence. They seemed to be untouchables until very recently. I do not know of any instance where the regulator used its authority to stop particular candidates taking director positions in banks, which is also within the regulator’s power. I do not remember the regulator revoking a banking licence. It seems that the thesis that the Financial Regulator is so close to the banks is unanswerable, which is the reason the banks have been allowed to run riot in this crisis and lend to property developers willy-nilly.
I have two other queries. The consumer panel, which sits independently, stated in the last report quoted in the Comptroller and Auditor General’s report that “We have seen very little evidence in the year under review that the Financial Regulator has had the resolve to stand up to some institutions and individuals who are misbehaving”. That is an independent group, set up to look at what the regulator is doing, and it indicates the regulator is not standing up to these guys. It goes on to state “It seems that when challenged by misbehaving institutions, the Financial Regulator simply backed down”.
Ms Mary O’Dea: We discussed that with the consumer panel at the time and we reject the suggestion completely. When we believe we should face down the industry on an issue we do so. The consumer panel report is a lengthy document that, in many parts, is complimentary about our work. The report indicates that the consumer panel believes our work can make a big difference to consumers but on the aforementioned point we disagreed.
Deputy Kieran O’Donnell: It is a short question and I want to deal with it. Does the regulator believe those assets are worth €24 billion? That is the key? We all know the underlying assets at €15 billion are not worth what they were lent for.
Mr. Patrick Neary: I must go by the facts at my disposal. The €24 billion is supported by collateral alternative cashflows. These loans are being serviced. If the loans are repaid in full in accordance with the agreed repayment arrangements, there will never be any need to resort to-----
Deputy Kieran O’Donnell: How does the regulator define “being serviced”. Does he define it as being rolled up?
Mr. Patrick Neary: I define loans being serviced as loans operating in accordance with the contractual terms of the loan agreement.
Deputy Kieran O’Donnell: Has the regulator gone in and looked at them? These could be loans that are not being repaid, they are just rolled up. Does the regulator regard that as a repayment?
Mr. Patrick Neary: There can be situations where loans are given on that basis where there is a roll-up of interest. That is absolutely right.
Deputy Kieran O’Donnell: Therefore, what about bad debts? This is the key question.
Mr. Patrick Neary: Exactly. This is the point.
Deputy Kieran O’Donnell: The regulator is not answering the question. The question is very simple. Does he believe that the banks have a black hole in terms of bad debts? Is there a requirement for the State to immediately inject capital?
Mr. Patrick Neary: No. I have identified €24 billion in relation to the speculative lending construction and property development sector. Most market commentators believe that is the area which is the riskiest part of the business. These loans are extended on contractual terms. They are being serviced and supported by additional collateral. The question of how much of that €24 billion can be written down depends on the ability of people to service the loan and then on the collectability and value of the collateral or the other security that is available. One could write off-----
Deputy Kieran O’Donnell: This is affecting the liquidity of the banks.
Mr. Patrick Neary: Wait a minute. One could write off that €24 billion in its entirely against the capital of €42 billion. The Deputy asked if the banks are solvent. One could write off the €39 billion and the banks would still----
Deputy Kieran O’Donnell: What would the capital ratio requirements be after doing that?
Mr. Patrick Neary: Of course they would be in breach of the capital requirements. There is no question about that.
Deputy Kieran O’Donnell: Yes.
Mr. Patrick Neary: The Deputy asked me if the banks were solvent. One must remember that the job of the Financial Regulator is to ensure solvency to protect depositors. There is still net worth in the banking system if one writes off that entire €31 billion.
Deputy Kieran O’Donnell: With due respect, if the regulator does that the banks will get no access whatsoever to liquidity-----
Mr. Patrick Neary: Exactly.
Deputy Kieran O’Donnell: -----and they will not be able to function.
Mr. Patrick Neary: We are into a theoretical discussion.
Deputy Kieran O’Donnell: We are not. We are into a practical discussion.
Mr. Patrick Neary: We are into a theoretical discussion on the value of loans on the balance sheet of the banks. It is a completely theoretical discussion.
Later
Mr. Patrick Neary: There are a number of questions. We have dealt with the question of whether the banks are solvent.
Deputy Leo Varadkar: Is it correct that all six are solvent?
Mr. Patrick Neary: I am talking in terms of the system in place here. I cannot comment on the circumstances of individual banks
Deputy Leo Varadkar: Does the regulator mean that, collectively, the banks are solvent but there may be individual banks which are insolvent?
Mr. Patrick Neary: No, I would not say that.
Deputy Leo Varadkar: What is the regulator saying?
Mr. Patrick Neary: I do not want to be drawn into talking about individual banks.
Deputy Damien English: That is why we are here.
Deputy Seán Sherlock: That is what we are here to do. If the taxpayer is to underwrite a guarantee for the banking sector, it is fair that we should ask pertinent questions and have an open dialogue on the issue.
Mr. Patrick Neary: All of the banks are solvent. If they were not, they would be currently being wound up.
Deputy Damien English: Is that a guarantee?
Deputy Kieran O’Donnell: Are they all solvent?
Mr. Patrick Neary: They are all solvent.
Deputy Kieran O’Donnell: Does the regulator believe they are solvent?
Chairman: Let us be fair. This is hypothetical.
Deputy Damien English: Is that based on last year’s balance sheets?
Deputy Kieran O’Donnell: It is a legitimate question.
Chairman: It is hypothetical.
Deputy Damien English: Is the banks’ solvency based on the balance sheets of 2007?
Deputy Kieran O’Donnell: These are serious questions.
Deputy Seán Ardagh: The Deputy is not allowing the regulator to answer the questions. Good manners would allow that. As the Chairman said, if the Deputy has supplementary questions, he can ask them.
Deputy Damien English: It is budget day. We all have other things to do.
Mr. Patrick Neary:
Senator Ross said people may have lost confidence in me and that, as a result, I should have resigned. I dealt with that issue earlier but reject the suggestion I acted in the interests of the banks. I am a public servant and always act in the public interest. I enjoy the confidence of the authority.
Senator Shane Ross: Does Mr. Neary enjoy the confidence of the banks?
Mr. Patrick Neary: I sincerely hope I enjoy everybody’s confidence but the Senator has said that is not the case.
Senator Shane Ross: It is not the case in respect of the public.
Mr. Patrick Neary: That is an opinion but I reject the accusation that I act other than in the public interest in the way I do my job.
Senator Shane Ross: Has the regulator fined any banks?
Mr. Patrick Neary: Let me put it another way. With regard to AIB overcharging, it is important that we got significant amounts of customers’ money back.
Senator Shane Ross: Has the regulator fined any bank?
Mr. Patrick Neary: Fining is one option available to us. Putting things to right is also important. That has been our focus.
Senator Shane Ross: Has the regulator fined any banks?
Mr. Patrick Neary: No. We have not.
Deputy Joe Behan:
At the outset, I wish to note my deep concern, as a citizen of both Ireland and the world, regarding Mr. Neary’s statement that no financial regulatory authority in Ireland, Europe or the world was able to foresee the cataclysmic events that took place in the banking system. I would have thought that was the reason regulators were appointed and was the job they are meant to do on behalf of citizens. It is and will be of deep concern in general that the regulatory authorities of the world have failed abysmally to protect us from what has happened. Unfortunately, as already noted, if a price must be paid, it will be ordinary citizens who will be asked to pay it, which is highly disturbing.
Deputy Leo Varadkar: I have a 100% mortgage and, even though my income has just decreased by 5%, I am fortunate enough to be able to pay it. When I received my mortgage, the AIB required copies of my payslips and bank statements for three years. Should they not be required by all mortgage lenders? That appears to be a more appropriate approach than that of self-certification.
Ms Mary O’Dea: I would be surprised if most mortgage lenders did not follow that practice. It depends, however, on the nature of one’s job and the relative ease with which the necessary information can be provided. We are trying to strike a balance between allowing people to borrow money which they can legitimately repay and not making it so difficult that those whose income fluctuates can never get a mortgage. The vast majority of lenders would demand the information described by the Deputy. I am glad he had a positive experience.
Deputy Leo Varadkar: It was not that positive.
