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if this was a bank it would have survived and had a good chance of growth. But no. One must wonder if banks have any competence in business either theirs or other people's.



Separating into two banks? One with deposits and another with the bad risky loans? oo er what does that remind you of? the solution from the 1930s? that was abandoned in the 80s? under hayekism? 'U turn if you want to. The banks are not for turning'

where is the economic 'reset' button?

Sweet...M&M's in a ³ÉÈË¿ìÊÖ economics blog.
We are redefining what a 'risk free' return is. Does 'risk free' even exist anymore? How can capital markets price risk if the ground floor has just become the basement? What are the implications for stock market valuations if the bond market no longer has a floor. How can companies price in finance costs when their WACC has gone all wacky?
We have just discovered a lake full of Black Swans.

The Irish state is bankrupt. It should be dissolved and reconstituted as Eire-2011, rather like Rolls-Royce was raised from the ashes in 1971 as Rolls-Royce (1971) Limited.

The state should be reconstituted with its own fiat currency, so that internal trade can function. Irish bank depositors can be credited on a sliding scale. The new state should take over all mortgages, replacing mortgage debt with a proportionate time-expiring special property tax. Obviously, those at the top who caused the crisis won't be able to pay, so they can be repossessed.

Ireland may need a second currency to enable international trade, which should be subject to strict exchange controls.

Perhaps this could be a model for all of us? Let sovereign states, metaphorically speaking, warp to a new universe, leaving the diseased banks behind us!

Objections? People mention pensions. At the moment states are paying banks and bondholders so that, after bonuses, admin and other rake-offs, they can pay pension schemes. Surely it would be cheaper and more efficient just to pay pensions directly and cut out the parasitic middlemen.

The Gordian knot of debt will never be able to be unraveled: it must be sliced through!

Modigliani and Miller studied the effect of leverage on the firm's value, but their Proposition I (1958), stating in the absence of taxes, the firm's value is independent of its debt is abundantly not true; in fact, it doesn't even seem true. Consequently everything based on Proposition I is not true.
Franco Modigliani and Merton Miller (MM for short) were awarded the Nobel Prize in Economics, even though their Proposition I appeared (even then) to be incorrect.
The basic MM's idea is that the value of the firm does not depend on how the stakeholders finance it. The capital structure of the firm is the combination of debt and equity in it.
A second untruth: VL the value of the levered firm is equal to VU the value of the unlevered firm. Excuse me, but what!
So, if I was assessing Ireland in any way, I would toss out M&M.
The 1950s doyens of capital structure theory were SIMPLY WRONG.
As for your layman's explanation of capital structure as it applies to banks. All firms raise money. But banks have, uniquely, three sources: 1. the deposits of savers
2. money raised by issuing shares (equity), and
3. loans from other companies, mostly other financial institutions.
It is this third that has caused utter havoc. It is this third that came with nefarious financial instruments (like bundled derivatices and CDOs)that hid bad debt (rotting debt). In my opinion, this third likely hides ample white collar crime.
Senior debt is a form of credit where it is recognised in law that the lender must be paid back before anybody else, but this obligation can be, and should be, subject to audit, especially with the nefarious financial instruments that have been unleashed on the EU from the United States of America (that repealed Glass-Steagall, the act that severed commercial banking from investment banking).
Here is then KEY: reality is all messed up here. Since the government has guaranteed these secured debts, much of which have gone bad, the "senior unsecured" have to be forced to take a discount, or "haircut". (I don't believe this is legal.) But in October 2008 the Irish government issued a total guarantee on all deposits.
After this is all over the theory of capital structure may have to be rewritten. We will have many examples of what happens when the market not only becomes imperfect, but is effectively abolished by the state. The insights of M&M will seem far distant, but the repeal of the Glass-Steagall Act will still be upon us.
Commerical and Investment banks should never be married because they can only produce bastard children with very wayward accounting rules.
Okay, now how do you factor in the Irish bank levy which will be imposed to avoud any change to the Irish corporate taxation structure. This is Ireland's proposal, a proposal supported by Austria, Germany, France - infact, the majority of the EU?
I like the idea of a EU bank levy of all financial transactions
- estbalish audit trail for nefarious financiual instruments
- reduce debt
- take pressure off the taxpayer.
I believe the EU will impose a bank levy = new ballgame.

#4 Bluesberry
"establish audit trail for nefarious financial instruments"
except that by some peoples reckoning, some of the CDO's, synthetic CDO's and other instruments known as CDO squared, cubed etc. were comprised of parts of over of 93 million separate property mortgages or debt instruments according to "the Big Short". That's one hell of an audit trail - almost as if it was never intended that these instruments would be audited. Stuff was being created to keep the throughput and income of Wall Street going, long after Main Street USA loaned cash on mortgages to every last trailer trash sob story west of New York City.

From Krugman:

"Napoleon Bonaparte, in response to a request for a bailout of Banque Recamier:

I am not the lover of Madame Recamier, not I, and I am not going to come to the help of negociants who keep up a house costing 600,000 francs a year.

Where are the Corsican corporals when we need them?

From Alistair Horne, Seven Ages of Paris."

@6 Tony This Guardian article supports your assertions:



The key quote: "...when mortgages got sliced and diced into various mortgage-backed securities, it became difficult to follow who actually held the title to the home. "

The Gordian knot of debt will never be able to be unraveled: it must be sliced through! - Or as Jaunty implied: press the reset button!

Will Sinn Fein be able to find enough candidates for the general election in the new year?

Senior unsecured creditors losing out - I will be shocked. Shareholders have taken big hits on most banks so what is the magic powder creditors have - the threat of an investor's strike or is it the banking ethos. However slicing through the Gordian knot (No. 3) may produce the acid blood that burns through the hull!

ALL OF THIS IS JUST SPINNING ME AROUND!

BluesBerry

"Proposition I (1958), stating in the absence of taxes, the firm's value is independent of its debt is abundantly not true; in fact, it doesn't even seem true."

How dare you apply common sense to economics? Don't you know that you must meet economists on their turf, using their conceptual framework, no matter how simplistic the hypothesis? After all, it's counter-intuitive, don't you know.

The last 10 years have seemed like a debt fuelled ponzi scheme to me, but when I checked with those who've read economics, it turned out I was just thick and should stop being a looser and join in. Kind of wish I'd taken their advice now, as I'm part of the hangover but didn't go to the party :-(

"It's depositors are safe, as are all Irish depositors".

This is an heroic statement and one pedalled by governments to support trust in the banks.

Looking at the latest accounts from Bank of Ireland (June 2010) it owed 84 bn euros to customers with deposits and 58 bn to wholesale lenders (bondholders and loans from financial institutions).

On the asset side they had 121 bn of loans to customers and 28 bn of liquid assets.

The government supposedly guaranteeing the 84 bn in deposits has annual revenue of 34 bn euros and expenditure of 54 bn in 2010. It has a total debt of 91 bn euros and counting.

And Bank of Ireland is only the second largest bank. The guarantee of deposits is not credible.

David Blanchflower: "George Osborne once wrote that the rest of Europe had much to learn from the Irish. Sadly it looks as if he could be right.... ....It remains unclear why those who didn't cause the crisis are paying such a heavy price and why they should go along with such an awful deal.... ....Default might still be a better option for the Irish.... .... back to Britain's own austerity package, which, unlike its Irish counterpart, is supposed to raise growth and lower unemployment. The data is not pointing that way...."

The BCCI bank took over 20 years to complete its liquidation. The problem with banks is the main asset, it loans to customers, take up to 30 years to pay back. In the meantime, the creditors (depositors, bond holders, banks who loaned money and shareholders) have to wait for the administrator to determine who gets what.

Legal action causes further delays and complications.

What a CRACKING post Paul!

I take what you are saying means that there is a deeper game going on around the Irish government's strategy - a game that could end almost anywhere from Euro bail out to complete default at all levels.

The question for me is what will the ECB do if the current Irish government falls and a new government decides to go for default?

The only option then on the table for the ECB is to directly bail out the banks left high and dry by the default, or to allow the anarchic process of liquidation to take over.

This situation strikes right at the heart of the banking system - it shows that the business model of the banks is unsustainable because in order to make the minimum level of profitability the market expects, the banks must take unacceptable risks, then hope that governments will rob the body politic to bail them out when the bets go sour.

This is not "moral hazard", it is racketeering dressed up as economic policy - the interests of those that make their money out of globalisation are the ultimate "senior debt" in this situation - rather than intervene to stop the effects of the global trade imbalances, their power to exploit chinese peasants forced off the land into sweatshop factories then seel their products to the west on borrowed money is put before anything else, along with those that make a killing in the City.

We cannot afford the "free" market anyomore - it is a contradiction in terms...

#13

Cracking post Richard Burning!

Indeed we can not afford the now paradoxical term 'free market', all well and good. I would add that it is one thing to understand this, another thing entirely to design a methodical course through to its alternative without the wheels falling off entirely.

It is the realisation and acceptance of the actual position which is lacking, then, after that, you need someone with an engineers approach to methodical un-leveraged problem solving and subsequent design to resolve it. All that while the media and vested interests are squeeling and scratching and manipulating for all they are worth to maintain a 'free market'.

It does not seem very plausible that there will be a favourable outcome here does it?

Why might you think he would like to appeal to everyone?

...and I would suggest it has nothing to do with politics!

@15 An article in the proud tradition of the "Zinoviev Letter" and "Hurrah For The Blackshirts!".

The Irish people, instead of protesting on the streets then voting for the same old same old, should vote for anyone who says that they will 'do an Osborne' and have an emergency budget a few weeks after winning with the promise that anything agreed beforehand is null and void. Candidates should come forward who don't accept that the majority of the burden has to be borne by the people. Once that becomes the new reality the ECB and the IMF will have to find another way to unwind the debt, and it will show governments all over Europe and beyond that there is only so far they can push their populations. After all what have the Irish people got to lose?
It would only take one state to do do away with its entire political hierarchy and say 'enough is enough' to stop the incessant shuffling of bad debt from here to there and force governments and central banks to sit down and work out how to write it all off once and for all.
It would also focus the minds of whoever is designing the new rules and regulations for banking if they knew there was only so much ordinary people were prepared take in the event of any future crisis.

#17

Every response is gratefully received.

Accoring to the Central Bank of Ireland, there are 983 bn of deposits held by all banks and credit institutions in Ireland. These are broken down geographically:

355 bn to Irish depositors
215 bn to Euro area depositors
292 bn to Rest of the world (including UK)

Plus 121 bn owed to the ECB for short term funding.

All this guaranteed by a government with tax revenues of 33 bn in 2010.

David Malone, author of the Debt Generation, has been posting some very interesting stuff (including inside info from European banker informants) on his blog: see .

It is always a rather shakey proposition that sovereign Governments can't do something because it is against the Law - or must do something because it is the Law. Of course, they must abide by the Law as it is written - but never forget that the fundamental role of a sovereign Government is to change the Law.

In any event, if the Irish Banks were to go bust then no-one would be entitled to anything much (senior secured or whatever). They would be left picking over the carcass.

I'm not so sure about the legal status of the Government regarding their
"irrevocable guarantee". What instrument was used to give this guarantee? And what makes it irrevocable? I can see the politically binding nature of the promise - and even a moral obligation to people who may have acted on it to their detriment - but the claim being made is that there is a legal obligation.

At bottom the question is, if the Government lets the banks go bust: and then steps in, but only guarantees deposits - on what basis would other creditors sue them?

a few weeks ago I posted ' give 'em nothing, they started all this so it was their fault, give 'em fifty bob a week' or words to that effect.....sounds like they are lstening...

Project merlin

they still think they are market wizards?

It must be a terifying thought for those elected politicians in Ireland who have to make the final decision.

How can they live woth the consequences of knowing that it is on their shoulders that they could be selling out their own people and their country to save others on only a temporary basis.

This is a momentous decision that needs much thought and consideration.

Let's hope they have read your blog Paul and Bluesberrys contribution before looking for any quick fix to suit Europe.

I still think the Irish and Greeks should do, allegedly, a Sarah Fergusson - accept 25% of the debt back or get nothing.

Oh, hang on - by any chance does Ms. Fergusson owe that money to any UK tax-payer owned bank? Surely not?

Despite the economic difficulties, I am dead jealous of the Irish sense of nation, as well as Irish people's ability to demand a lot more transparent explanation of what is going on, of the decisions and of why decisions are being made, than anything we ever asked or got from Brown, Darling or this mob.

Small population, sure, but that's what you can have when you are not riven by a class system? And you also have higher expectations of the publicly funded media (which is also generally pretty class loaded)?

In a nutshell, the crux of the Modigliani & Miller theorem is that Debt's don't matter!

It is so called Nobel Laureates such as these "doyens" that perpetuate that most pernicious of myths. And with it, the very notion that financiers have discovered alchemy.

But debts do matter. Especially if a household, corporation or national economy can't grow to repay. There aren't many Alchemy Debunkers around, but here is a start:

Suddenly, what does matter now its about debt, is 'the nation' and 'the national'. There is no way that this debt belongs to the banks, or the international financial system; it is definitely now the debt of the Irish 'nation'.

No matter that in everything, in globalisation generally, the state is apparently dissolving. Following on from #28, when its lend and spend, its borderless. The loss of Member States national rights has been accelerated by the Lisbon Treaty, worker movement within the EU cannot have borders whatever the supposedly non existent national consequences; in fact borders belong more and more to transnational corporations to use and abuse however they can make most money.

For so-called 'lefties' too, 'nation' and 'national' have been very dirty words for a very long time - though maybe not if its black nations.

But when it comes to debt, even while some loans might come from 'good neighbours' (yuk), or from the fact of EU membership, there is absolutely no doubt whose debt it is. It is all down to 'the nation' to pay it back.

How public perceptions are manipulated with the failure of the media to identify these contradictions.

@28 Some leading economists have always been on the ball, but disliked by the financial establishment.

In 1993 J.K. Galbraith (père) wrote*:
The world of finance hails the invention of the wheel over and over again, often in a slightly more unstable version. All financial innovation involves... ...the creation of debt, secured in greater or lesser adequacy on real assets. This was true, in one of the earliest seeming marvels, when banks discovered they could print bank notes and issue them to borrowers in ... excess of (their) hard money deposits. ..... All crises have involved debt that ..... has become dangerously out of scale in relation to the underlying means of payment.

*A Short History Of Financial Euphoria.

Krugman:

#29 wrote

"For so-called 'lefties' too, 'nation' and 'national' have been very dirty words for a very long time - though maybe not if its black nations."


Most 'lefties' tend to be socialist. Some socialists have even been nationalist in the past i.e. statist. Statists are anti-usury. They have also been labelled (deliberately and) misleadingly as fascist and associated with the extreme right. Why might you think that was done?

Anti-nationalists are also known as international socialists. These people are not socialist in the real sense of the word. They are in fact anti-statist, anarchist. They represent the real extreme right but hide that fact very cunningly. They actively seek the reduction of nation states via the pernicious use of usury. They promote the deregulation of finance for this purpose.

You have correctly identified the modus operandi, but just who are these cosmopolitan 'international financiers' that are so adept at privatising the profits and then socialising the losses...onto (dumb and dumber) nation states? Whoever they are, they are certainly more clever than the rest of us.

If economics is not a science then it must be just hocus-pocus!

Debt Juggler

You can see whose interests the 'national interest is racist' refrain serves. Unfortunately the ³ÉÈË¿ìÊÖ as a whole tends to go along in this rut. Especially the Brussels correspondent who should be taking a much bigger responsibility in terms of proper information for the people he works for.

As for 'economics' - of course this 'theory' serves vested interests. And they dont even blink when it is blatantly shown to fail.

- Free trade, the basic direction, leads not to competition but cartels and monopolies - obviously.
- It is not about non- discrimination because it favours transnational companies over national domestic companies and SMEs - transnationals have access to cheap labour global sourcing for one thing.
- We cannot possibly be in competition with people who earn £1 a day, wihtout huge losses to our lives, so is being 'competitive' with them what we want? And do we really want to be competitive with them anyway?
Yet every day we hear we must compete with India and China.

The trouble is the people reporting on economic issues don't question any of this economic rhetoric much. Maybe that's because its their bread and butter as 'economics reporters', so why rock the boat?

Is this the way it is Paul??