Irish bank restructuring has tidy if slow solution

November 24, 2010

Ireland’s bloated banking sector needs fewer, smaller lenders. A sovereign bailout should provide breathing space to perform a radical restructuring. But a fire sale of Irish banking assets is not the only way to cut the banks down to size.

The combined liabilities of Ireland’s domestic lenders, both private and state owned, exceed 500 billion euros, or four times Irish GDP. The country’s likely 90 billion euro bailout will deliver resources to recapitalize the banks and guarantee wholesale funding for several years. In that time, the sector could be redrawn.

Anglo Irish Bank and Irish Nationwide are already fully state owned and their assets are in run-off. Larger Allied Irish Banks (AIB) and Bank of Ireland have heavy state involvement, and Dublin is poised to take majority control of BoI. The two have approximately 100 billion euros and 121 billion euros of loans respectively, funded by around 61 billion and 75 billion euros of deposits respectively. That implies an uncomfortably high loan-to-deposit ratio of 160 percent.

Jettisoning non-core UK businesses looks like the obvious way to shrink the balance sheets of both AIB and BoI. These have respectively 19 billion euros and 52 billion euros of loan assets. But selling these outright would mean shedding vital deposits as well. And buyers for just the loan assets would probably demand big haircuts right now and perhaps even state guarantees against future losses. The reality is that balance sheet shrinkage is best deferred until markets improve.

But Ireland could make an early start improving AIB’s and BoI’s funding mix. One way would be to replace a portion of their wholesale liabilities with Anglo Irish’s and Irish Nationwide’s 27 billion euros of deposits. That would cut AIB’s and BoI’s loan-to-deposit ratios from around 160 percent to 135 percent.

The Irish banking sector would then have an appropriate structure. Anglo Irish and Irish Nationwide would no longer take deposits, and their remaining assets would run off under direct state ownership.

Left behind would be two strong domestic players, with effective competition ensured by the presence of a decent foreign-owned rival, Ulster Bank. Over time, AIB and BoI could also sell off their non-core assets and further reduce their reliance on wholesale funding. The journey back to sustainability will take time, but the roadmap seems clear.

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Are you sure about those ratios ? Loan to deposit of 1 : 1.6 I thought would make Irish banks very sound. What then is the normal healthy ratio in such circumstances?

Posted by tonydd | Report as abusive