Bank recapitalization and nama
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Bank recapitalization and NAMA. Patrick Honohan Professor, Department of Economics and Institute for International Integration Studies Trinity College Dublin Prepared for the Joint Oireachtas Committee on Finance and the Public Service 6 th May 2009 .

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Bank recapitalization and NAMA

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Bank recapitalization and nama

Bank recapitalization and NAMA

Patrick Honohan

Professor, Department of Economics

and

Institute for International Integration Studies

Trinity College Dublin

Prepared for the Joint Oireachtas Committee on

Finance and the Public Service

6th May 2009


Recapitalization and asset purchase

Recapitalization and asset purchase

They are separate

Goal of recap: Make bank financially self-sufficient with a cushion of shareholder’s funds available to absorb future risks

Goal of asset purchase (NAMA):

Remove distraction of trying to recover on problem loans;

Separate loan recovery from the team that made them;

Replace assets of uncertain value with safe and marketable assets

Sometimes asset purchase at too-high prices is used as a covert way of recapitalizing

A bad idea – non transparent subsidy for shareholders & unguaranteed

Govt has made it clear this is not their intention

But it could happen by accident if NAMA too optimistic in its pricing!


Recapitalization good and bad 1

Recapitalization: Good and bad (1)

Flow approach: wait for banks to make and retain profits over several years until they have recapitalized.

But

Banks are zombies while this happens

Tie up all their resources keeping bad borrowers afloat

May take reckless gambles

May never be enough profits

Evidence from 40 crises that this approach much more costly on average

This is the “Do nothing” option. “Forbearance”. Wait-and-see


Recapitalization good and bad 2

Recapitalization: Good and bad (2)

Standard stock approach: (Decisive, once-for-all)

  • Insists on aggressive, realistic, asset valuations reflecting true recoverable value of assets.

  • Insist on banks raising new capital promptly from shareholders to meet regulatory minimum.

  • Failing that, regulator seizes control and finds buyer for viable parts of business. Puts remainder into wind down/bankruptcy

    This the standard approach used by US in the past and recommended by experts all over the world

    But

    Is resisted by shareholders (they lose everything if unable to raise sufficient capital)

    And by big debtors (as they will likely be dealt with more aggressively)


Recapitalization good and bad 21

Recapitalization: Good and bad (2)

NAMA purchase claims to do this

Standard stock approach:

  • Insist on aggressive, realistic, asset valuations reflecting true recoverable value of assets.

  • Insist on banks raising new capital promptly from shareholders to meet regulatory minimum.

  • Failing that, regulator seizes control and finds buyer for viable parts of business. Puts remainder into wind down/bankruptcy

    This the standard approach used by US in the past and recommended by experts all over the world

    But

    Is resisted by shareholders (they lose everything if unable to raise sufficient capital)

    And by big debtors (as they will likely be dealt with more aggressively)

Government may be the only willing buyer


Asset management company experience

Asset management company experience

Rapid asset disposal type

Success: USA; Spain;

Failure: Mexico, Philippines,

Corporate restructuring type

Success: Sweden;

Mixed: Finland, China;

Failure: Senegal, Ghana

Sounds like NAMA is the latter; but if so would need its own capital

% Recoveries can be very low

Duration can be very long

Monitoring: need to avoid a property empire


Obvious requirements for an effective amcs

(Obvious) requirements for an effective AMCs

Clear objectives

(including Rapid asset disposal vs corporate restructuring)

Robust governance (ideal private sector type)

& external monitoring

Operational independence from Government/politics

Transparency of operations

(more than banks)

Potential role of private managers

Strict cost control

Etc.

Can these be delivered for NAMA?


Distinctive features of nama

Distinctive features of NAMA

Will take on performing loans as well (why?)

But ignores non-property sectors

Size is unprecedented worldwide

(relative to economy)

(May be) buying from going-concern private banks

(this has been done before – Thailand, Malaysia etc.)


Nama improving the risk sharing

NAMA: Improving the risk-sharing

But how to get this right given ambiguities of accounting rules, broken market, etc.

NAMA approach

Straight asset purchase at “appropriate” value

Bank gets safe marketable asset in return

NAMA/Govt assumes the risk

avoids the illiquid long-term low coupon bond trap!

(though mention was made of a possible levy)


Nama improving the risk sharing1

NAMA: Improving the risk-sharing

NAMA approach

Straight asset purchase at “appropriate” value

Bank gets safe marketable asset in return

NAMA/Govt assumes the risk

Better risk sharing (PH suggestion)

Two-tier payment

Bank gets safe marketable asset -- but less of it than in standard approach

Shareholders get in addition an equity-type participation in NAMA

Govt assumes less risk


If valuation results in negative shareholders funds

If valuation results in negative shareholders’ funds…

Capitalist logic implies ownership control passes to creditors

If existing shareholders cannot raise new capital, they have little basis for any residual claim

(Banking license is a valuable privilege granted by State, conditional on injecting sufficient capital)

If bank is to continue, government must inject necessary capital

(May then sell to new shareholders)

In this way, NAMA process could well involve temporary nationalization unless additional private equity injections can be found


State ownership

State ownership

Large majority state share is certain; 100% a possible consequence of NAMA process

?Temporary control by regulators

?Temporary ownership (in current market years rather than months)

?Permanent nationalization

Objectives of nationalized banks:

Maximize shareholder value?

Seek national economic and social goals?

How soon to sell to private sector (foreigners?)

Even 5% or 10% private shareholding could help maintain the dialectic between government and banks

Most economists agree with this

Not at the cost of a huge additional taxpayer liability


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