Ireland’s Original Sin
Following the financial crisis of 2008, the Irish government made a decision to guarantee all the debts incurred by its largest banks. Anglo Irish bank had made losses amounting to 34 billion euros. The total amount it lent out was 72 billion Euros, most of it going to Irish developers. This means that the bank lost nearly half of the money it had invested. Two of Ireland’s oldest banks, The Bank of Ireland and Allied Irish Banks, also underwent the same problems. However, since the Irish government was the major shareholder in these two banks, they revealed less about their failures than Anglo Irish. The Bank of Ireland and Allied Irish Banks had lent out huge sums of money to Irish home buyers and Irish property developers, so their losses were equally as huge as those of Anglo Irish. At a time when capitalism was getting destroyed, the Irish bankers went overboard with their destruction. According to Theo Phanos, who has interests in Ireland through his London hedge fund, Anglo Irish was probably worse than the banks of Iceland.
There were several things in common between Ireland’s financial disaster and Iceland’s. However, Iceland’s banks used foreign money to invest in foreign places-top companies in Britain and parts of Scandinavia-while Irish banks used foreign money to invest in Ireland. Respected Irish economist Morgan Kelly has calculated the property-related losses incurred by all Irish banks at about 106 billion Euros. This is equivalent to all Irish taxes collected over four years. These spectacular losses almost made the entire Irish economy to collapse. Many Irish people left their country along with multitudes of migrant workers. The unemployment rate was slightly more than 4% in late 2006, but it quickly rose to 14% by 2010 and is still climbing. In 2007, Ireland had a budget surplus, but now the budget deficit is 32% of its GDP (Lewis, 2012). This is the highest deficit in the euro zone, with analysts rating Ireland third in the list of most likely countries in the world to default.
Despite all these, Irish politics remain unchanged. In Iceland, the conservative party was kicked out of power, same to Greece’s ruling conservative party. The only notable changes in Irish politics have been brought about by foreigners. The new bank regulator is an Englishman from Bermuda, while investment bankers from U.S. and management consultants from Australia are to be found in Irish banks and in the Irish government. There are also Euro officials in the Department of Finance. Irelands regress has raised questions about how it used to perform so well in the first place. Since the Irish state was founded in 1922, the country has not been doing very well. By 1980, Ireland had a population of 3.2 million, with 1 million considered poor. Since then, the economy grew in a way that had never been seen before. At the turn of the new millennium, the poverty rate was below 6%, and the Bank of Ireland considered the country to be the second richest in the world (Lewis, 2012). In the past decade, it has been very easy to make money in Irish real estate than in American investment banking. Many people were eager to bring money into Ireland. The most dramatic case was with the Poles. Since the admission of Poland into the European Union, the country’s foreign ministry estimates that a million Polish nationals have gone out of their country to work elsewhere. In 2006, a quarter million of these Poles were in Ireland.
Many theories have been put forth to explain what was happening in Ireland. These include the elimination of trade barriers, granting of free higher education, and a low corporate tax rate introduced in the 1980s, which made Ireland attract foreign corporations. The most intriguing explanation for the Irish boom was given by Harvard demographers David Canning and David Bloom. In a 2003 paper called “Contraception and the Celtic Tiger”, they claimed that the biggest contributor to the Irish economic boom was a significant increase in the ratio of citizens of working age to citizens of non-working age. Ireland had decided to allow birth control in 1979, and this caused a crash in the country’s birth rate. The two demographers are quick to admit that their theory only explained part of the phenomenon in Ireland. A full explanation has not been given to date. The Irish had gone from being very poor to being very rich, and they did not know how to handle the change properly. Early in 2000, Ireland’s financial markets started giving unlimited credit to anyone who asked. Polish construction workers used money they borrowed from Ireland’s banks to purchase cars. As things became tight, they abandoned the cars at Dublin Airport and returned to their homeland.
Morgan Kelly is a professor at University College Dublin teaching economics. Ireland’s economy was not part of his interest until recently. However, he was surprised to see his former students on TV discussing the economic downturn and giving positive predictions. He found predictions of a soft landing to be absurd because real estate bubbles do not usually end with soft landings. When people realize that real estate has become a dangerous long-term investment, they will flee the market and it will crash. Naturally, real estate booms eventually end in crashes. Kelly started doing research and discovered that the building industry employed 20% of the Irish workforce. The construction industry in Ireland had grown to about 20% of Irish GDP, compared to less than 10% in a normal economy. Kelly learnt that average house prices in Dublin had increased by more than 500 percent since 1994. After the crash, rent fell to less than 1% of the initial purchase value in some parts of Dublin. The investment returns on land proved to be very low that it was not sensible for capital to flow into the country for more development. Irish exports had stalled while the economy was preoccupied with building houses, offices and hotels.
The influx of endless foreign money had made the Irish very optimistic. However, the real estate boom was a lie, as it was only sustainable as long as it remained unquestioned. The boom remained unquestioned for long, but Kelly could see similarities with previous housing bubbles in other countries like Holland in 1970s and Finland in the 1980s. When Kelly pointed out these truths, the whole Irish political and business establishment was angry at him. He wrote a newspaper article to warn that real estate prices in the country might fall by up to 66%. The public reacted with general amusement to the article but Kelly’s predictions turned out to be very accurate in the end. He then linked the Irish real estate prices with the Irish banks. If the real estate market in the country collapsed, the banks would bear the losses. Kelly says the number and average value of new mortgages reached a peak in summer 2006. However, lending standards started falling after this. The banks were still making worse loans, but borrowers had began to grow wary. The shift in market sentiment proved to be catastrophic for the Irish banks and the economy.
Kelly predicted the collapse of the Irish banks in his second newspaper article. Since 2000, lending in real estate and construction had increased from 8% of Irish bank lending to 28% (Lewis, 2012). The total amount of all Irish bank deposits-one hundred billion Euros- had been given to Irish commercial property developers. Kelly sent his article to the Irish Independent this time, but the editor refused to publish it, terming it offensive. The Sunday Business also refused to publish it. The Irish press was behaving like the banks in giving a false positive outlook. The Irish Times eventually published Kelly’s article. Many financial big wigs in Ireland had strong words for Kelly following his piece. On September 29, 2008, almost exactly one year after, the stocks of Ireland’s three main banks, Anglo Irish, AIB, and Bank of Ireland, fell by between 20% to 50% in a single trading session (Lewis, 2012). The Irish government had decided to guarantee all the debts incurred by Ireland’s six biggest banks. The economy of Ireland was similar to a giant Ponzi scheme, making the country effectively bankrupt. The government organized a report by Merrill Lynch, which stated that all of Ireland’s banks were well capitalized and making profits.
Public opinion started changing on October 2, 2008 after Ireland’s bank regulator, Patrick Neary, was interviewed on national television. He responded poorly to the questions asked and ignored some. Two weeks before, Lehman Brothers had collapsed, and this made people start doubting banks everywhere. Ireland’s banks had been misleading the public, but now the Irish people had started seeing the hidden truths. Evidence could be seen in the empty skyscrapers and housing estates around. The Irish banks debt had become the Irish government’s debt. They could not afford to default as it would only make borrowing foreign money more costly, yet they could not live without now. As the magnitude of the Irish losses grew clearer, investors found it hard to leave their deposits overnight in Ireland’s banks, and were also not interested in buying long-term bank bonds. The European Central Bank came in and filled the void. It lent the Irish banks 6.5 billion Euros in late 2007, with the number jumping to 45 billion Euros by December 2008. By October 2010, the Irish banks had borrowed a total of 97 billion Euros from the ECB (Lewis, 2012). In September 2010, the Irish banks had to pay out 26 billion Euros to bondholders when the bonds became due. This presented some relief to the Irish government since any default by the Irish banks would be a problem to the European governments.
Back in September 2008, it was clear that the Irish government was not in control of the evolving financial crisis. On September 17, 2008, there was plenty of disarray in the financial markets. Two days earlier, Lehman Brothers had failed, and the shares of Ireland’s banks were falling fast. Big corporations quickly withdrew their deposits from the Irish banks. Ireland’s Minister of Finance started seeking advice from outside quarters. It seemed as if he did not fully trust his people to give him good advice. The Irish Finance Ministry eventually turned to investment bankers from Merrill Lynch for advice. One of those hired was Philip Ingram, who had earlier shined new light on how Ireland’s banks lent against commercial real estate. Generally, the loan market for commercial real estate is usually less transparent than the home loans market. The agreements between bankers and property developers are one-off, and only a few insiders know the terms. The parties to the loan usually claim it is prudent, so a bank analyst has no choice but to believe them. However, Ingram did not believe the Irish banks, especially after reading Morgan Kelly’s newspaper articles and visiting him at his office. He realized there was a huge difference between what Ireland’s banks were claiming and what they were doing. He went searching for well-informed insiders in the commercial property market. On March 13, 2008, Ingram published a report about how various banks were lending money to commercial real estate developers, six months before the collapse of the Irish real estate sector. Ireland’s banks were giving far riskier loans in their country than they did in Britain, even though they were still the craziest lenders in Britain.
The Merrill Lynch report attracted wide readership in London financial markets before the firm retracted it. Merrill was the corporate broker to AIB and the lead underwriter of Anglo Irish’s bonds. This means they earned huge amounts of money from the growth of Ireland’s banking sector. Anglo Irish’s stocks fell by 46% on the day the report was released while AIB’s had fallen 15% (Lewis, 2012). There was a high possibility that when the stock market reopened the next day, one or both banks could go out of business. This would have created panic that would bring down other banks if the government did not intervene. The government sided with the banks and set the stage for the collapse of the country’s economy. It came to be known that Anglo Irish Bank only lent money to property developers to purchase land and build on it. The bank did this with funds it had borrowed from foreign lenders. Whenever a bank is about to go under, it is possible for depositors to withdraw their money and run. However, the investors who owned around 80 billion Euros worth of Irish bank bonds were stuck. They were unable to withdraw their money from the banks. The 80 billion was almost exactly equivalent to the eventual losses incurred by Irish banks. The bond bearers did not even expect to be compensated by the Irish government, but the government guaranteed all of them. This was replicated across the financial markets. Those whose private investments had gone wrong, and had no expectations of a full repayment, were given their money back-courtesy of the Irish taxpayer.
Looking back, after the Irish bank losses came to be known in full, it turns out that the decision to cover them was ill thought. A few Irish bankers accumulated debts they would never be able to repay. Their debts were private-owed to investors all over the world- and yet the Irish government has undertaken to repay them with taxpayers’ money as if they were the obligations of the state. Lewis (2012) explains that since September 29, 2008, all the policy decisions have put more responsibility on citizens. In January 2009, Anglo Irish was nationalized by the Irish government, which took over its mounting losses of 34 billion. In late 2009, the National Asset Management Agency was created, and it went on to buy 80 billion Euros worth of useless assets owned by the Irish banks. Ireland had been sunk by a single decision, though the decision makers claim they had no choice. Irish financial rules follow the same pattern as English law, which says the bondholders are accorded the same status as ordinary depositors. Therefore, it was against the law to pay the ordinary citizens with deposits in the bank and leave out the big investors who owned Irish bank bonds. However, the state could have imposed losses on senior bondholders if necessary.
On September 30, 2008, Lenihan gave the same argument for guaranteeing the bank’s debts as Merrill Lynch- to prevent “contagion” (Lewis, 2012). Telling financial markets that loaning to Ireland’s banks meant loaning to the Irish government would calm down investors. A few months later, when the banks’ losses appeared so vast that they might bankrupt the Irish government, Lenihan gave another explanation for the government’s payment to private investors. He said the bonds were owned by Irish savings banks. Before then, the government had maintained that it did not know the owners of the banks’ bonds. Now the government claimed that if it did not absorb the losses, Irish savers would pay the price. It was a case of the Irish saving the Irish they said, but this was not true (Lewis, 2012). The Irish savings banks came out strongly so say they did not own the bonds, and they disapproved of the government’s move to pay the real owners. The list of bondholders was published by some financial blogger who had obtained it. The foreign bond owners turned out to be German banks, German investors, French banks, and Goldman Sachs.
The Irish bank losses had obviously bankrupted the country, but the Finance Minister maintained that Ireland is “fully funded” until next summer. This means that the Irish government had enough money to keep it going until next July. The blunt truth, however, was that since September 2008 the country had been increasingly reliant on her creditors with each passing day. In order to remain afloat, Ireland’s banks, which are now government owned, have borrowed short-term loans from the European Central Bank of 85 billion Euros (Lewis, 2012). Within a week, the European Union will compel Lenihan to invite the IMF into the country. He will be required to give up control of Irish finances, and agree to a bailout package. This is because The European Central Bank is no longer interested in lending to the Irish banks. Brian Lenihan is expected go to the Irish parliament soon and provide a fourth explanation as to why those who invested in Ireland’s banks are shielded from losses. Some time back, the demands of the ECB did not matter so much to Ireland. This was before the Irish government borrowed money from ECB and used it to compensate the foreign bondholders in Ireland’s banks.
Driving out of Dublin, the highway is lined by abandoned building sites and empty neighborhoods. Ian, the taxi driver, said we could visit all the ghost estates along the road, but this would take a lot of time. Many people still try to get away from the Irish countryside. Amongst its drawbacks, as outsiders see it, is the weather. Ian says that it always rains in the countryside, or just about to rain. Visitors who come to Ireland and find it raining all the time usually wonder how the Irish people choose to live there in the first place. We randomly selected a village that looked like it was more or less finished and drove to it. There are few dozen houses built in a field, all attached to each other. There are some slabs of concrete covered by weeds. One can see that when the Irish banks stopped giving out money, the developer stopped construction, and the Polish workers returned to their country.
Ireland’s Department of Environment made public its audit of Ireland’s new housing stock in 2009. The inspection covered 2,846 housing projects, most of which were ghost estates. The government granted planning permission for 180,000 units, of which more than 100,000 are unoccupied. Some of those that are occupied remain unfinished. All construction has now stopped, and there are not enough people in the country to occupy the new houses. The developers say they expected the new houses would be occupied by Polish immigrants, foreigners interested second homes, Irish government workers sent to those areas and the Irish in the Diaspora. The way nations react when they can easily access money, and their reaction when the money is taken from them is quite revealing. In Greece, the state borrowed the money; the debts are of Greek people. However, the citizens want nothing of them. In Ireland, a few banks borrowed the money, and yet the people are very willing to repay the debts. It is now more than three years since the government of Ireland transferred the losses of the its failed banks to its citizens. During that time, there have been only two notable acts of Irish social unrest.
Irish bankruptcy laws did not anticipate spectacular failure, probably because the lawmakers never imagined such success. Anybody declared bankrupt cannot be allowed to take out a loan amounting to more than 650 Euros, or to own assets valued higher than 3,100 Euros, or to travel abroad without government permission. For twelve years, part of what he earns may pass directly to his creditors. The debts of Ireland’s big property developers- any debtor who owed more than 20 million Euros to the bank- are now being resolved behind closed doors. The debtors are helping the government liquidate their real estate portfolios, and in exchange for their cooperation, the biggest failures have been spared bankruptcy. Nothing much is known about the smaller property developers. Irish property expert Peter Bacon, an advisor of NAMA, says that the smaller loans taken by Irish property developers (those under 20 million euros) add up to another 80 billion Euros.
Every Irish person takes note of two things when he comes to America: It is a very huge country, and Americans desire share their personal problems. Americans coming to Ireland also note two things: how small the country is, and how the Irish are tight-lipped. By November 10, 2010, only one person out of the whole population of Irish people was willing to complain publicly about how their country was ruined (Lewis, 2012). In the months after Brian Lenihan’s bank bailout, Gary Keogh started paying attention to the behavior of Irish bankers, something he never used to bother doing. His shares in AIB were rapidly becoming worthless yet the bank’s executives showed no hint of shame or remorse. He came to discover how Ireland’s ancient financial institutions easily abandoned their long-standing traditions and principles when a new player, Anglo Irish, entered the market with a new and better way of being a banker.
Dennis O’Brien, a board member of the Bank of Ireland in 2005, says Anglo Irish was about to double its size, yet it had been in existence for just two years. AIB responded by forming a unit to poach Anglo Irish’s biggest clients in property development. These are the same people who eventually became the most spectacular bursts in Irish history. Keogh attended his first AIB shareholder’s meeting in March 2009 carrying two rotten eggs he had kept in his garage for two weeks. When AIB’s chairman Gleeson shouted down a shareholder who tried to ask a question, Keogh threw the two eggs at the chairman. The security guards came and he left, but he was never arrested or charged. The press soon learnt of his story and descended on his house for more coverage. Keogh decided to fly out of Ireland the following morning for to the Mediterranean for a cruise.
Works Cited
Lewis, M. (2012). Boomerang: The Meltdown Tour. London:
Penguin.
