It is simple, and it is straight forward, there is a line of people who take the pain when banks encounter problems and it goes like this:
1. Equity Holders
2. Preference Share Holders
3. Mezzanine Finance
4. Subordinated 1
5. Subordinated 2
6. Lower Tier 1
7. Lower Tier 2
8. Senior Bonds & Depositors
So we don’t need to get caught up in taxpayer solutions because there is already people who are willing (by the nature of buying a risk instrument) to take the pain for us. I have mentioned this before when talking about the reasons for a borrower bailout not being likely.
I was impressed with Philip Boucher-Hayes’s podcast on this topic yesterday. And specifically the call to ‘Close AIB’ by Dr. Stephen Kinsella. Closing banks that are not up to scratch is something I have been advocating for years, perhaps the best public statement was on Newstalk back in January 09′. When I spoke about closing Anglo and the fact that existing Senior Management in banks would arrange golden parachutes for themselves and leave (think Fingleton, Fitzpatrick, Goggin, Sheahy).
If we had only focused on supporting our good banks, taking Anglo out of the picture altogether, I think we would be in a very different place today.
And I don’t know that closing AIB would solve anything because the payments infrastructure is half owned by them, and for that reason they still [swallow the gall in your throat] have a valid market existence, not the retail brand we know, but the operational brand that makes our system tick.
The answer may therefore be to take the infrastructure and then commence the write-downs in the order mentioned above until such time as the bank is healthy again, and at some stage certain bondholders could become the new equity holders. Sadly, we have rescued the banks via equity options meaning a wipe out will wipe out much of the money we have spent, that makes this idea politically and financially difficult.
The recent Bloomberg figures on insuring SubOrd debt in AIB is going through the roof. The reason for that, and why equally prices have not reached that on senior or lower tier bonds is BECAUSE there is a hierarchy, and the first to be hit face the highest insurance costs. We should embrace that hierarchy but can’t because of the way in which we solved the problem initially.
This makes the idea of ‘hitting the senior bond holders’ somewhat unfair, because there are others who exist in order to take the pain before them. And if you are willing to say ‘hit senior bond holders’ then you better be willing, by extension, to say ‘hit the depositors’ as well because they are treated as being much the same in Irish Law. Having said that, once the word ‘bond’ features then it is a risk instrument and not to be (with ethical discernment) viewed the same as a deposit even though the legalities may say otherwise.
AIB’s insolvency is currently a mixture of balance sheet and technical insolvency, they don’t have adequate capital buffers (technical) and if you were to look for all claims at once they would not be able to meet them (balance sheet) – but every bank working on a fractional reserve is open to that risk, and it is therefore a confidence game, confidence in AIB is waning.
Insolvency is generally termed as not having enough money to pay debts as they fall due (cash flow insolvency), and thus far AIB haven’t missed coupon or any payments, that is because operational income is coming in one door and going out another to cover operational loss, the wording we use publicly could be used a little more carefully, because the markets do actually listen.
That our banks are a mess is a given, but the issue is that we saved ‘all’ banks rather than just the important ones. the cost of which has been terrible, and the way in which we helped the decent banks made allowing the natural order impossible. It is this mixture which puts us between a rock and a hard place now. If only we had relied upon the time proven hierarchy! The Honohan paper ‘Controlling the Fiscal Cost of Banking Crises’ [c.2001/2002] is well worth a read, you’ll see that the worst (most expensive) choices you can make are actually a blueprint of the policy decisions we made.