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Irish Give 51 Billion More Reasons to Avoid Bonds: Euro Credit

Irish Give 51 Billion More Reasons to Avoid Bonds
Finance Minister Brian Lenihan introduced a guarantee for all deposits and most bank securities that year following the bankruptcy of New York-based Lehman Brothers Holdings Inc. Photographer: Aidan Crawley/Bloomberg

Irish bondholders may have another 51 billion reasons to worry.

Figures published by the central bank this month showed it lent as much as that sum in euros, equivalent to $70 billion, to commercial banks. Unlike the 132 billion euros the European Central Bank is using to prop up the country’s financial system, the government may be on the hook for it. Ireland has the fourth-highest debt level in Europe.

“The increased liability of the state makes it more likely that senior bank bondholders will be forced to take a hit,” said Juergen Michels, lead euro-region economist at Citigroup Inc. in London. “While we don’t currently see a restructuring of sovereign bonds, the risk increases the higher the aggregated general government debt level goes.”

Investors are shunning Irish government and bank bonds because of concern that the bill for saving the financial system is still untallied. The extra yield investors demand to hold Irish 10-year bonds rather than German securities of similar maturity climbed 18 basis points to 593 points yesterday. That’s nine times the average of the past decade.

Citigroup said in a Jan. 21 report that loans from central banks across Europe to their lenders are surrounded in “secrecy.” The program is called the exceptional, or emergency, liquidity assistance, or ELA.

“Similar to other central banks, the Central Bank of Ireland can supply exceptional liquidity assistance to institutions that is judged necessary,” Nicola Faulkner, a spokeswoman at the bank, said in an e-mailed statement. “The bank does not, however, comment on these operations.” The Finance Ministry and ECB also declined to comment.

‘Other Assets’

The central bank’s “other assets” rose to 51.1 billion euros from 44.7 billion euros on Nov. 26, according to figures published Jan. 14 on its website. Such assets include “exceptional liquidity assistance lending” for Irish banks, it said. Those loans make up the bulk of the money, according to a senior central bank official, who declined to be identified.

Commercial banks increasingly are resorting to borrowing from the authorities to fund their activities. The loans are designed to be short-term.

The assistance has the “potential here to expose the Irish state to further losses from the banking system,” said Brian Lucey, associate professor of finance at Trinity College Dublin. “While all euro-member countries are responsible for any losses on funding from ECB lending operations, the Irish government is left with any losses from the central bank’s scheme.”

Cost of Rescue

The cost of insuring Irish government debt against default has gone up 450 basis points to 632 points over the past year, according to CMA prices for credit-default swaps. The price of the swaps rose as the government stepped in to save the banks after a decade-long real estate boom collapsed in 2008. Finance Minister Brian Lenihan introduced a guarantee for all deposits and most bank securities that year following the bankruptcy of New York-based Lehman Brothers Holdings Inc.

Since then, the government has injected 46.1 billion euros into the lenders, and taken control of Anglo Irish Bank Corp., Irish Nationwide Building Society and EBS Building Society, with Allied Irish Banks Plc about to come under state ownership.

Deposits are flowing out of the system, forcing the ECB and Irish central bank to step in. Deposits fell by about 25 percent to 340 billion euros in the past 18 months, according to a report published last week by Citigroup. Support from the central bank more than tripled during the past year.

Needing Help

“If the ECB governing council did not permit the Irish central bank to provide the assistance, the Irish banks would not have sufficient funds to operate,” said Ciaran Callaghan, a Dublin-based analyst at NCB Stockbrokers, in a Jan. 24 note. “The ECB couldn’t and wouldn’t let this happen.”

Central banks in the euro region are allowed to aid banks, so long as two-thirds of the ECB’s governing council doesn’t object. At the height of the credit crisis in 2008, Belgium’s central bank lent its banks 51.3 billion euros, Citigroup said.

It’s not clear, though, how much each country provides to their banks, what collateral is provided by the banks or how the lending is financed, according to Citigroup.

The ECB said last year detail of emergency aid to banks needs to be kept confidential to maintain financial stability. Patrick Honohan, governor of the Irish central bank, said in an interview on Nov. 18 with Dublin-based broadcaster RTE Radio that he wasn’t allowed to discuss the measures.

Bailout Agreement

Any danger to the Irish central bank may be offset by the government’s plan to give lenders more capital. As part of the International Monetary Fund and European Union bailout agreement reached in November, the banks are getting an extra 10 billion euros, with a further 25 billion euros available if needed.

Citigroup said the central bank loans should be added to the country’s gross national debt, which stands at 148.6 billion euros. Ireland’s gross general government debt has risen to 94.2 percent of the economy, as it bailed out the banks, from about 25 percent in 2006. That figure doesn’t include cash the state has on hand.

“You have to look at the aggregated debt figure in order to get a true picture of the extent of the state’s liabilities,” said Michels, the Citigroup analyst.

The strain may worsen as the ECB seeks to wean Irish banks off financial support, said Karl Whelan, a professor at University College Dublin and a former economist at the Federal Reserve in Washington.

Borrowings by banks operating in Ireland from the ECB fell 4.4 percent in December to 132 billion euros. That includes all lenders operating in Ireland, including non-Irish banks. Reliance on Irish central bank lending rose as much as 14.3 percent, according to the lender on Jan. 14.

“The system is under enormous stress,” Whelan said in an interview. “Any further increases in monetary authority reliance is going to be borne by the Irish ELA.”

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