Wednesday, 31 March 2010

How much are the bank bailouts going to cost us?

Nat O'Connor: There is a lack of clarity about just how much the bank bailout will cost ordinary people. But based on recent news, the estimated costs are huge.

The Irish Independent states that "Every man, woman and child in the State will have to pay an average of €2,000 every year just to service interest payments on borrowings to pay for the bank bailout, estimated to cost €40bn."

In fairness, it's not clear that we have enough information to know that yet. If the banks raise their own capital we won't need to borrow as much. Also, if we part-recapitalise the banks out of the National Pension Reserve Fund (which is what we did before) we will borrow less again. But let's tease out the scale of what borrowing €40 billion would mean.

Unfortunately, not every man, woman and child in Ireland has an income. So will paying the bill fall on the shoulders of Ireland's 1.6 million households, rather than its 4.5 million people? The costs then comes out at roughly €5,600 per year per household. But with state pensioners and other people living on social welfare on incomes of around €12,000, are we talking about halving their incomes and plunging hundreds of thousands of people into destitution?

Alternatively, we could look at the 1.9 million people in employment, who would have to take on an average of €4,600 each (with couples, where both partners are employed, taking on €9,200).

Average earnings for someone in employment in Ireland in 2009 were around €36,300 per year (CSO). So, for example, a single person on this income, already on c. €29,500 after tax, will see their final income fall to around €24,900. (Of course those on lower incomes might pay less, and those on higher incomes might pay more... this is just the average cost applied to the average income).

The cost to those in employment is likely to be lessened by further cuts in public expenditure (social welfare cuts, cuts to pensions, cuts to public capital expenditure, cuts to public services of all kinds, etc). Except that these cuts will also reduce quality of life, health, education, and increase households' costs to fill the gap created by the absence of public services.

And this is just to pay the interest on the loans to bail out the banks.

All the above assumes that NAMA will work and we will only have to pay the interest on the loans for a period of years. If NAMA makes a loss, or further bank bailouts are required, the burden of paying for all this will increase.

If that wasn't bad enough, some people will be further affected by mortgage interest increases. The Belfast Telegraph suggests that AIB "will respond to its latest bailout by raising mortgage rates by a further 1.5% this year." That's on top of this week's 0.5 per cent increase. Assuming the other banks follow suit, that will increase pressure on tens of thousands of households.

Not every household is affected by this double squeeze, but it is hard to see how households will be able to afford to pay another couple of thousand extra per year on their mortgage repayments, alongside bearing the tax increases to pay the interest on the loans to bail out the banks.

It is possible that we could see a major wave of mortgage default and repossession, which would trigger a further crisis in the banks, and a need for further recapitalisation. Those who don't default are likely to be paying way more than they can comfortably afford to keep their homes; all to avoid the nightmare of selling their homes at a low price, while still owing the bank the balance of their original (massive) mortgage loans.

In a year or so, the State could own all or most of the banks, but the citizens who own the State will be paying increased charges to the banks as customers at the same time as paying taxes for the loans to own them. The burden of paying the interest on the loans will all but rule out any productive investment in better infrastructure, better education, etc. Most of our potential for investment will be tied up for years in paying for the mistakes made by past governments.

There is a need for much more accurate information to be made available on exactly how the Government plans on paying for the banks and at what point it would be cheaper to let some of them go bust. We need to know exactly how much households will have to pay and what will be the opportunity cost in cuts to public services and the loss of a generation's ability to invest in a better future. At present we can only speculate. But based on the figures currently in the news, it's a perverse and gloomy situation and we haven't gotten to the bottom of it yet.

1 comment:

Joseph said...

I meant to ask…..

I presume that once the government has (eventually) finished recapitalising them that the banks will then spend the next few years finding every device they can to dilute any public shareholding and reduce the value of said ‘investment’ as severely as possible?

Other than straightforward rights issues (which, for the sake of argument, let’s say the government doesn’t take up) are there any other instruments/approaches the banks can use to achieve this?

Has the minister done anything to safeguard us (the taxpayer) against such a dilution happening?

Or am I wrong in this thinking and the reality is more likely that the banks will be perfect gentlemen and consider us as their most important shareholders and do everything they can to ensure that ’shareholder value’ is uppermost in their minds.