Honeymoon on Dame Street
What does it take for a man to uproot his family from an island paradise where he holds one of the most prestigious and high-profile jobs; to move to a country, sliding into depression, flirting with financial ruination and where the weather is comparatively foul? And all this for a pay-cut of âŹ200,000.
If this be a measure of the manâs commitment to his new role then Matthew Elderfield, former Governor of the Bank of Bermuda and now Irelandâs Financial Regulator, certainly cannot be faulted. And if an appetite for challenge, a sense of mission and public recognition for his works really are his motivators, then heâs come to the right place.
For such is the depth of horror and anger at the litany of financial scandal, recklessness and mismanagement that has been revealed on an almost daily basis, the punch-drunk Irish public need nothing short of a hero to deliver them from ruin.
As would-be heroes go in Ireland, fair-haired, boyish-looking Englishmen usually start at a disadvantage. But any notions of lily-livered tendencies on the part of the new Regulator were dispelled first by his reassuring appearance before the Oireachtas Joint Committee on Economic and Regulatory Affairs and then by the dispassionate bombshell he dropped on the Quinn Group.
The days that followed confirmed that the new man was unlikely to be swayed by the chorus of not-so-subtle political pressure that emerged from border county representatives. And if thereâs one early lesson Elderfield will have learned from his experience in Ireland so far, it is the far-reaching grip of politics in the countryâs financial system, and the still-considerable forces determined to maintain the status quo as far as possible.
True, the Minister for Finance has recognised the necessity of drafting in qualified, uncompromised and, preferably, individuals of foreign provenance or experience to replace previous holders of top posts in the industry â although, tellingly, he was unable to persuade the top banks of this. Elderfield is the identikit officer for the new-look Irish financial services regulatory and management regime but other new hires such as Mike Aynsley, the highly businesslike Australian put in charge of Anglo Irish Bank; Gerry McGinn, the ex-Bank of Ireland head of Irish Nationwide who already feel bold enough to describe past practices there as an âoutrageâ and Patrick Honohan, whose appointment as Central Bank Governor ended the tradition of appointing Department of Finance insiders, will hopefully help break the culture of decades.
And what a culture. It is difficult to overstate just how craven the Central Bank was to those who were nominally accountable to them over the decades. By the time Elderfieldâs immediate predecessor, the hapless Patrick Neary, had departed the scene, the relationship between the Regulator and the regulated had effectively inverted from what should have been the norm.
In fairness, long before Nearyâs tenure, the watchdog had been rolling over to have its belly tickled by the bankers. Within the industry, anecdotes abound at a regime that allowed the most flagrant and inappropriate practices to prosper, to say nothing of a general level of incompetence.
Extraordinary levels of intra-company hospitality prevailed with massive implications for the efficient working of the market. âIt was quite simple, â says one misty-eyed former currency dealer, âIf you did the trades with a certain broker he looked after you. It was a case, for example, of being offered tickets for, say, the Ryder Cup in Valderrama or whatever else you fancied, based on the business you did. On the stockbroking side, all the pension fund managers were massively overweight in Irish stocks.â
Even more alarming was the level of competence on display. One bank treasurer tells of a typical scene: âThey (Central Bank compliance officers) were useless. You could hide anything from these guys but I remember one time when we were running a significant liquidity risk and even they couldnât miss it. They just closed their folders and said âSee you later, ladsâ and off they went. They didnât want to know.â
The consequences of all this are now plain to see. And recognition by the government that something wasnât working down on Dame Street came with the publication of the Central Bank Reform Bill 2010 at the end of March.
The Bill proposes to create a single, fully-integrated Central Bank of Ireland with a unitary board, dissolving the Irish Financial Services Regulatory Authority (IFSRA). This is a reversal of the Central Bank and Financial Services Authority of Ireland Act of 2003, which set up IFSRA as a new consumer-led regulator but which was quickly recognised as being far too close both physically and culturally to the Central Bank to warrant a separate identity.
The new Bill also attempts to make the Bank more accountable and with greater oversight of its regulatory performance.There will be an annual Regulatory Performance Statement which will be submitted to an Oireachtas committee.
Following the demise of IFSRA, responsibility for consumer information and education will fall to the National Consumer Agency but the consumer function will still be a direct responsibility of the Central Bank which must include this in its Regulatory Performance Statement.
In an attempt to restore public confidence in the management of Irelandâs financial institutions, the Bill also provides for new powers to ensure the fitness and probity of nominees to key positions within the financial services industry and of key office-holders within this providers.
This future screening of key individuals is also a recurring theme in Elderfieldâs utterances to date. As for his other plans, Elderfield gave his clearest indication in a speech earlier this month: âOur new approach requires assertive risk-based regulation underpinned by a credible threat of enforcement.â
Given what we have witnessed, it is the idea of âcredible threat of enforcementâ where the public is likely to remain sceptical and reserve judgement.
It is now getting on for three years since the run on Northern Bank marked the start of the financial crisis. Earlier this month we had the first management casualties of that affair when Elderfieldâs old employer, the UKâs Financial Services Authority, banned and fined two senior Northern Rock executives for their roles in misreporting mortgage arrears figures.
Banning and fining bankers is something that until now has been rather alien to the Irish regulatory scene. In any case, banning and fining are all very well but the public now has a more acute thirst, which nothing short of a few jailings will begin to slake.
But for Elderfield, the game is not about heads on plates or satisfaction of bloodlust. Here are three areas where he will need to make significant impact:
Remuneration: The whole world now knows that not only was levels of bankersâ and other financial services officersâ pay an obscenity, but the remuneration system was actually designed practically to guarantee a catastrophe. Massive variable bonuses based on short term, unsustainable and high-risk business, meant that as the bankers chased the returns in a roaring market, the whole edifice would inevitably crash down once the music stopped â which is exactly what happened. As long as the government holds large swathes of bank stocks it will be relatively easy to curb pay but the tenacity with which bankers hold on to their privileges is remarkable and the experience abroad, where bankers have resumed paying themselves like nothing ever happened, shows just how deep runs their sense of entitlement.
Risk control: Someone needs to keep manners on the bank bosses and that person should be the chief risk officer (CRO). But in order for the role to be effective that person needs to be independent of the CEO. The CRO needs to be accountable to the Regulator and him alone and should have a non-negotiable pay package, preferably linked as a percentage of that of the CEO.
Consumer protection: It is clear that the public is more or less clueless on matters financial and need to be protected from themselves, never mind their rapacious bankers. And as interest rates rise and the banking sector shrinks and reverts to its traditional cartellist mentality, attempting to rebuild its capital base through super-profits, expect the traditional price-gouging to reappear as a regular feature of banking life. But itâs not just the ordinary punter that needs protection. If the richest and most successful businessman in Ireland can blow âŹ3 billion through contracts for difference, one wonders how many other would-be masters of the universe have been skinned by these and other structured products.
Elderfield, having left his tropical island to take up in his Dame Street suite, looks like he has got it right so far. He certainly has licence like he may never have again. More eruptions a la Quinn can be expected and the size of the challenge is enormous but he looks set to enjoy a relatively long honeymoon.
Credit data quality key to lending
Ireland has the highest level of consumer finance outstanding in the EMEA region. At a figure getting on for $170,000 per household, Ireland comes in just ahead of Norway, one of the worldâs richest countries, which has consumer finance debt of around âŹ160,000, then Denmark (âŹ138,000) and the Netherlands ($135,000).
The (relatively) good news is that in terms of personal indebtedness (calculated as consumer finance outstandings as a percentage of personal disposable income) we are ranked number four, behind the Netherlands, Denmark and Switzerland. Obviously this is a legacy of our generous pay levels of the past decade but expect that percentage to rise, together with our EU ranking, as wage deflation and increased taxation takes its toll in the post-crisis workout. We may yet top the charts here within the next couple of years.
On the SME lending side, each day brings fresh complaints over lack of available credit for small business. On the consumer side, no such complaints exist: the appetite of banks to lend here is matched by consumersâ appetite to borrrow (extremely low) and we are witnessing exceptional, and for banks and customers alike, mutually agreeable deleveraging.
But one day (even if it is a far-off day) all this will have passed and appetites will be restimulated. Memories are short and the consumer credit culture is now ingrained. At some stage the credit industry will begin to rebuild its books.
When that occurs the world of consumer credit will certainly be different. In particular, regulation is likely to be far more interventionist. But much will change on the industry side, both in terms of organisation and infrastructure.
Globally, we are seeing the consolidation of credit risk within larger banking institutions as these recognise that the silo-based, individual product-led approach of the past was incapable of building a full credit profile. Post-NAMA, we have been staggered at the lack of due diligence and loan underwriting documentation on the corporate side. Henceforth, on the retail side, the mortgage lender will presumably be organised to find it easier to be aware of those credit cards and that car loan conveniently forgotten at application time (particularly if they are held at the same bank).
But there will also be major changes around the area of credit data. Indeed, right now, around the world, there is an explosion of credit data debate and development in terms of new bureaux openings.
On the corporate side it is no overstatement to say that the established agencies have failed miserably and the credibility of their their entire modus operandi is in serious question.
Yet there is increasing recognition at both national government and supranational levels, and in particular on the consumer side, that effective credit information and data has a massive role to play not just in leading to the recovery of the credit industry, but also in boosting access to credit.
Across the developing world credit bureau are increasingly visible and, ironically, are able to leap-frog their equivalents in developed markets in terms of data quality and reporting standards.
Developing markets offer major challenges for private credit bureaux in that there is little credit data available because of low levels of existing credit. In these markets â and equally in developed markets â it becomes critical to extend the breadth and access to available data.
One of the difficulties is the fact that many markets rely solely on negative data such as missed payments and defaults in building a credit profile. Yet in every country where data reach was extended to positive data the credit quality has increased significantly. Fortunately here in Ireland a positive repayment history in formal credit arrangements is taken into account in building up a rating.
But what happens where no credit history exists? Difficult as it may be to imagine right now, here in Ireland we will see a new generation of borrowers enter the system. If these people are to be granted easy entry into the credit system then it may be necessary that alternative data be taken into account â data such as mobile phone and utility payments.
Of course for every suggestion that new and alternative data be included in bureaux ratings there is oposition on the grounds of data privacy, something that finds far more vocal expression in Europe than, say, the US.
Clearly a balance may be struck but the logic that more information means better lending decisions and â ultimately â more lending, is inescapable.
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Striking a balance in debt relief
Sean Fitzpatrick (or at the very least âsources close to Sean Fitzpatrickâ) would have us believe that his descent into personal bankruptcy was ultimately to satisfy public outrage; that the scheme of arangement proposed by him would in fact have led to his creditors eventually receiving a greater proportion of amounts owed to them.
The latter proposition is contentious but there is little doubt that the Fitzpatrick issue provided present management of Anglo Irish Bank with the perfect opportunity to demonstrate its dispassionate approach â towards their reckless predecessors in general, and towards the poster boy for the banking disaster in particular.
With Fitzpatrickâs very public bankruptcy, the public got its wish. At the same time, and in the present environment, for many members of the public the issue of insolvency and personal bankruptcy is becoming a matter far too close to home, either through personal experience or that of their friends, family and associates.
The notion of bankruptcy still has the power to call up ghastly historical spectres such the debtorsâ prison but even today bankruptcy is still by no means a pleasant state. This is particularly so in Ireland. As of now, Sean Fitzpatrick may no longer act as company director, nor indeed may he be part of the management of a company. What assets he has are transferred to the Office of the Official Assignee. The Assignee may make deductions from future income to pay off existing debts. He cannot secure a loan in excess of âŹ650. And this status will remain for 12 years or until he discharges his debts.
Fitzpatrick joins a select bunch: extraordinarily select when placed in context with our neighbours.
In 2009 there were just 20 individuals declared bankrupt in Ireland and currently that level is being roughly maintained. Against that, personal insolvencies in England and Wales continue to grow unabated, now running at just under 36,000 a quarter.
Of course, UK personal insolvencies include Individual Voluntary Arrangements (IVAs) and Debt Relief Orders (lower value bankruptcies for those with minimal assets) but the comparison with Ireland (where neither IVAs or Debt Relief Orders exist) is valid.
Actual declared bankruptcies in the UK in 2009 were about 90,000. To extrapolate from these figures by size of population, Ireland should have annual bankruptcies of something like 600 per annum. So, in fact the rate of bankruptcy in Ireland is running at about one-thirtieth that of the UK.
No doubt we will be experiencing a relative surge in bankruptcies over the next few months but it is clear from comparison that the bankruptcy experience in the UK is profoundly different from that in the Republic.
This was something highlighted by the Law Reform Commissionâs interim report on personal debt management and debt enforcement published in May. It quoted its own original consultation paper which noted that âthe ineffective nature of the 1988 [Bankruptcy] Act was shown in the extraordinarily low numbers of bankruptcies in Ireland each year when compared with countries demonstrating similar social and economic conditionsâ, and âthat Irish personal insolvency law is in need of comprehensive reform and that the Bankruptcy Act 1988 is inappropriate to meet the needs of modern social and economic conditions in a âcredit societyâ.â
In the Commissionâs view, bankruptcy in Ireland was shown to be so expensive as to be beyond the reach of all but the smallest minority of over-indebted individuals. It recognised âthe philosophy of punishmentâ lying behind the 1988 Act which was criticised as being âout-dated and wholly inappropriate under social and economic conditions that depend upon the use of credit for economic growth and prosperityâ.
The 1988 Act positions bankruptcy as a creditorâs âenforcement mechanism of last resortâ, where other more enlightened systems viewed bankruptcy as âa tool for the social rehabilitation and economic recovery of debtors.â
The latter alone would account for the massive discrepancy between Ireland and the UK where the process is far less onerous, in particular the duration of just one year, as compared with proposals for the Irish law to reduce the period of bankruptcy to six years from 12.
In fact the bankruptcy issue has highlighted the overall woeful inadequacy of debt relief in Ireland. In adition to changes in the bankruptcy laws, the Law Reform Commission is likely to recommend a system similar to the the UKâs Individual Voluntary Arangement (IVA). Here a debtor can enter into an arrangement with creditors through a non-judicial third party intermediary, typically where is an undertaking to repay between 40 and 60 percent of sums owed (providing creditors to a number and value of at least 60 percent are in agreement).
As no mechanism such as an IVA exists presently in Ireland â and bankruptcy is clearly unattractive if not indeed prohibitive for debtors and creditors alike âit is clear that numerous individuals are entering into informal arrangements with their creditors and very often on a piecemeal rather than consolidated basis.
The problem with this for the credit industry is that there is absolutely no public record of these arrangements which leaves the door open for repeat offenders. Meanwhile, the records of the Irish Credit Bureau, the sole public recorder of debt default, is confined to secured and unsecured bank lending â nothing on overdrafts or credit cards, for example.
And not all debt defaulters can be compared with Sean Fitzpatrick. As well as the reckless â and indeed the crooked â there are the unfortunate and, whatever the provenance, some degree of debtor protection is necessary.
For example, if and when IVAs come to Ireland it is critical that the growing IVA âhard sellâ culture in the UK is avoided. Evidence is mounting of IVA mis-selling where debt-stricken consumers are either paying too much to the intermediary for the facilitation, or taking on an IVA when in fact a simpler, less formal arrangement through, say, a credit counselling bureau, is more appropriate.
Last, there are also the cases where, through persuasion, indiduals opt for an IVA where in fact they never had any no realistic chance of clearing their debts â in which case a declaration of bankruptcy is the only option.
Central Bank Bill flags complete control
For the general public, particularly for those observing the activities of global investment banks, one of the most remarkable aspects of the financial crisis has been the ease with which these banks have been able to revert to âbusiness as usualâ in terms of extraordinary profits and matching bonuses.
Now that the reality of the scale of the macro-problem has sunk in, individualsâ attentions switch naturally to the micro-problem â that of personal financial survival. In this environment, as in the aftermath of most public scandals, watch for the usual catchphrases from senior bankers (and equally culpable politicians and regulators) are quick in coming. These people would have us believe we must âdraw a line under the pastâ. After all, âwe are where we areâ and it is now âtime to move onâ: an approach to virtually guarantee that history repeats itself.
But could it be different this time?
In the wider world, the calls for separation of the deposit-taking retail banking activities of the major universal banks who have vandalised the global economy are incontestable. But that is not to underestimate the powers of resistance of those same banks and we will have to wait and see just in what state they ultimately emerge from current regulatory scrutiny.
At home, a different kind of banking break-up is imminent as the major banks are obliged to meet the demands of the EU to divest certain subsidiaries which ties in with an urgent need to raise cash. And for what will be left of the Irish banking and financial services sector at the end of that process, there are good reasons to believe that nothing ever will be the same.
The man charged with ensuring that we learn something from the disaster is of course the new financial regulator, Matthew Elderfield.
In an addres to the Public Accounts Committee on the response of the Financial Regulator to the financial market crisis, Elderfield set out the work to date and his plans for the future.
Phase one of the improved supervisory system (introduced by his predecessor, Mary OâDea) brought in what he called âa more intensive approachâ to the regulation of banks with regulated firms having increased reporting obligations so that the Regulator could obtan more comprehensive information on a timely basis.
There is also increased personal visibility: âSupervisory staff were placed on site in the banks so that they could attend regular meetings with senior executives, including those responsible for compliance, internal audit, risk management and credit, and could attend certain board, board committee and other management meetings on a sample basis to assess corporate governance in action.â
The close, personal proximity of removitated and inquisitorial Central Bank personnel is presumably something new for Irish bank officials who have heretofore been used to running rings around their supine supervisors. They may, however, still be in a position to do so, as Elderfield acknowledges that not only does he not have remotely enough staff to do the job, but that the staff he does have are severely lacking in the necessary technical knowledge required â something that he intends to address with a training regime over the next few months.
The second phase of the new regulatory regime is based around âan assertive risk-based system of regulation underpinned by the credible threat of enforcementâ. Central to the execution of that aspiration is a legislative process of which the Central Bank Reform Bill 2010 forms the first part.
In many ways, the Bill is low on detail but unmistakable in its intention and has profound implications for day-to-day management of financial organisations.
In terms of headline potential, the intention to abolish the Irish Financial Services Regulatory Authority (IFSRA) perhaps takes top billing. The decision in 2003 to form a prudential regulator-cum-consumer protection agency, separate from the monetary policy aspects of Central Bank operations is now acknowledged as a mistake â although there were plenty who warned of this back in 2003.
But it is the provisions relating to âcontrolled functionsâ that are of greater significance to regulated institutions.
Under the terms of the Bill, the Bank may prescribe a controlled function if, in relation to the provision of a financial service, it is:
â˘Â   likely to enable the person responsible for its performance to exercise a significant influence on the conduct of the affairs of a regulated financial service provider, or
â˘Â   is related to ensuring, controlling or monitoring compliance by a regulated financial service provider with its relevant obligations.
A financial institution cannot allow a person to perform a controlled function unless it âis satisfied on reasonable grounds that the person complies with standards of fitness and probityâ.
The Bank can also designate certain controlled functions for âpre-approvalâ entirely at its discretion. In this regard, the Bill mentions a person who holds the office of director, chief executive or secretary or any person who reports directly to them.
But that is just the start. The Bank can prescribe a function as a pre-approval controlled function if it adjudges it is warranted âon the grounds of the size or complexity of the regulated financial service provider or its businessâ, and âis necessary or prudent in order to verify the compliance by the regulated financial service provider with its relevant obligationsâ.
Further provisions effectively make it possible for the bank to prescribe as a controlled function virtually any role in the regulated institution.
The regulated entity cannot appoint a person to a pre-approval controlled function unless the Bank has approved that personâs appointment in writing. The Bank has searching powers in relation to that personâs appointment including interview by an officer of the Central Bank. The Bank can refuse the appointment and suspend or prohibit any person who does not meet standards of fitness and probity.
These provisions are so massively all-embracing as to give the Bank unprecedented powers over the day-to-day management of regulated entities. As things stand, the effect will be to infantilise the management of the countryâs financial institutions. The definition of controlled function also has the capacity to paralyse all regulated entities â from AIB to the smallest mortgage broker â in terms of management structure, recruitment and succession.
It can only be assumed that the follow-up Bill, expected in the autumn, will add some specifics in terms of roles affected. That said, the pervasive reach of the newly constituted Central Bank in every aspect of financial services in the future seems guaranteed.
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