Simon Carswell on how the bank guarantee happened

The Irish Times – Saturday, September 25, 2010

The big gamble: The inside story of the bank guarantee

One night two years ago a small group gathered in Government Buildings to
make the biggest financial decision in Irish history. SIMON CARSWELL ,
Finance Correspondent, looks at what really happened behind closed doors in
the last days of September 2008

IT WAS THE biggest financial gamble, and arguably the biggest policy
decision, ever taken by an Irish government. The move in September 2008 to
guarantee the banking system, covering customer deposits and banks’ own
borrowings to a total of €440 billion, tied the future of the country and
its finances to the survival of its banks.

It has forced billions in losses – possibly up to €40 billion – on Irish
taxpayers. It has socialised the cost of decade-long misadventures of
runaway banks whose managers and private shareholders enjoyed the spoils of
bumper profits through the boom.

Through the night of Monday, September 29th, 2008, and into the early hours
of Tuesday, September 30th, crisis-management talks took place, involving
the Taoiseach, Brian Cowen, and the Minister for Finance, Brian Lenihan.
Their purpose was to prevent the collapse of Anglo Irish Bank later that
day – and possibly other banks later that week.

The country’s four most senior bankers, at the two largest financial
institutions, Allied Irish Banks and Bank of Ireland, were so alarmed by
the events of that Monday that they sought an urgent meeting with Cowen and
Lenihan to stress that the banking system was on the brink.

After hours of deliberation, the Government chose the guarantee from a
range of options. The catch-all solution was unparalleled in its scale and
in the risk that the State took on, guaranteeing liabilities amounting to
10 times the national debt and more than twice the value of the economy.

Has the gamble paid off? The roulette wheel is still spinning, and the ball
has yet to fall. It could spin for some time yet. Irish banks remain
vulnerable and have funding problems again; this time the questions are
about the financial strength of the State backing them. Anglo Irish Bank
and the uncertainty around its final cost poses the greatest threat.

It could be years before we know the final cost of the bailout. The
National Asset Management Agency (Nama), the State body set up to take the
most contaminated property loans out of the banks, will be in operation for
up to a decade. We may not know until 2020 whether Nama can recoup the
estimated €40 billion it is expected to spend buying the loans.

The risk was enormous, as the Government stood behind the banks without
knowing the full scale of the carnage facing them on their vast loans to
the collapsing property market. It has since emerged that all but one of
the six domestic financial institutions had severe shortages of capital to
protect against losses.

At its peak, in September 2008, the global financial crisis revolved around
the vast shortages of liquidity across the world’s banking system. The fear
was that banks would run out of the cash that enabled them to meet
day-to-day obligations. And after the US bank Lehman Brothers collapsed, on
September 15th, no bank was safe.

As the two-year anniversary of the guarantee approaches, next Wednesday,
further evidence has emerged through recently released documents – and from
official and unofficial sources – painting a clearer picture of the events
leading up to the guarantee and the day of the guarantee itself, when Anglo
was hours from collapse.

For the following narrative we’re drawing on new voices, using the memories
of a number of key insiders to help fill in more of the information gaps on
the crunch meetings and behind-the-scenes crisis management.

Their accounts allow us to understand why this unprecedented decision came
about and how the desperate efforts of the banks and their regulators
failed to save them, forcing the Government to step in at the 11th hour as
the banks stared over a cliff edge.


By the time the global credit crunch strikes, in August 2007, Irish banks
have lent beyond the deposits taken in during the property boom; they
bridge the gap of about €200 billion by borrowing in international markets.
Real planning for an Irish bank crisis begins in early 2008, when the
Central Bank/Financial Regulator (CBFR), the Department of Finance and the
National Treasury Management Agency (NTMA) begin investigating how they
would cope with a run on or collapse of a bank. This domestic standing
group becomes the Government’s financial war cabinet. Crisis planning turns
to crisis management in mid-September.


Lehman Brothers files for bankruptcy in New York, sparking panic in the
financial markets and turning a crisis into a catastrophe. Anglo Irish Bank
starts losing large deposits, sourced mostly from the money markets, of
between €50 million and €200 million each. These total about €1 billion a
day. Anglo chairman Seán FitzPatrick and chief executive David Drumm meet
their counterparts at Irish Life & Permanent, Gillian Bowler and Denis
Casey, to discuss a possible merger. Irish Life & Permanent turns down
Anglo and instead approaches EBS about merging.

Wed 17 Sept 08: ANGLO IN BREACH

The haemorrhaging of deposits means Anglo has breached its regulatory
liquidity ratios. The bank asks the regulator for a special line of
liquidity in case more deposits are lost. Anglo proposes using some of its
€73 billion loan book as collateral to draw emergency funding from the
Central Bank of Ireland.

Thurs 18 Sept 08: TALK-TO-JOE DAY

RTÉ Radio 1’s Liveline programme features calls from worried depositors who
say they have moved their deposits into prize bonds, stuffed the money
under their mattresses or buried it in their gardens. One well-placed
insider recalls this sparked “a mini-run” of deposits between Irish banks.
“It was fuelled by taxi-driver and hairdresser conversations. Every bloody
second town had a different version of the rumours, with different banks
being in trouble,” he says. Brian Lenihan rings RTÉ director general Cathal
Goan to express his concerns about uninformed comment at a time of crisis
for the banks and its possible effects on them.

* Anglo Irish Bank makes a presentation to the Department of Finance,
saying it will be “highly profitable” in 2009, with bad debts of just €300
million. Officials from the department greet Anglo’s soundings sceptically.
Anglo chairman Seán FitzPatrick meets Lenihan and proposes Anglo take over
Irish Nationwide with Government support. The Minister dismisses the idea.
Senior Finance officials believe Anglo is trying to secure Government

Later, Government and regulatory officials meet Brian Lenihan to discuss
the “great strain” on the liquidity of the banks. They decide to increase
the State deposit guarantee scheme from €20,000 to €100,000. Central Bank
governor John Hurley suggests a €10 billion emergency fund and the
possibility of nationalising or supporting Anglo.


The regulator meets the banks and building societies in sequence to gather
further intelligence on how much they are losing in deposits, and their
views on potential mergers. They are told the Government will announce the
increase on the deposit guarantee that day, and that the announcement will
contain “generous wording” signalling that the Government stands behind the
banking system. Later that day, the Government says publicly that it wants
to “protect the whole financial system, secure its stability and ensure
that all deposits in Irish financial institutions are safe”. “The statement
contained what officials called ‘constructive ambiguity’,” recalls an
insider. “It was never quite clear what the Government was saying, but it
was so ambiguous it could be seen constructively by the market.”


Goldman Sachs, advisers to Irish Nationwide, tells Government officials the
building society is in danger of running out of funds in 11 days.


Seán FitzPatrick and David Drumm meet Irish Life & Permanent’s Gillian
Bowler and Denis Casey again, to persuade them of the merits of a merger.
Irish Life & Permanent, the fourth-largest, but strongest, of the Irish
banks, rules it out for a second time but agrees to continue to give Anglo
short-term liquidity.

The Central Bank tells senior officials from the Department of Finance and
the NTMA that there have been “considerable outflows” from certain
institutions. The Central Bank says it believes the liquidity “pool”
available to the authorities needs to be bigger. Anglo had previously
requested €7 billion in an asset swap from the Central Bank, which refused
to provide it unless absolutely necessary.

The authorities assess how much cash they can cobble together to support
the banking system, and say that a “war chest” of about €18 billion is
available from various State agencies. “They knew Anglo’s back was against
the wall and they did a stock-take of what they had available,” recalls a
well-placed source. Sources close to the old team at Anglo claim that they
were told in meetings that the Central Bank, in its role as the “lender of
last resort” to the banking system, had access to only €4 billion for the
banks and even this would be difficult to access quickly. Anglo was shocked
that the Central Bank had less than 1 per cent of the value of the
country’s bank assets in reserve. The Central Bank is understood to dispute
this, claiming there were no constraints on the liquidity it could provide
to Anglo or any bank. However, it was reluctant to use so-called emergency
lending assistance, fearing the negative impact on banks’ reputations.

Tues 23 Sept 08: BRAINSTORMING

A brainstorming session takes place at the department to consider breaking
up financial institutions and merging them with others to strengthen the
banks. AIB and Bank of Ireland had that month been asked whether they could
take over Anglo. “The question was asked, but it just wasn’t a runner,”
remembers one source.

Thurs 25 Sept 08: ‘IT WAS DIRE’

As the banks continue to lose deposits and their shares keep falling,
meetings intensify and department officials and their advisers Merrill
Lynch – appointed the previous day – meet the CBFR to discuss what steps
need to be taken next. Various options are discussed, as advised by Merrill
Lynch: ordinary funding support, a special liquidity scheme to lend €20
billion to the banks, guarantees, nationalisation and a bad bank to take
out problem loans. “At this stage, things were getting worse and worse – it
was dire,” says one insider. Another recalls: “They were looking at options
– the focus was exclusively on liquidity, and for the most part they had
not jumped to some of the what-ifs around solvency.”

Fri 26 Sept 08: ‘IT COULD BE A MISTAKE’

Merrill Lynch tells Brian Lenihan a blanket guarantee “could be a mistake”
that would damage the country’s credit rating and allow “poorer banks” to
continue in business. At the same time, the advisers say that the guarantee
would be the “best, most decisive, most impactful” from the market’s
perspective. Anglo formally requests a short-term liquidity loan of €1.7
billion from the Central Bank to tide it over the end of the month. The
same day, Irish Life Permanent begins providing up to €3.45 billion in cash
deposits to Anglo over the next four days.


PricewaterhouseCoopers says Anglo has lost €10 billion in deposits over the
crisis period, including €5 billion of big company and institutional
deposits and €440 million in everyday customer or retail deposits over the
past week. They warn that Anglo is heading towards a cash shortfall of €12
billion. Anglo’s deposits are now being monitored five times a day. “They
knew Anglo was going to drop first,” says one source.


Merrill Lynch warns the Government that Anglo is close to collapse, that it
has exhausted all sources of liquidity, and that it faces a funding deficit
of €100 million by Tuesday. Merrill Lynch recommends that the Central Bank
provide €5 billion in overnight liquidity in addition to establishing a €20
billion State-backed emergency lending scheme – but points out that this
may not be enough for Anglo and Irish Nationwide and that the State may
need to take them over. The advisers say, as an alternative to overnight
liquidity, the Government could guarantee the six banks, but that this
could raise credibility issues given its scale – involving covering bank
liabilities of about €500 billion.


The European banking system is now in meltdown. Four banks are propped up –
Bradford Bingley in the UK, German property lender Hypo Real Estate (and
its Dublin bank Depfa), Glitnir in Iceland and Fortis in Belgium. Irish
banks, particularly Anglo, are next in line. As Irish bank shares start
plummeting, Anglo’s board decides on radical action in a last-ditch attempt
to keep the bank alive. Seán FitzPatrick and David Drumm approach AIB and
Bank of Ireland seeking assistance and to propose possible mergers.
FitzPatrick telephones Bank of Ireland governor Richard Burrows and Dermot
Gleeson, chairman of AIB, seeking urgent meetings. Burrows takes the call
and agrees to meet immediately.

* That afternoon, FitzPatrick and Drumm drive to Bank of Ireland’s head
office on Baggot Street, enter the building discreetly through a back
entrance and go – via a back lift – to the seventh-floor boardroom, where
they meet Burrows and the bank’s chief executive, Brian Goggin.

Anglo asks the bank for liquidity and whether it would enter into asset
swaps, allowing Anglo to access much-needed ECB funding, or whether the two
could pool their resources in some kind of merger. Burrows and Goggin are
gracious, and the meeting is businesslike, lasting no more than 30 minutes
– they explain that they have their own liquidity difficulties. Bank of
Ireland rules out any merger of the two banks and suggests that they both
approach the Government as an industry to force a solution to the crisis,
as Anglo feels the Central Bank is at sea.

* As the Anglo chairman and chief executive return to their head office,
Dermot Gleeson of AIB returns FitzPatrick’s call. The call is short –
Gleeson says AIB is not prepared to meet them and that the bank is also not
in a position to help Anglo. The call leaves FitzPatrick in shock. Tensions
between FitzPatrick and Drumm have risen to a difficult level.

* Anglo learns that the bank will be short at least €1.5 billion overnight.
This is the final straw – the bank would not be able to open for business
the following morning. The run on deposits has run the bank dry.

As the crisis intensifies, Anglo approaches Irish Life & Permanent seeking
€500 million initially and larger amounts on two later occasions. Irish
Life & Permanent declines, as Anglo cannot put up supporting collateral.

* Following Anglo’s overtures, Bank of Ireland and AIB are in contact, and
Bank of Ireland then calls Government officials, seeking an urgent meeting
with the Taoiseach and Minister for Finance; AIB agrees to join them. The
banks believe immediate Government action is required, fearing Anglo’s
failure to meet repayments the following morning could also quickly bring
the two other banks to the edge.

Mon 29 – Tues 30 Sept 08: A NIGHT IN THE SYCAMORE ROOM

The crisis has reached breaking point. The Irish stock market has endured
its worst performance in more than a quarter of a century. Anglo stock has
collapsed, losing 46 per cent of its value. AIB and Bank of Ireland have
also endured heavy losses. “The whole bloody thing was collapsing around
our ears,” recalls one source. “It was a really grim day – you just didn’t
know what was going to happen the following day,” says another well-placed

Fearing that it might be corralled into a protective merger with AIB, Irish
Life Permanent approaches French bank BNP Paribas about a possible merger
but is later told the crisis would stymie any deal. Seeing the collapse in
bank shares and its devastating effect on liquidity, the Taoiseach,
Minister for Finance, their most senior department officials and Central
Bank governor John Hurley meet at Government Buildings.

At 6.37pm, Kevin Cardiff, a senior official at the Department of Finance,
e-mails Merrill Lynch executive Henrietta Baldock, asking for an advisory
document setting out “the pros and cons of guarantee a sap [sic]” as he is
in a meeting with the Taoiseach. She e-mails the document to him six
minutes later. Discussions continue as Gleeson and Eugene Sheehy from AIB
and Burrows and Goggin from Bank of Ireland arrive at Government Buildings
around 9.30pm. The bankers are shown to the famous Sycamore Room and wait
while the Taoiseach, Minister for Finance and officials consider their
options. The bankers are soon called in. All the key senior figures and
officials are in attendance, with the exception of Pat Neary, the regulator.

Gleeson speaks first, outlining the damaging and contaminating effect Anglo
is having on the wider Irish banking system. Burrows provides more
scene-setting detail, and Sheehy and Goggin speak up on more technical
banking matters concerning liquidity. Both banks ask the Government to
nationalise Anglo and possibly the next weakest, Irish Nationwide, and to
guarantee the other banks.

The bankers leave, with AIB and Bank of Ireland returning to separate rooms
in the building. Cowen and Lenihan, their officials, and Attorney General
Paul Gallagher SC remain to decide on the action to be taken. They accept
doing nothing is not an option. Nationalising one bank, notably Anglo, is
ruled out, despite legislation to do so being in place. Officials believe
the banking collapses across Europe that day show a solution involving one
bank would not be enough.

A blanket guarantee of the banks’ liabilities is chosen as the best, most
effective option, despite its potential effect. Taking Anglo into State
hands might still be required but its nationalisation mid-week when the
markets are still open, it is thought, would be too disorderly. The bankers
are later told a Government guarantee is available but they must request it
rather than be offered it in what is interpreted to be a technical matter
of procedure. They are asked whether they can provide short-term liquidity
to Anglo. They return after talking to their respective treasury teams,
saying they can each provide €5 billion for a matter of days, but only if
the repayment is guaranteed by the Government. Up to an additional €3
billion would be made available by the Central Bank to Anglo in an asset

* The bankers leave Government Buildings at around 3am, hours before the
Government announces the guarantee covering bank liabilities, including,
controversially, €11.4 billion of subordinated debt, the funding provided
to banks by investors for a higher risk premium.


Government Ministers are contacted one by one and their approval sought
through an “incorporeal” meeting where Cabinet decisions are reached by
telephone. The regulator, Pat Neary, calls or leaves messages for the
chairpersons or chief executives of the four newly-guaranteed institutions
who had not been in attendance at Government Buildings the previous night.

* Before 6am, Lenihan calls the French finance minister, Christine Lagarde,
then chairwoman of the EU finance ministers, and Luxembourg’s prime
minister, Jean Claude Juncker, who heads the group of euro zone member
states, informing them – mostly in French – about his decision to guarantee
the banks.

The guarantee is announced around 6.45am, making Ireland the first country
in the world during the global financial crisis to introduce an
industry-wide blanket guarantee.British chancellor Alistair Darling learns
about the guarantee from a radio news bulletin that morning. Furious, he
calls Lenihan, seeking to have it reversed, and warns that the measure
would put pressure on British banks.

* The €5 billion in funds made available by AIB and Bank of Ireland for
Anglo Irish the previous night is not drawn upon, as deposits begin to flow
back into the bank, which is slowly moving back from the danger zone.
Following the introduction of the guarantee, Anglo asks Irish Life &
Permanent for a €4 billion overnight deposit.

This is given, because Anglo now offers collateral of €4 billion by
depositing this sum at Irish Life & Permanent in a back-to-back circular
transaction. This transaction is unwound the following day, and the
remainder of deposits totalling €7.45 billion in Anglo-Irish Life &
Permanent transactions is repaid over the following days.

It later emerges these short-term deposits were used by Anglo to flatter
its balance sheet on the bank’s September 30th year-end reporting date for
its 2008 accounts. They are now the subject of a Garda investigation.

The guarantee is welcomed by international markets and stops the flow of
deposits out of Irish banks. “It was a chaotic morning but we noticed
immediately that the general mood among depositors was better – the
outflows stopped and the one-way traffic we had seen over the previous days
and weeks came to an end,” recalls one source in the thick of the crisis.
What happened next?

The guarantee may have helped tide the banks over, day to day – at least
for several months – but the move was followed by months of uncertainty and
indecision about whether the banks had sufficient amounts of capital set
aside in reserve to meet the spiralling losses on their massive exposure to
the property market.

Since guaranteeing the six domestic banks, the Government has so far been
forced to pledge or inject €33 billion into five banks. Given the perilous
state of the public finances, most of this money (almost €22 billion) has
been provided in the form of promissory notes, or Government IOUs, to
spread the payments out over 10 to 15 years.

Only Irish Life & Permanent, which avoided lending to property developers,
has avoided a Government capital injection.

The Government has taken ownership of three institutions – Anglo, Irish
Nationwide and EBS. It holds a 36 per cent stake in Bank of Ireland and
almost 19 per cent of AIB. However, this may rise – possibly to majority
State control – if the bank cannot raise €7.4 billion from private
investors and asset sales this year.

On top of this, the State is buying €81 billion of toxic property and
related bank loans through the National Asset Management Agency, paying an
estimated €40 billion.

There has also been something of a clear-out of bankers since the
guarantee. Ten of the 12 chairpersons and chief executives at the six banks
have stepped down, though only two banks (Anglo and Irish Nationwide) are
being led by external appointees; the rest are insiders.

The collapse of the European funding markets and the sovereign debt crisis
since May has meant that Irish banks, even with the backing of a Government
guarantee, are finding it impossible to borrow as the liquidity crisis
returns – this time on top of a solvency crisis.

The Government has extended the blanket guarantee (but excluded
subordinated debt) from its original expiry date of next Wednesday until
the end of the year – on top of another, longer-term bank guarantee set up
last year. It seems it will be some time before Irish banks can be fully
weaned off the drip of Government support and stand on their own.

The cost of the guarantee: what the taxpayer has spent

€440 billion

Bank deposits and liabilities covered by guarantee on the night it was

€334 billion

Deposits and liabilities covered by the guarantee and last year’s
longer-term guarantee

€1 billion

Fees earned by the Government from the banks on the guarantees

€33 billion

Amount of State money injected or pledged to the banking system

€25 billion

Current estimated cost of bailing out Anglo; expected to rise further


Government fees paid to consultants, including Merrill Lynch, for advice on
bank bailouts

Who was who: The key players

Brian Cowen, Taoiseach

Brian Lenihan, Minister for Finance

Dermot Gleeson, Chairman, AIB

Richard Burrows, Chairman, BoI

Eugene Sheehy, Chief executive, AIB

Brian Goggin, Chief executive, BoI

John Hurley, Head, Central Bank

Pat Neary, Financial Regulator

Seán FitzPatrick, Chairman, Anglo

David Drumm, Chief executive, Anglo

Gillian Bowler, Chairwoman, IL&P

Kevin Cardiff, Dept of Finance


ASSET SWAPS The exchange of loans between banks

CAPITAL Cash held in reserve to protect against losses

LIQUIDITY Cash available to make immediate repayments

SOLVENCY The ability to repay all debts