Dr. Dan McLaughlin:

Thank you, Mr. Chairman. Good afternoon, everyone. Thank you for inviting me along to speak to you. As requested, I've furnished a statement addressing certain designated lines of inquiry to the banking crisis. I've also included some general points which I feel are relevant and rather than read out the full statement, I just want to summarise a few remarks.

Just by way of background, I was employed by Bank of Ireland in the role of chief economist from February 2001 to August 2013. I think Mr. Chairman, you ... in your opening remark, you said 1999. Just to clarify, it was 2001.

During that time my office was in the dealing room of global markets, which was responsible for executing the bank's funding strategy and in providing a service on foreign exchange and interest rates to the customer base. I was in charge of the bank's economic research unit, which produced analysis and commentary on the Irish and UK economies and in developments in the financial markets. The unit also provided support to other areas of the Bank of Ireland Group, including a written monthly summary of economic and financial developments to the chief executive. As chief economist, I also participated in meetings with rating agencies, counterparty banks, and on occasion, debt and equity investors, as well as presentations to customers on economic outlook. I reported to the head of global markets.

I now want to turn to a couple of general observations on the banking crisis. The first relates to the banking system that operated in Ireland prior to the crash and to highlight that although there were common features, the range of the subsequent losses illustrates that the banks differed greatly in terms of credit standards, risk appetite, geographical spread and exposure and degree of loan concentration. Second, banks are mainly staffed by specialists, and in light of the fact that the bank is a publicly-traded company, other than information published in the market, everything is done on a need-to-know basis, which is particularly true in terms of crisis. A third point relates to the narrative that has developed around the banking crisis, which, given the benefit of hindsight, risks overstating what was known at any point in time. Our knowledge of the outcome makes it difficult to judge past events. We should also be clear as to what published data was available and when, an issue I address in more detail in my furnished statement.

In my view, there were three separate factors contributing to the crisis, each overlapping in exacerbating the other. The first was the property market: Ireland experienced a residential property boom which lasted well over ten years, and in my view, until around 2005, was mainly driven by fundamental factors, including strong growth in employment, rising household incomes, a move to a lower interest rate regime following euro membership and an extraordinary increase in population of, it was a 17% rise in the decade to 2006 of 615,000. It was only in the latter stages of the boom which saw an easing of credit standards and the Central Bank quarterly survey data of credit standards shows this, particularly from 2005. Affordability also started to deteriorate and my own affordability model pointed to a marked increase in the cost of servicing a new mortgage in 2007. Particularly following the monetary tightening initiated by the ECB, we saw the repo rate rise from 2% to a high of 4.25%, which wasn't reached 'til July 2008. I initially felt, in 2007, that the slowdown in the housing market would involve flat or falling real prices and not a fall in nominal prices, as the latter had only happened once in Ireland over the previous 30 years. The Irish economy is very open and hence heavily influenced by the international economic cycle, although from 1970 onwards, the Irish economy had contracted in GDP terms in only one year, which was 1982. The consensus view in mid-2008, which I shared, was that any US recession would be as short-lived as had been the case in the previous two, which had been 1990-91 and 2001. Both had lasted only eight months. This didn't prove to be the case, of course, and I believed that the unprecedented collapse of the global credit markets which followed the Lehman bankruptcy in September 2008, was a second and decisive negative which hit the Irish economy and the banking sector. The chairman of the Federal Reserve, Alan Greenspan, called it a "one in 100-year event". We will never know how steep the Irish property correction would have been in the absence of that collapse and I find it at variance with the facts that some people appear to play down its significance in relation to the banking crisis. The impact of the credit crunch was certainly extreme, both internationally and in Ireland. The S&P index fell by 50%, GDP in the developed economies experienced its largest post-war contraction, and Irish GDP, which actually rose by 1.2% in the third quarter of 2008, on the initial figures that were published at that time, contracted by an extraordinary 7.1% in the final three months of 2008. The total contraction in the recession was about 12.5%. So over half of that was experienced in just three months, post-Lehman.

Commercial property prices also tumbled, a prime factor behind the decline in the value of bank assets, with record falls recorded in many countries. UK prices fell by 26% in 2008, while the plunge in Irish values was also unprecedented. Capital values had fallen by 10% in the first half of the year, before falling by 15% in the third quarter and 18% in the final quarter of 2008 and a further 18% in the first half of 2009. It is also noteworthy that Ireland chose to mark to market these assets at an extreme stage of the cycle. It is also noteworthy that not many other countries, if any, followed that example.

Few, if any, envisaged the effective collapse of the global credit system, while the unprecedented scale of the policy response, including massive state support for banks, zero and even negative interest rates, which are still with us, seven years later, QE and new capital and liquidity rules for the global banking sector, is also testimony to the singular degree of financial disruption that emerged post-Lehman, with the ramifications still being felt, noticeably of course in the euro area. Finally, a third factor emerged in 2010, and again I don't think this is given enough attention, which relates to the sovereign debt crisis, which by 2012 had developed into an existential crisis for the euro. State support for the banking sector, initially seen as positive, was now perceived as adding stress to already high sovereign debt levels and the subsequent fall in government bond prices added to bank losses, given their holdings of government debt, a phenomenon that became known as the doom loop. In that context, it is noteworthy that a number of official reports into the banking crisis in Ireland, including Professor Honohan's, was commissioned in 2010, presumably on the view that the worst was over, but ECB lending to Irish-headquartered banks was higher in early 2011 than in 2008, and ELA support also peaked in 2011. New regulatory capital requirements also resulted in widespread bank deleveraging, so adding a further downward pressure to asset property markets.

In 2012, the Central Bank's housing models show that Irish residential prices were now as much as 26% below fundamental value. It is also of note that the Central Bank's prudential capital assessment review, or PCAR, which began in, which was in March 2011, identified a large capital shortfall in the main Irish banks and that ... and then substantially overestimated the projected pre-impairment profitability. In the event, the requirement to offload assets and to increase deposits put significant pressure on net interest margin. The scale and extent of private sector deleveraging in Ireland, which is still apparent, also resulted in a larger fall in bank assets than envisaged in the PCAR.

In summary, the correction under way in the Irish property market in 2008 turned into a crisis for the economy and the banking system in the wake of the post-Lehman collapse in the global credit system and a fallout from the subsequent sovereign debt crisis in Europe was a significant factor in delaying the return to bank profitability and in slowing the pace of economic recovery in Ireland. Thank you very much for your attention.