Professor Philip Lane:

I thank the Chairman. In the second part of the meeting, I will cover three topics, namely, the macroeconomic cycle, non-performing loans and Brexit. To give a one-line summary of where we are now, during economic upswings, as we are currently experiencing, it is vital to build up financial and fiscal buffers. If we want to have easing policies during downturns, that requires corresponding restraint during expansion phases.

In terms of the macroeconomic cycle, we are currently in a phase of strong performance, where we are seeing a broad based expansion in employment and an increase in earnings. The momentum in the labour market is moving towards full employment, although, as always, extra employment is possible if policies can lead to broader participation in the labour market. I emphasise that what we are seeing now is not being fuelled by imbalances in domestic credit or external imbalances. The unsustainability of the economy that we saw a dozen years ago is not in evidence at present. Having said that, there is strong momentum in the economy.

The Central Bank clearly sees, as can everybody else, clear downside risks, one of which is a generic vulnerability. We we have an accumulated stock of high public and private debt and we must recognise, as a small open economy, that we are especially vulnerable to international shocks. What might be those international shocks? One is an unexpected tightening in international financial conditions, which would be in contrast to the easy monetary conditions we have seen for a long number of years. If this happened, we could see a shift in the world economy in terms of a slowdown in world demand for investment and consumption. Two external shocks or risks which are especially relevant for Ireland are any change in the international trade or tax regimes, which might be particularly relevant for us, while a disorderly Brexit would pose immediate challenges for the Irish economy and financial system. As I indicated in my pre-budget letter to the Minister for Finance, the fact that we have these clear downside risks calls for the accumulation of financial and fiscal buffers now. That would help to limit the damage if any of those risks materialised.

On the financial sector, the Central Bank of Ireland has recently taken steps to further reinforce the capital positions of the banks. In particular, we announced the activation of the countercyclical capital buffer, which will require banks to maintain an extra buffer in respect of Irish exposures. If we exercise restraint now in terms of extra capital accumulated by the banks, in a future downturn this buffer can be released. This would help to avoid a damaging credit squeeze in the future. That is an important new policy which we turned on this summer. In parallel, in respect of fiscal matters, running of budget surpluses during strong economic periods is a precondition if the Government wants the flexibility to implement a stabilising countercyclical fiscal expansion in the event of a further downturn, in other words, to avoid austerity being piled on top of a downturn in the future.

In regard to the housing market, we share the consensus that a substantial expansion in supply is required if the high demand to own and rent homes is to be satisfied. The limited supply of housing has contributed to the increase in rents and house prices, in addition to positive demand factors such as rising employment, increasing earnings and supportive monetary conditions.

Our mortgage rules, which place ceilings on loan-to-value and loan-to-income ratios, have helped to limit the amplification of pricing pressures by limiting the credit dynamics. In terms of preparing for a future downturn, if we avoid overlending by banks and overborrowing by households at present, it will make the next downturn easier to absorb. We are committed to an annual cycle of review of mortgage measures and this year's review will be announced in late November in line with the normal schedule.

Ten years on from the crisis and five years since its peak, it remains the case that non-performing loans are a cause of considerable distress to the borrowers affected and are also a source of vulnerability in the banking system. Remaining on the general theme of preparing for the next downturn, it is a risk to both the lender and to debtor if these loans are not dealt with. It is a priority for us to reduce non-performing loans, albeit in a sustainable way that provides strong protections for borrowers.

A great deal of progress has been made, both in terms of what we and other parts of the State infrastructure have done in managing this problem, while maintaining consumer protection.

The code of conduct on mortgage arrears, CCMA, has played a critical role. By the end of June this year, more than 116,000 principal dwelling house, PDH, mortgage accounts had been restructured, with 87% meeting the terms of the restructured arrangement. Overall, the number of arrears cases has declined for 19 consecutive quarters, while the number of long-term arrears cases has fallen for the past three years.

The long-term arrears, however, remain a source of concern. Of the 66,479 PDH accounts remaining in arrears, 28,237 or 42% have very deep arrears, with arrears balances of more than two years past due. It is important to stress, in this regard, that engagement by borrowers is critical in order to avail of the safeguards available through the CCMA and the mortgage arrears resolution process, MARP.

To have a functioning secured lending market in Ireland, repossession must be a possible option. Notwithstanding the extensive use of forbearance and restructuring, there will continue to be cases where the lender will need to make alternative choices. The sale of NPL portfolios is an option that has been employed by banks to this effect. The reduction in the size of bank balance sheets, particularly through holding a lower stock of NPLs, reduces financial stability risks in the event of a future downturn. In terms of national risk management, the transfer of credit risk and funding risk to investment funds that buy loan portfolios constitutes a national reduction in macrofinancial risk, given that investors in these funds are primarily overseas. There are ongoing concerns about loan sales but there is a potential gain in terms of national risk exposure. The sale of such portfolios does not affect statutory consumer safeguards and the Central Bank applies itself equally to its dual mission of safeguarding stability and protecting consumers. Accordingly, the Central Bank is committed to ensuring that the consumer protection framework continues to cover loans that are sold. As a result of legislation passed by the Oireachtas, loan owners must use a regulated credit servicing firm to manage the loans and these firms are subject to the same codes of conduct as banks and retail credit firms, including the CCMA. In other words, the protections for the borrower travel with the loan. The CCMA includes requirements that arrangements are appropriate and sustainable for borrowers based on a full assessment of individual circumstances. Regulated entities must make every reasonable effort under the CCMA to agree an arrangement and repossession can be used only as a last resort. As requested by the Minister for Finance, we are undertaking a review of the CCMA to ensure it remains appropriate, specifically in the context of loan sales. We expect to provide that report to the Minister later this year. Finally, it is important to note that the Central Bank represents one part of the wider State consumer protection and debt resolution framework. In addition to the CCMA and MARP, there are other services and supports available to assist borrowers in mortgage arrears. These include the national mortgage arrears resolution service, Abhaile, the Insolvency Service of Ireland, and schemes such as the mortgage-to-rent scheme.

Brexit will be negative for the Irish economy and financial system, as compared with a scenario in which the UK remained in the EU. Financial stability risks are being closely monitored and addressed to the extent that it is possible. A hard Brexit with no deal and no transition period would be disruptive, notwithstanding the work the Central Bank is undertaking at a national and European level both to mitigate such risks and to ensure Irish resident financial firms are suitably prepared. We are preparing for plausible worst-case scenarios in order to safeguard stability in the event of a disorderly Brexit.

Supervisors across the EU continue to prepare for these challenges through a co-ordinated and consistent approach. The Central Bank is working as part of the Single Supervisory Mechanism, the eurosystem and the European supervisory authorities to ensure consistent, shared approaches to mitigate Brexit-related risks. Supervisory expectations have been developed and communicated to firms in a number of areas. These include booking models, internal governance, risk management and the design of internal risk models.

Preparedness and contingency planning on the part of firms are imperative as theirs is the lead responsibility. This holds for firms that are already present in the EU 27 as well as those that intend to move to the EU 27 as a result of Brexit. The transition period is not guaranteed and would only become a certainty if it were reflected in a signed withdrawal agreement, so firms cannot rely on it. We at the Central Bank, in line with other EU supervisors, are urging all firms to prepare for all plausible worst-case scenarios. While we recognise the challenges that firms face when making preparations for Brexit, the only way to minimise disruption is for firms and regulatory authorities to work together to consider and take all necessary mitigating actions in a timely fashion.

Even under the softest Brexit scenarios, the UK and EU 27 will constitute separate financial systems. This is a major change to what we have now. A manifestation of this is the fact that we have received more than 100 Brexit-related applications for authorisation, across a number of sectors. These include applications both for new legal entities and from existing entities seeking to extend their current authorisation. The applicants intend to sell directly to Irish customers or sell from Ireland into the European Union. The potential activities range from banks, investment firms and trading venues to electronic money institutions, commercial insurance and retail insurance. Our approach in assessing the plans of existing firms and new authorisations is focused on ensuring we deliver our important gatekeeper and supervisory role in a proactive, predictable, transparent and consistent way. While there has been some focus on the potential attractiveness of Ireland for firms choosing to relocate and on the number of firms coming to Ireland, the Central Bank’s clear objective is to deliver financial stability through assertive risk-based supervision. We have engaged effectively with our colleagues across the European regulatory ecosystem to ensure that we are operating to, and influencing, the European norms of authorisation and supervision. In doing so, we are mitigating the risks of regulatory arbitrage being a basis for firms’ relocation decisions.

In summary, the Central Bank has a number of key objectives as we look towards 2019 and beyond. We will continue to focus on strengthening the resilience of the financial system, so that it is better able to withstand external shocks and future crises. We will seek to mitigate the risks posed to the economy, financial system and consumers by Brexit. We will also seek to further strengthen our approach to financial conduct regulation in order to protect consumers and investors from a systemic perspective.