Professor Philip Lane:

Good afternoon. I welcome the opportunity to meet today for our regular engagement. I am joined by Ms Derville Rowland, director general for financial conduct, and Mr. Ed Sibley, deputy governor for prudential regulation.

I will start with a brief overview of the macroeconomic outlook and address Brexit later. In terms of the baseline forecast, we are projecting that underlying domestic demand, the best measure of what is going on in the economy, will expand by 4.3% this year and 3.9% next year. In line with that, we are projecting unemployment to average 4.9% in 2019 and 4.7% percent in 2020. As a consequence, we expect compensation per employee or wages to increase by 3.4% this year and by 3.6% next year. In cumulative terms this is an increase of approximately 7% in the next two years, which is significant given that inflation is quite low. Given the recent downgrades in European and global economic forecasts and the bias to the downside in the risk assessment, we will continue to monitor the possible implications for these forecasts should there be any further decline in the external environment.

The work of the Central Bank of Ireland is guided by its mission, which is to serve the public interest by safeguarding monetary and financial stability and working to ensure that the financial system operates in the best interests of consumers and the wider economy. Our policy priorities are set out in our recent strategic plan for the period from 2019 to 2021. It highlights strengthening consumer protection, resilience and Brexit. I will address the issues listed in the committee's invitation letter in the context of these three strategic priorities.

Strengthening consumer protection is a high priority for the Central Bank in the context of an overall strategy to enhance confidence and trust in the financial system through high quality regulation, purposeful engagement, effective gatekeeping, assertive supervision and robust enforcement. Consumer protection is embedded through all of those dimensions of the Central Bank's work. For example, the Central Bank's macroprudential mortgage measures are intended to both enhance the resilience of the financial system and protect household borrowers from excessive debt. Our work on mortgage arrears has also involved considerable collaboration and co-ordination across all parts of the bank, given the importance of making sure the resilience and consumer protection angles are factored into the bank's work on non-performing loans.

If we think about the role of interactive prudential supervision and consumer protection, it is essential that individual firms are resilient if consumers are to trust that deposits are safe, investments are protected and insurance policies will pay out when a claim is due. In addition, our prudential and conduct supervisors have a shared interest in the sustainability of business models, arrangements for governance, risk management and control, and the culture of regulated firms.

When we think about our new strategic plan in terms of building on what is already there, which is quite extensive in terms of the framework, the next step forward is a focus on the conduct of firms. This is essential given the wide range of misconduct scandals we have seen around the world, including at home the tracker mortgage scandal. It is also reflected in terms of strategy in our supervisory approach, which is increasingly focused on conduct and cultural issues.

I shall update the committee on the tracker mortgage examination, which is now in its final stages. At the end of last month nearly 40,000 customers have been identified as suffering unacceptable harm from these failures. The overall number is the same as at the end of December. There has been in increase in the total payout, which has increased now to €665 million. By the end of March we expect the accounts remaining to be paid to be about 300. In turn, of those 300 accounts most will be paid in April so we really are towards the end stage. Some of the remaining numbers are cases while exists but it is proving difficult to contact individuals but of course that money will remain for them once contacted.

I will update the committee on the tracker mortgage examination, which is now in the final stages. At the end of last month, nearly 40,000 customers had been identified as suffering unacceptable harm from these failures. The overall number is the same as at the end of December. The total payout has increased to €665 million. By the end of March, we expect the number of accounts remaining to be paid to be about 300, of which most will be paid in April. We are, therefore, moving towards the end stage. Some of the remaining number are cases where there is a file but it is proving difficult to contact individuals. This money will remain for these individuals once they have been contacted.

As the Central Bank supervised the tracker mortgage examination, the focus at all times has been to make sure that all groups of customers who have been affected have been identified and received remediation. As indicated, this is now largely completed. The remaining work is to make sure that any final issues affecting groups of customers are worked through and all eligible groups are included. We expect this process to conclude in the coming weeks and we will issue a final report thereafter. When we say this examination is coming to a conclusion that is in the sense of a particular project. Any further individuals or groups that emerge, for whatever reason, will receive the same treatment under our business as usual supervision.

It is important to emphasise that in parallel to the supervision, the enforcement work on this scandal is ongoing. These are detailed and forensic investigations involving the scrutiny of thousands of documents and the conduct of interviews to establish the exact circumstances of the matters under investigation, including the actions of individuals and entities.

If we look to the future, our culture report from last year emphasises that the framework would be further improved by having an individual accountability framework. This would ensure clearer lines of individual accountability within firms, as well as providing for an enhanced fitness and probity regime and a unified enforcement process. My understanding is that we will address that issue in a separate hearing in the coming weeks.

On personal contract plans, PCPs, we have been working on this issue from different angles for a while. The data to the end of June 2018 show there are around 70,000 outstanding contracts, which amounts to about €1.2 billion in value. It is important to note that from the end of June 2019, the Central Bank's new central credit register will collect information on PCPs from all lenders that provide these loans. Our understanding of these contracts will be further enhanced when those data come online.

We are also working to strengthen consumer protection in relation to licensed moneylending. Last year, we published a consultation paper which proposed adding certain extra measures to the code. The plan is that these new regulations will be introduced in the second half of this year. In finalising these additional measures, we fully recognise the vulnerability and particular circumstances of the households that typically engage with licensed moneylenders and the high cost of the loans they provide.

I will now address the resilience topic under which we will address the issues of capital requirements, interest rates and non-performing loans. The fundamentals of a national central bank is to make sure the financial system is resilient in order that it can withstand shocks in the future and protect the wider economy from financial instability.

I will deal with the issue of capital requirements. It is important to note, especially in light of the risks we face now, that the capital position of banks has improved by a factor of three since 2007 when measured compared with risk-weighted assets.

Another vulnerability is funding risk. In contrast to what was happening in the boom, the reliance on short-term wholesale funding has declined significantly. The primary funding base is now domestic consumer deposits. It is interesting to note that in spite of recent market volatility, the funding costs facing the banks remain contained.

As indicated, the strategy to improve resilience include our macroprudential measures. An important element of that is the mortgage rules, which have the dual role of both protecting households and banks from excessive debt and avoiding the risk of a spiral occurring between credit dynamics and house prices. In addition, we made a decision last year to activate a 1% counter-cyclical capital buffer, which will come into force in July 2019. Importantly, this is intended in good times to build up the capital levels in the bank but in turn it will mean that banks will be less likely to engage in a credit squeeze in the next downturn. We have an extra measure called the other systemically important institutions, OSII, buffer, which basically protects against a risk of an individual bank causing problems to the system for a variety of reasons.

On prevailing mortgage rates, our analysis indicated that some of the factors that need to be taken into account are historical default rates, the level of non-performing loans in portfolios and the fact that, in contrast to other jurisdictions, the typical mortgage in Ireland has a high loan-to-value ratio, which means its risk profile is higher than the risk profile of loans where more of the house purchase is funded by a down payment. The Irish market is small scale and fixed cost elements in banking, for example, the cost of information systems are increasing in relative importance. We also see lower levels of mortgage switching in Ireland compared with many other European markets and there is no doubt that the limited number of banks of itself leads to concentration and less competitive pressures on pricing.

As members know, the Central Bank has been emphatic in identifying the importance of reducing non-performing loans in the banking system since non-performing loans at excessive levels compromise the capacity of both the banks and the debtors to weather future downturns. There has been considerable progress in this respect. The stock of non-performing loans had declined by 79% since the peak in 2013. There are many ways to reduce non-performing loans. These include re-engaging with the debtor; restructuring the mortgage; writedowns; engaging through the insolvency service; loan sales; loan securitisations; and seeking finality through the courts.

In the years since the crisis, the primary way that non-performing mortgages have been addressed has been through restructuring. The code of conduct on mortgage arrears, CCMA, has played a critical role in ensuring that borrowers are protected. Within the CCMA, the mortgage arrears resolution process requires that repossession is only used as a last resort. We have seen an ongoing decline in the number of long-term arrears cases in the past five years. As I indicated, there has been much restructuring. The number of accounts that were restructured at the end of last year was more than 111,000. These restructuring arrangements seem to be working, with 87% meeting the terms of their current arrangement.

Having said that, there are many other options in terms of addressing non-performing loans. It remains the case that in order for a secured market to work, repossession, as a last resort, must be an option. While we have extensive protections in place for distressed borrowers, the loss of ownership risk remains. It is important to remember that, in an international context, the scale of repossessions in Ireland has been low. If we take the most recent year, 2018, some 877 primary homes were repossessed. One third of those repossessions were the result of court actions and the remainder were through the sale or surrender of properties. We share the societal concern that these borrowers who are at risk of losing their homes are extremely vulnerable. Our focus, in our supervisory work, is to ensure that all lenders, whether banks or non-banks, adhere to the code of conduct on mortgage arrears. We continue to urge all borrowers and lenders to engage and seek solutions that minimise the loss of ownership.

Having emphasised that restructuring has been the single most frequent approach to reducing non-performing loans, it is clear that we are also seeing sales of loan portfolios to non-bank investment funds. This does have a valid role to play. I have stated previously that the transfer of these loan portfolios to non-banks, which are mostly owned by foreign investors, constitutes a reduction in national risk. In the event of a future downturn, the burden of those potential losses will be shared overseas. We also, with the support of the legislation, have made sure that statutory consumer safeguards are the same regardless of whether a loan was held by a bank or a non-bank.

Given our twin focus on resilience and consumer protection, this framework or approach explains why we have grave concerns about the No Consent, No Sale Bill. Given that the consumer protection framework, from a regulatory perspective, is the same whether a loan is held by a bank or a non-bank, we do not see that the Bill would add any extra regulatory protection for consumers. At the same time, the Bill would damage resilience since the transferability of loans is a central feature in a modern financial system. In addition to restricting the ability to sell loans, please recall that the transferability of loans is also important for securitisation and collateral provision to obtain liquidity from the inter-bank market or the euro system, from us or from the ECB.

While these restrictions are costly even under normal conditions such as those which obtain today - and because of those extra costs they would have the effect of raising interest rates - their impact is especially destabilising in a crisis environment since the ability to restructure balance sheets and obtain liquidity is essential to resilience under crisis conditions. While we recognise that the Bill makes an exception for firms that are failing or likely to fail, this designation is only made once a crisis is well advanced, whereas financial stability is best maintained by ensuring that resilience enhancing measures can be taken in a timely manner with the strengthening of balance sheets during good times, thus allowing the economy and the financial system to better withstand adverse economic and financial conditions.

Let me turn to resilience in the credit union sector. The Central Bank has an important role to play in making sure that the credit union movement in Ireland thrives. Our vision in this regard is "Strong Credit Unions in Safe Hands" and it underpins our mandate to make sure that each credit union protects the funds of its members, that financial stability is maintained and that the credit union movement is in a state of well-being. When we look at the conditions in the sector, as we reported in December, we see strong reserves, sustained expansion in lending and a continued reduction in arrears. However, there is no doubt that challenges remain for the sector even though there is dispersion across individual unions. There is an average loan-to-asset ratio of only 28%, a high-cost income ratio of 74% and a low return on assets of just 1%.

It is not the regulatory framework that is leading to this dispersion. The framework does not inhibit future business model development. Overcoming these structural challenges will involve credit unions enhancing their competence and capability, addressing operational effectiveness and expanding revenue through loan growth and non-interest income.

We view the regulatory framework as being tailored to and proportionate for credit unions. Given that the average loan-to-asset ratio ranges from 11% to 73% under the framework, it is clear that some credit unions are faring better than others in meeting the lending needs of their members. Under the consultation paper Potential Changes to the Lending Framework, CP125, we are looking at additional lending capacity, which, on a prudent basis, would facilitate more long-term lending as long as duration and concentration risks are managed. We think the flexibility is there for credit unions to improve their future business models.

As everyone here understands, any form of Brexit - but particularly a hard, no-deal version - will be damaging to Ireland. Recognising this, the Central Bank has been focused on Brexit risks since before the 2016 UK referendum. We continue to analyse and work to mitigate the risks posed to the economy, consumers, the financial system, and the regulatory environment. In the context of the risks to the wider economy, although we have put out macro numbers, we also recognise that the effects will be uneven with sectors such as agrifood being particularly exposed to the loss of export markets and disruption of supply chains. The immediate priority is to mitigate so-called cliff-edge risks of a no-deal Brexit. More broadly, it is important that the financial system is sufficiently resilient to withstand any effects arising from Brexit. It is important that the financial risks to consumers are mitigated and that with regard to authorising firms arriving here, we adopt a proportionate, robust, efficient and effective approach in line with European regulatory norms.

In light of this, Brexit obviously continues to be a high priority for us. In conjunction with the wider European regulatory community and the Houses of the Oireachtas in getting the Brexit legislation passed, we think that the avoidable risks of Brexit have been mitigated against. However, there is no doubt that a no-deal Brexit will still constitute a severe economic and financial blow. Given that all of our work and strategies have aimed to ensure that the banking system has high levels of capital and good liquidity provision, its ability to withstand a no-deal Brexit is much better today than would have been the case had this happened a few years ago. I welcome members' questions.