Oireachtas Joint and Select Committees
Wednesday, 25 January 2023
Joint Oireachtas Committee on Finance, Public Expenditure and Reform, and Taoiseach
Economic Issues: Engagement with Governor of the Central Bank of Ireland
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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We are joined by the Governor of the Central Bank of Ireland and his colleagues. They are all very welcome. We will commence with an opening statement and then members can engage with the Governor on any of the issues on the agenda, of which they have been notified. I remind members to turn off their mobile telephones.
I will read a note on privilege. The evidence given by witnesses who are present in the room is protected by absolute privilege. Attendees who are not in the room or who are elsewhere on the campus might not have full privilege. Members are reminded of the long-standing parliamentary practice to the effect that they should not comment on, criticise or make charges against a person outside the House or an official either by name or in such a way as to make him, her or it identifiable.
Everyone is very welcome to the meeting. I especially welcome Ms Lucy Scanlon from Balbriggan, who is on work experience with Deputy Farrell. I am sure she will get lots of knowledge from the Deputy during her mission in Leinster House. I wish her well.
I invite the Governor to give his opening statement.
Mr. Gabriel Makhlouf:
I thank the Chairman and wish committee members a good afternoon. I am joined by deputy governor, Mr. Vasileios Madouros, and director of consumer protection, Mr. Colm Kincaid. We welcome the opportunity to appear before the committee.
I will begin by giving a brief overview of the economic outlook before discussing the changing macro financial environment in Ireland and our regulatory priorities for the year ahead. I also want to touch on some of the issues the committee indicated it would like to discuss today.
Looking back on 2022, the factors dominating economic activity included Russia’s unjustified war against Ukraine and its people, the energy crisis, rising inflation, the state of labour markets and supply chains and the ongoing impact of China’s approach to managing the pandemic.
Looking ahead, the most recent Eurosystem staff projections published in December show a decline in the outlook for the euro area with more persistent inflation and weaker growth. The euro area has faced a number of inflationary shocks in the past two years from pandemic-related supply chain disruptions, as well as strong demand once restrictions were lifted, to sharp rises in energy and food prices due to the Russian aggression.
Inflation was 9.2% in December 2022 down from 10.1% in November, mainly due to falling energy costs. The outlook is for a decline to 6.3% in 2023 and 3.4% in 2024 reflecting moderating energy inflation and the impact of the monetary policy decisions of the European Central Bank.
Despite the recent easing, inflation remains too high. High and volatile inflation entails large costs for the economy and society as a whole. The sharp increase in the cost of living over the past year has resulted in an erosion of living standards. High inflation can also lead to lower investment, harming future growth and economic potential. The impact of inflation is not being felt uniformly across the population with the groups most impacted being those who spend more of their income on energy and food, such as lower-income households. A return to price stability, that is, a rate of inflation in line with our 2% target over the medium term is necessary for a stable economic environment to support long-term growth.
As interest rates are the primary tool to fight inflation, my colleagues on the ECB’s governing council and I started raising our key policy rates in July last year. These are now at 2%. Our primary mandate is price stability and we are determined to achieve our inflation target by aligning aggregate demand more closely with aggregate supply conditions in the euro area economy as a whole. Raising the policy rate also signals our commitment to price stability. This sends a clear message that we will not allow inflation to stay above 2% and helps to contain inflation expectations, guarding against the emergence of self-reinforcing inflation dynamics and tackling the risk of a persistent increase in inflation expectations. We need to continue to increase rates at our meeting next week, by taking a similar step to our December decisions, and also at our March meeting, although our future policy decisions need to continue to be data-dependent, given the prevailing uncertainty. To sum up, inflation remains far too high and interest rates will have to rise significantly at a steady pace to reach levels sufficiently restrictive to ensure a timely return of inflation to our 2% medium-term target. Bringing inflation back to target is essential for the well-being of our economy and community.
Turning to the domestic outlook, our most recent quarterly bulletin described 2022 as a year of two halves, with strong growth in the first half slowing considerably in the second. We expect that 2023 is likely to be a mirror of this year, with our economy continuing to adjust to the energy shock but a strong labour market and moderating inflation driving a recovery in household real incomes, reversing the trend later in the year and into 2024. While the domestic economy was predicted to slow considerably, our forecasts still pointed to positive, albeit lower, growth for 2023 as a whole. We will be updating these projections in our next quarterly bulletin in early March. Domestic headline inflation continues to be high, at 8.2% in December, but moderating energy prices, particularly gas prices, point to an improving outlook. Our expectation remains that inflation peaked in the fourth quarter of 2022 and will moderate as the year progresses, assuming no further shocks, supporting consumer spending and overall economic activity as the year progresses.
There is no doubt that the macro financial environment remains very challenging, domestically and globally. Over the past 12 months, many asset prices have fallen sharply, yields have risen and market volatility has increased substantially. The fragility of certain markets and its participants, particularly in the non-bank financial sector, was made all too apparent by the gilt market disruption in the UK in September. The inflationary challenges are being experienced most acutely as shocks to people’s real incomes and an erosion of their living standards. The profit margins of businesses, particularly the smaller businesses with less scope to pass on cost increases to customers, will suffer due to the size of their energy bills and other costs as well as falling revenues as customers reduce discretionary spending. Taken together, these pressures have the potential to lead to an increase in repayment challenges for some borrowers.
Overall, risks to the Irish financial system have risen. However, there are a number of reasons to believe there is resilience in the system to meet these risks. While some mortgage customers are experiencing directly the effects of our interest rate decisions, there is substantial resilience across the mortgage market. Lower levels of indebtedness, a gradual shift towards fixed-rate borrowing, pandemic savings and substantial housing equity are all ensuring that the mortgage market as a whole has significant capacity to absorb shocks. Even in the SME sector, where cost increases will severely tighten profit margins for many, indebtedness has fallen continually for a decade, reducing the risk of macroeconomic spillovers between the financial sector and the real economy.
Turning to our regulatory priorities, we continue to engage with the banking sector, other lenders, insurers and investment firms to ensure the financial system plays its proper role in supporting the economy and users of financial services. Banks and other lenders in particular have a key role to play by: providing the lending and deposit services required to support a well-functioning economy; supporting customers who may be experiencing difficulties in light of the changed macroeconomic environment, including in particular customers in or facing arrears on existing loans; and developing and implementing strategies which preserve long term sustainability and firms’ capacity to continue to support the economy through this period and into the future.
The financial sector continues to change rapidly, in particular through digitalisation and technological innovation. The entrance of new types of participants in the Irish financial system and the evolution of existing sectors are bringing rapid evolution to the landscape for financial users and firms. In response, we are continuing to evolve our regulatory approach. To support financial well-being, our regulation will continue to be outcomes-focused and follow six principles: forward looking, connected, proportionate, predictable, transparent and agile. Particular milestones in our regulatory work programme this year include: consulting and engaging widely on the development of our consumer protection framework and on the operationalisation of the individual accountability framework; continuing to progress actions at a domestic and international level on the global systemic risks in the funds sector, as well as enhancing the governance, oversight and investor outcomes in the sector; and implementing new EU regulations on digital operational resilience and markets in crypto.
Our supervisory priorities include the assessment and management of risks to financial and operational resilience, continuing to drive for fair outcomes for consumer and investors, overseeing the withdrawal of Ulster Bank and KBC from the Irish market and detecting and sanctioning market abuse. We will, in particular, work with the Department of Finance on the next steps from the retail banking review and the recommendations of the financial system assessment programme of the International Monetary Fund, IMF. We note and welcome the joint committee's recent report on banking and are currently studying its recommendations.
I will touch on a couple of other issues before we move on to questions. Regarding retail bank consolidation, the Central Bank continues to engage actively with the firms as part of its supervisory programme. We have made clear to the retail banks that the bank exits, and in particular the large-scale migration of customer bank accounts from Ulster Bank and KBC, must happen in line with customer needs and expectations. The account migration, transfer of loans and other assets and winding down of the business of Ulster Bank and KBC is a complex process but it is on track and the system is working well together and responding appropriately. Our latest account migration statistics which were published yesterday indicate that at the end of December 2022, 65% of current accounts were either closed or inactive.
We expect all retail banks to have plans in place to manage the impact of the broader changes and consolidation in the retail banking sector in Ireland. It is the responsibility of the individual banks to ensure that they are putting their customer first, ensuring fair treatment and that customers understand what the changes mean for them. As a regulator, we recognise that consumers need availability and choice of products and services to meet their needs. The retail banking market needs to function effectively to deliver this. For banking, as for other financial services, we see regulation, active consumer switching, innovation, transparency and competition, as being key to effective market functioning.
I will now turn to the impact of interest rate rises on the Irish mortgage market. Part of the transmission of monetary policy, essential to ensure that inflation returns to target, is what we now see happening to mortgage rates. Increases in the ECB policy rate are transmitted over time to households and firms’ borrowing rates via the financial sector. Lenders and credit servicing firms in Ireland have increased rates on their mortgages in recent months. Retail banks, which provide 84% of all principal-residence mortgages, have to date increased fixed rates for new or switching customers and have not increased their variable rates. Non-bank lenders and servicing firms have raised variable rates, including some rates at the higher end of the market.
Of course, customers on tracker products have seen their rate increase automatically in line with the ECB rate. The impact of these rate increases on borrowers will depend on a combination of the rate increase itself and the financial and personal circumstances of the individual borrower, be they a private individual, a small business or a large corporate body. We have been clear with the firms we regulate that they need to be proactive in supporting their customers in navigating these changes. We will continue to engage closely with regulated firms on their approaches to increasing interest rates and managing the impact of inflation and how they support their customers in line with the regulatory framework and our expectations.
As members will know, the same regulatory protections apply whether a borrower’s loan is with a bank or with a non-bank lender or servicing firm. The Central Bank does not have a statutory role in approving the rates that mortgage lenders charge on their loans. These are commercial decisions for the lenders themselves but we do expect firms to have the resources and arrangements in place to assess applications from existing and new or switching borrowers in a manner that is timely and based on prudent lending standards applied consistently across all applicants. We also expect firms to have fit-for-purpose arrangements in place to anticipate and deal with customers in or facing arrears. This includes cases where consumers may face arrears due to an increase in the interest rate on their mortgage while recognising that, with increasing costs of living driven by inflation, this is just one factor currently affecting people’s repayment capacity. We also expect firms to proactively assess the risks and consumer impact that commercial decisions, including rising interest rates, may pose to borrowers and to have an action plan in place to mitigate such risks.
The outlook for 2023 will continue to be characterised by high levels of uncertainty. The Central Bank will continue to focus on maintaining monetary and financial stability and ensuring the financial system works for consumers and the wider economy. Mr. Madouros, Mr. Kincaid and I are happy to take members' questions.
Pearse Doherty (Donegal, Sinn Fein)
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I welcome the Governor and his team to the committee. In a wide address, the Governor focused on interest rates. His comments will set alarm bells ringing in the houses of those who have been in contact with me as regards their personal finances, particularly his comment that the ECB will continue to increase interest rates at its meeting next week and at the March meeting. Particularly for those whose interest rates increase automatically as a result of being linked to the ECB interest rate, this is a very frightening scenario. I am conscious of the reasons and rationale the Governor has laid out, which relate to inflation. I will ask him a particular question. To give one example, I know of one individual who is now paying €400 more in interest on their mortgage per month than they were in the summer of last year. That is €4,800 they are paying. Following the trajectory of where the Central Bank is likely to go next week and again in March, that increase will go well over €5,000 and may possibly reach €6,000. That family will be sitting around the table and asking where they are to get that extra €6,000 as against what they were paying last summer. It is a very daunting task for them and others. Some may be able to manage but many others will not. It is a massive increase. If we saw the annual cost of gas or electricity going up by €6,000, we would expect some type of action. It does not matter to these families whether it is the mortgage, the gas or the electricity. They are all bills that have to be met. Otherwise, there will be consequences. Is it the intention of the ECB and the Governor for the banks to pass on all of these interest rate increases, given that the reason they are being introduced is to target inflation? That is my first question.
Mr. Gabriel Makhlouf:
It is worth starting to answer the Deputy's question by repeating a little bit of what I said earlier. It is essential that we get on top of inflation and bring it back to our target range because, ultimately, if inflation is not brought back to our target range, the consequences will be damaging to the whole economy and the whole community over the medium to long term. At the moment, the impact of inflation is hurting the most vulnerable. That is what was indicated by Central Bank research published last year. My governing council colleagues at the ECB and I recognise that putting up interest rates has an impact of everybody's standard of living. It is important that everyone understands why we are doing it. To a certain extent, those in this room and opinion-makers and opinion-formers in the media and elsewhere, need to help to communicate that message in order that people understand why this is happening.
Do we expect the banks to pass these increases on? We expect monetary policy to ultimately be transmitted to all parts of the euro area but, of course, it is up to individual lenders to decide whether they are going to pass them on. As I described earlier, the banks in Ireland have taken different decisions to those taken by banks elsewhere in the euro area. However, we do expect the monetary policy decisions we make to ultimately be transmitted, whether directly or indirectly, to the whole economy because the point of making these decisions is to achieve that so we can, in time, reduce inflation. That is the key thing.
I believe what is underlying the Deputy's question is the question of how we expect the banks to manage the most vulnerable customers, the people facing particular challenges such as those in the Deputy's example. I may ask Mr. Kincaid to come in on that.
Pearse Doherty (Donegal, Sinn Fein)
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I know he has answered on this but, from the Governor's point of view, if the banks do not pass on these interest rate hikes, as some have not in the past with regard to the standard variable rate, would they be acting contrary to ECB policy? They are in a better position not to and to profit from the deposit rate now set by the ECB given the levels of deposits they have on their accounts compared with other European banks. The Governor has challenged us to explain the rationale for this measure to people but I will explain something to him. If a person comes to me and says that his bill is now €4,800 more than it was the summer of last year, just over six months ago, that it is going to get higher and that his family cannot afford to keep a roof over their heads, I will find it impossible to explain to him that the ECB policy is for him to have less money, which will somehow help with inflation that is primarily driven by the price of gas and oil, resources that are being used as a geopolitical weapon by Putin, rather than by his family's spending in the economy, who do not have the money. Will the Governor touch on that?
Mr. Gabriel Makhlouf:
Inflation has become more broad-based, although Mr. Putin's decisions have clearly been damaging in more ways than the obvious. We expect the banks to respond to the monetary policy decisions that we make but how they respond will vary, as we have seen with the banks in Ireland. I suspect that, if there was no response whatsoever from the banks and if this continued for a long time, it would be concerning, partly because we would not see monetary policy being transmitted in the way we expect and partly because it could potentially tell us something about the risks the banks were taking on, risks we would want to look at much more closely. However, at the moment, the banks do appear to be responding, albeit in different ways.
Those are commercial judgments they will make. In a competitive market we expect differences to be seen in the way that the market responds to decisions we take. Mr. Kincaid may wish to add to that.
Mr. Colm Kincaid:
I thank the Deputy for the question and I thank the committee for the opportunity to speak here today. We are very much alive to the challenges that the individuals Deputy Doherty mentioned are facing. To the forefront of my concern at the moment is not just mortgage credit but credit generally. About one in three households have a mortgage and I know we will focus a bit on mortgages. However, many consumers are facing into the situation of having to access other forms of credit, including high-cost credit, which they might not have had to access before because of their budgets. I know the Deputy is very much alive to that as well. Across a range of fronts, the impact of the cost-of-living challenges on consumers of financial services is absolutely to the forefront of our mind and our work programme for this year. I want to preface with that.
Turning specifically to mortgages, I will spend a minute or two talking about what we have done to get the system ready for this. We have focused on two areas within our mandate. One is on affordability and the other is on switching. Going back to 2020 and 2021, we renewed our focus with lenders on getting them to up their game in terms of resources, engagement plans, the suite of solutions and the analysis that they had in place on mortgage arrears so that they are better positioned to anticipate and deal with mortgage arrears, particularly focusing on long-term mortgage arrears, which are some of the most difficult cases to tackle. Last year long-term mortgage arrears, LTMA, fell below 25,000 for the first time. I focus on that because they were some of the ones where these more innovative solutions needed to be found. We are coming into this with a system that should be better prepared than in the past to anticipate and deal with cases of arrears, including pre-arrears and including consumers who, exactly as the Deputy said, are facing into that situation where they simply do not know how they will manage that.
Pearse Doherty (Donegal, Sinn Fein)
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Does Mr. Kincaid accept we are going into an era of arrears, given that interest rates are rising sharply and, as the Governor said, will rise next week, again in March and potentially beyond that again? Does Mr. Kincaid accept that families will now fall into arrears and that it is up to financial institutions to have a suite of options available to assist those families?
Mr. Colm Kincaid:
Very much so. In remarks I gave last year when we published some of these data, I made very clear that institutions need to learn the lessons of the decade or more we have been dealing with arrears. I think the data show that progress is being made. We will remain vigilant of that. That was the first thing we wanted to get the system ready for.
The other relates to switching. Since 2017 we have introduced a range of measures over and above the European requirements and what exists in other jurisdictions.
Pearse Doherty (Donegal, Sinn Fein)
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Does Mr. Kincaid accept there will be a higher level of arrears in the time ahead?
Pearse Doherty (Donegal, Sinn Fein)
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Mr. Kincaid talked about switching and the waterfall in terms of the options available for the banks. Many of the people who are reaching out to me have been hard done by. They have been sold a pig in a poke by previous Governments and possibly by some of the commentary from the Central Bank. A total of 113,688 family homes have been sold to vulture funds. Government spokespersons have repeatedly told us not to worry about it because the same protections are there and all the rest of it. Lo and behold, these households are now paying interest rates of 7%. Next week another letter will land in people's letter boxes indicating the interest rate on their mortgage has gone up again to above 7%. As the Governor tells us, another letter is expected in March. These families are at breaking point.
A number of things are happening here. These people are paying thousands of euro more on their mortgages than they were this time last year or even last summer. Things will get worse for them. The vulture funds do not offer any options. The vulture funds will not even engage with these people. We hear from the Central Bank that there is an onus under the code of conduct on mortgage arrears, CCMA, and that lenders need to look at a suite of options for the individuals. However, if the suite of options does not exist, then it is paddle your own canoe. There are no fixed rates, split mortgages or debt warehousing for them. They cannot park this bit and pay that bit. There is no reduced interest rate for them. It is pony up or else. Many people have found themselves in this situation. We talk about the legal protections under the code of conduct on mortgage arrears. How does that apply to an individual who is trying to engage with the vulture fund and the vulture fund simply does not offer any of those?
Mr. Colm Kincaid:
I very much share and agree with the Deputy's concerns in this regard. This is an area that is to the forefront of the work we are doing. There is a special onus on lenders which do not have a full suite of options to ensure they have arrangements in place to anticipate and deal with people who may not be able to pay their mortgage. As part of the work we have been doing on arrears, as we saw core inflation take hold coming into the second half of last year, we wrote to each of the CEOs of the firms, including the firms the Deputy is talking about, to set out some clear expectations for them as to how we expect them to act to meet their regulatory obligations at this time. Principal among that was for them to be proactive in analysing the characteristics of their borrowers and understanding the impact of any pricing decisions they make. As the Governor said, we do not have a role in setting or restricting prices for mortgages. As the Deputy said, we have seen interest rates raised by some of those lenders. We are engaged with them now on how they are analysing the impact of that, the suite of options they have available. We will be challenging them to understand how they are applying the characteristics-----
Pearse Doherty (Donegal, Sinn Fein)
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Let us call a spade a spade. Mr. Kincaid and I both know there are some big players among these vulture funds. They do not offer a suite of options. What do they offer? Pay your mortgage or we repossess your home.
Mr. Colm Kincaid:
The greatest progress on long-term mortgage arrears has been made by the non-bank firms we referred to. The Deputy will have seen an announcement by some of the firms, including Pepper, for example, before Christmas of their approach to it. We are scrutinising that approach. We are keen to ensure they are analysing the books and understanding the impacts the Deputy is talking about, which are absolutely there. We will be challenging them on how they are factoring in the experience they will now see of borrowers, having raised rates into their pricing strategy, their engagement strategy and the options they make available to their borrowers. I very much agree with the Deputy's concerns. We have a very live engagement with those firms. I know the information the Deputy is referring to. We have also seen cases of lenders in that group making decisions not to apply rates because of the repayment capacity of the borrower. We have seen them roll out new options. We have seen them engage and we have seen some of their pricing decisions being quite responsive to the payment capacity.
Pearse Doherty (Donegal, Sinn Fein)
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I am glad Mr. Kincaid has seen that.
Pearse Doherty (Donegal, Sinn Fein)
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I am glad Mr. Kincaid has seen that. I would probably argue, he might correct this, that that may have been on the fringes. I might be wrong; I will let Mr. Kincaid explain that. When Mr. Kincaid talks about their strategy of engagement, the people listening in will be laughing at that. People cannot engage with these funds. They are not engaging and offering alternative arrangements. The code of conduct on mortgage arrears means nothing for those more than 100,000 families. Next week they will get another dunt when that letter arrives saying that their interest rates are to go up again immediately. There is a serious issue here. I know Mr. Kincaid mentioned what the vulture funds have done historically because they bought these at a significant discount. However, there has been a game changer since July. The cost of servicing these mortgages has increased by multiples of thousands of euro and will continue to increase over this year.
I will give another example of the cohort. I have written to the Governor on this. One individual - fair play to him - decided to fight Permanent TSB, a State-owned bank.
The bank told him that he was wrong. He appealed it and the bank told him that he was wrong. He took his case to the Financial Services and Pensions Ombudsman. He won the case in the Financial Services and Pensions Ombudsman and the bank had to acknowledge there were 200 other individuals who fall into a similar category.
During that process, because he was wronged in terms of the tracker mortgage interest rate that was being applied to his account, because he was a victim, he had to have an arrangement with the bank which saw him pay more than he would if he was on his original tracker mortgage. If he was not wronged by the bank, he would have been better off than under the arrangement. Because he was in an arrangement - not in arrears but in an arrangement - with that bank, his loan was sold off to a vulture fund. He now will be paying interest at a rate of over 7% next week when the Central Bank makes its decision. He is out thousands of euro because his loan is with a vulture fund. It should still be with Permanent TSB, if Permanent TSB did not wrong him under the tracker mortgage scandal. The premise here, in terms of natural justice according to the Financial Services and Pensions Ombudsman, is people should be restored to the position in which they were before the wrongdoing happened. These individuals - it is not only one - or cohort of individuals should never have had their loans sold by Permanent TSB to vulture funds, should not now be paying interest at a rate of 7%, but instead should be with Permanent TSB and should be paying a rate which is roughly 3% less than what they will which is the equivalent of thousands of euro per year. What, if anything, will the Central Bank do in relation to this cohort of individuals who are now feeling a secondary effect from the tracker mortgage scandal?
Mr. Colm Kincaid:
It comes under that second pillar that I meant to mention about switching. In his remarks, the Governor made the point that we are focused on making sure that we have a consistent application of credit criteria across the system and that all people in the system have an opportunity to see what options might be available for them, including with other lenders, and access to those options on a consistent basis. The first thing we need to see play out in this is the extent to which borrowers with non-bank lenders have capacity to switch and choose to do so. We have put a lot of focus on making sure the right information is in people's hands. Not everybody will be in a position to do that. We then need to understand from the non-bank lenders that we are talking about - it is a portion of the 1,000 that the Deputy referred to - borrowers who cannot switch and borrowers who may face affordability issues, and understand the strategies and processes that those firms will have in place to deal with those borrowers. It is a live area of work for us.
Nothing I am saying in explaining what I have seen is to give the impression that we are finished or satisfied with the position as it is now. It is something on which we will be taking these firms to task in the weeks ahead to understand how they will deal with the situation.
To make the point about switching, we wanted to make sure. Last year we intervened on the resources in place within the lending system to make sure that where people look to switch, the application is assessed in a timely manner and there is good advice and information. Some of the borrowers will be able to switch. I would encourage any borrower in that scenario to pursue that.
Pearse Doherty (Donegal, Sinn Fein)
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This is the Central Bank washing its hands. The Central Bank washed its hands of the tracker stuff at the very start of it. In fairness, it kicked-in late on in the day.
This individual, for example, should not have had his loan sold to a vulture fund. This individual should not have been under an alternative payment arrangement because if he was not a victim of the tracker mortgage scandal by that bank, he would have been better off. He would not need to go under a payment arrangement. He can show that his payments under the arrangement would have been higher than if he were given what he was legally and contractually entitled to in the first place. The only reason Permanent TSB sold this cohort of loans is because they were deemed non-performing by the standards that are laid down. The point is that he is bring wronged again. He should never have had his loan sold on. The only reason he has had his loan sold on is because he was a victim of the tracker mortgage scandal.
The Central Bank is putting the onus on him to go and see if he can switch and, potentially, maybe Permanent TSB may allow him to switch or take out a loan with it. The onus should be on the bank and it should be told that this individual and this cohort of individuals would never have been under an alternative arrangement if it was not for the fact that it took money out of their bank accounts unlawfully. They would never have had to be in that situation and, therefore, the bank would not have sold their loans because it did not sell performing domestic loans to vulture funds. Therefore, this person should not be out now to the tune of €5,000 extra per year because of what the bank did wrong to him and his family in the first instance. That is what the Central Bank should be saying but it is putting all the onus on them. That is completely unfair.
Mr. Gabriel Makhlouf:
I would like to come in on this. With all due respect, the Deputy is being unfair to say that we are washing our hands of this. What Mr. Kincaid has been describing is a pretty intensive and active process of making sure all lenders - non-bank lenders and bank lenders - are meeting the expectations of the code. We are trying to understand exactly what is happening with the cohort of people, including the ones that the Deputy was describing.
I cannot comment on the Deputy's specific point because I do not know the basis on which PTSB made its decision to sell the particular portfolio of loans. In some cases, some of those sales were not exclusively of non-performing loans. They included other loans. However, let us park that.
I can assure the Deputy and the committee that we are absolutely focused on this issue. We cannot take away from the fact that we have inflation and we need to respond to it. Some of those things will happen but it is essential that the expectations we have put on lenders are followed through. That is exactly what Mr. Kincaid and his team are doing.
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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I thank the Governor and his colleagues for coming before the committee. I will continue with that issue of monetary policy that Deputy Doherty was raising. Obviously, the purpose of the monetary policy in terms of increasing interest rates is to bring down inflation. Historically, that has been effective and successful. Is it working at present?
Mr. Gabriel Makhlouf:
It is working at present. It has not worked in the sense of past tense but it is working. We are projecting inflation to come down. That is for a combination of reasons. One of them is clearly that energy prices are coming down, but another reason, in my view, pertains to some of the decisions we have taken. Inflation is clearly too high. That is the point. We are not finished. It is not over. Although headline inflation fell in December from November, core inflation in the euro area, which excludes food and energy, actually went up slightly, showing us that it is not over. Does Mr. Madouros want to come in at all on this?
Mr. Vasileios Madouros:
The one thing I would say is that monetary policy works with a lag. It takes time from the point at which action is taken until the point at which it influences inflation in the economy. The setting of monetary policy is forward looking. When we consider the effectiveness of the transmission mechanism of monetary policy, we look at a range of dimensions. Looking across the euro area at present, it is probably operating as we would expect overall. However, it will take time to influence inflation and bring inflation back to target.
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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How do we correlate the rise in interest rates with the decline in inflation? How does the Central Bank know that they are linked?
Mr. Gabriel Makhlouf:
We look partly at what the markets are doing. As Mr. Madouros said, there is a lag. The lag goes up to 18 months. In terms of expectations, in particular, which are a very important component of what we are doing, we are not seeing a change in that. That is down to the decisions that we have made and the messages we have communicated.
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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If there is this lag, why is it necessary, as appears to be the case and as the Governor indicated in his statement, that at the next meeting of the ECB, interest rates will rise again? Why do we not wait for that lag, and to see the impact of the increase that has already been introduced?
Mr. Gabriel Makhlouf:
We are adopting a meeting-by-meeting approach. Based on what I know so far today, with the meeting only a week away, I know enough to say we need to take more steps, not least with core inflation having gone up slightly, which was the point I made. I mentioned March because again, that is my expectation. On the other hand, I also said we are going to have to wait and see exactly what the data tell us in March. At the moment and from what we know so far, that is what I expect to happen.
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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How high does Mr. Makhlouf think the ECB will raise interest rates in order to combat inflation?
Mr. Gabriel Makhlouf:
I would not like to speculate on that right now but I have said today and previously we will need to go into restrictive territory and we may need to stay there for a while. How high interest rates will go is one thing but then there is the question of how long will they stay at a particular level.
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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Okay.
Mr. Gabriel Makhlouf:
As of today, I would not like to speculate on that. I will make one point. All of us are adjusting to the fact the very long period of very low interest rates is now over. Some of us are old enough to remember a world where interest rates were much higher than they are today, so in historical terms interest rates are not at those levels. However, the days of the ECB policy rate returning to a negative level, for example, which is where it was before last summer, are behind us.
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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That is an interesting historical point by the Governor but the people who are on mortgages have no experience of those extremely high interest rates.
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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We have had very low interest rates for 20 years, I would say. Is that correct?
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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A bit less than that. The Governor may recall that during what he describes as the "gilt market disruption in the UK in September", there was speculation that interest rates could rise to 6%. Are we looking at anything as atrocious as that here?
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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Yes.
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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Exactly.
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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Okay.
Turning to Mr. Kincaid, he was answering questions from Deputy Doherty earlier about vulture funds and how they engage with mortgage holders whose loans have been transferred over to them. Do we have any data on or mechanism for being aware of the options Mr. Kincaid seems to be indicating are being offered to people by vulture funds?
Mr. Colm Kincaid:
The best indicator we have is the mortgage arrears statistics we publish regularly. The most recent set, published last year as I mentioned, showed a significant continuing downward trend in arrears but as I said to Deputy Doherty, we are facing into a more difficult period ahead. One of the things we have been getting the lenders to do is go through the loan books they have to understand the characteristics of the borrowers. Some will be able to switch, some will be performing and paying and some will be facing difficulties in paying and will need the suite of options that are available to them. The suite is now quite broad and includes features such as interest rate discounts, split mortgages and discounted mortgage rates for a fixed- and long-term period. The important thing we have found through the work we have done over the past decade or so on mortgage arrears is that there really is no substitute for the institutions doing an analysis at a loan-by-loan level and being ready to engage with borrowers. As I said, we have seen a degree of responsiveness to date from some of the lenders, especially the ones that have been referred to, but it is going to remain an area of focus for us.
If I may stray a little into some of the earlier comments on this, to be very clear, when we engage on an issue like this, we engage on it until we believe our work is done. Therefore, we will engage on this issue to the full extent of our powers and our resources until we are satisfied the very clear expectations we set out in the letter we published in November of last year are being met, while recognising the scope of our mandate and that, as the Governor said, we do not have a mandate in specifically setting prices. I wanted to be clear about that.
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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Mr. Kincaid mentioned the bank is aware of responsiveness. Is the any other mechanism by which the CBI can get more information about this?
Mr. Colm Kincaid:
We have quite a good deal of information at a firm-by-firm level. The statistics we publish are necessarily aggregated. I am not in a position to talk about the individual actions of individual firms but we might take as an example the 100,000-plus borrowers who are with non-bank lenders, as mentioned by Deputy Doherty. Looking at those who are with non-bank lenders that do not originate new lending - because we must remember that some of these lenders do new lending and have fixed rates available - and looking at those who have seen their rates increase, it brings us down to a figure of around 30,000 in the context of variable rates and a similar figure of 35,000 or so on trackers. In particular, we are focused at the moment with these institutions on those borrowers who are on the higher rates the Deputy has referred to, firstly to understand where those borrowers might be facing particular challenges with switching, and secondly to understand what the lender's proposed solutions are for borrowers who say this is a rate at which they do not think they will be able to continue to pay their mortgage, which is the scenario the Deputy referred to.
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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Okay.
I move to the closure of KBC Bank and Ulster Bank. Is the CBI satisfied with the steps that have been takpuben by those licensed banks to date? Has it any persisting concerns about the closure of them and the impact on the remaining customers?
Mr. Gabriel Makhlouf:
As I said in my statement, the process is working well because everybody is pulling together to ensure it is working well. The combination of closed accounts and inactive accounts is now at 65%. That does not mean people may be complacent but we have seen an improvement in the focus everybody has put into this. Mr. Kincaid has been closely involved with it.
Mr. Colm Kincaid:
To supplement that, we are now at a phase where we have a more joined-up plan than we would have been facing into at the start of this process and that is good to see. That joined-up plan will deal with the vast bulk of what we are talking about. What we will see now is our conversations and engagement with the firms being phased through, firstly ensuring communications are good and the information is there for customers, and we have seen that, and secondly ensuring the operational capacity is in place in the remaining institutions to take on the new accounts, and we have also seen that with twice as many accounts being opened last year. I am satisfied there is a significant level of headroom there in the remaining banks to deal with any spikes in applications for accounts they face.
Coming into the Christmas period and currently, our focus has turned to the bank-led closures where accounts are not being closed by customers but by Ulster Bank and KBC themselves. The institutions have put very specific safeguards in place around that, including in particular a freezing mechanism that means your account is frozen. You then have a period to see if you need more time. We have been very clear with the institutions that where more time is needed, it will be provided. We have said that every reasonable step must be taken before the account is closed to ensure the customer has been enabled to switch. Thus, I think the capacity is there in the system, including for the 125,000-odd accounts we still classify as active. What I think we will come to this year is alongside that, we have the work of Ulster Bank and KBC to identify and engage with more vulnerable customers who might need more assistance. That will be the area we will be focused on in the months ahead. For the vast majority of consumers, the process is, as the Governor has said, on track and proceeding. What we need to see now is more detail and progress made with some of the more complex accounts and some of the cases where customers are facing specific vulnerabilities.
To be clear, that has been within the plan of the institutions. It was always planned to come to those later on when the volume was less.
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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The last time the Governor was before the committee, I asked him whether he thought crypto should be banned or whether it should be regulated. I think he agreed with the latter proposition and disagreed with the former. In light of what has happened over the past ten months or so, particularly with FTX, what is his view on crypto? Are Irish people who invest in it protected in any way?
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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Feel free to do so.
Mr. Gabriel Makhlouf:
It is one of those subjects that probably deserves its own meeting. My views on crypto have developed. It is important to be clear because we all use the word "crypto" to mean certain things but there is a spectrum of things under that heading. At one end is what I would call unbacked crypto, which is crypto that has no link to any underlying assets and has no anchor to provide stability of value. It asserts that it is money but it is not a unit of account. It does not appear to be a means of exchange and it is certainly not a store of value. I am delighted the Deputy did not attach the word "currency" to crypto because I think this gives a misleading view of it. I only use the word "crypto". That unbacked currency has no social value whatsoever. Trying to ban it is probably unrealistic and may have unintended consequences. People who put their money in unbacked crypto, and probably the most significant stock of crypto out there is unbacked, are essentially gambling. When you gamble, you can win but most of the time, you are a loser. If people want to gamble, we should let them but I have said publicly and I am happy to repeat today that if you put your money in unbacked crypto, you need to be prepared to lose all of it. I am concerned about the impact on Irish retail customers, particularly young people. I cannot remember the data off the top of my head but a reasonable number of young adults-----
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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Losing a lot of money.
Mr. Gabriel Makhlouf:
-----have put their money into crypto. There is an uncomfortable level of advertising that is targeted at that cohort. If you could find a way, I would recommend that advertising to that cohort be banned. The product itself is a different question but the targeting of those individuals is a bad thing. We are very concerned about retail customers. There is no protection for-----
Jim O'Callaghan (Dublin Bay South, Fianna Fail)
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The Central Bank has regulatory role.
Mr. Gabriel Makhlouf:
At that level, essentially no. It is gambling.
As you move along the spectrum, you get into backed crypto, which also goes under the name of stablecoin, but which has not proved to be particularly stable at the moment. Among one of the big collapses was that of Terra last year. It was an algorithmic stablecoin that in the end did not work. You need to ask yourself what the point of this is. What is it trying to do? Unbacked crypto is essentially a Ponzi scheme. It is trying to attract people so that the first movers can take the money out of it at the right price. What some of these other stablecoins are trying to do is develop a private sector solution to modernise payments. I am generalising. However, they have some fundamental challenges. They are more vulnerable to runs, for example.
As you travel along the spectrum, you find underlying technology, which potentially has uses, although I remain sceptical about many of the assertions made about them. As one of my colleagues at the ECB said recently, blockchain cannot really work for the digital euro because it does not have the capacity and speed to deal with the millions of transactions it would need to deal with. I would not like to say the technology does not have its uses.
New EU legislation is coming in this year. The Markets in Crypto-Assets, MiCA, regulation will give us regulatory powers but it will not deal with unbacked crypto. It will deal with stablecoin. It is the start. There is a debate about whether regulating this stuff is giving it a badge it is not worthy of. My view is that we need some guard rails in the system and the new regulation will provide them. It will not be the end of the story. More will be needed. As regulators in the EU, the Central Bank and globally, we want to allow innovation to happen. Innovation in the financial system is important so you want to be careful about closing down all innovation. We also need to find a way to protect consumers. At the moment, that is the greatest vulnerability. In the grand scheme of things, there is minimal risk to financial stability. On the other hand, we have seen this sector grow, and grow rapidly. If it is unchecked, it will become a risk to financial stability so we need to get on the front foot.
There are some really serious issues in crypto. I am very concerned about the impact of unbacked crypto on individuals. I have not commented on the fact that some of that type of crypto also facilitates crime and other things. I know An Garda Síochána and others will probably be very much on top of that. Regulators need to get on top of this. This is a view that is shared across my peers around the world.
Peadar Tóibín (Meath West, Aontú)
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My first question concerns the inflation rate. There are different types of inflation. The main types are demand-pull inflation and cost-push inflation. Typically, increases in interest rates are best suited to demand-pull inflation. In other words, they are used to cool down demand and thereby get control of the inflation rate. What we have in this State is in many ways cost-push inflation. Interest rates are less useful in controlling cost-push inflation. Is that not correct?
Mr. Vasileios Madouros:
If we look at the past two or three years a series of shocks have hit the global economy. They have been driving the inflation dynamics we have observed both on the demand and supply sides in different sectors. On the supply side we have had the big energy shocks stemming from Russia's invasion of Ukraine. Previously with the pandemic we had issues in terms of contact intensive services and global supply chains. There have also been demand type shocks. One was for goods because there was a switch towards consumption of goods during the pandemic, and as the economy reopened there was an increasing demand for services, especially in Europe.
Peadar Tóibín (Meath West, Aontú)
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Is there any analysis of the proportion or the balance between the two? When we have a political debate many in the Government will put inflation down to issues such as the war in Ukraine, or difficulties with the energy supply. They are seen as the two big elements driving inflation. Does the Central Bank have any analysis of the proportion of inflation created by the supply side?
Mr. Vasileios Madouros:
We do, and there are also some simple metrics that could be looked at - for example, the split between services and goods, which become increasingly more in terms of the service sector. As the Governor mentioned, we have seen a broadening of inflation across the consumer basket and a number of price increases becoming more widespread and persistent. I will say two more things if that is okay. First, irrespective of the precise source of the shock one of the things monetary policy tries not to do is become embedded in people's expectations and behaviour, and avoid those potential second round effects. The second is in terms of how monetary policy has operated. If you think about where we started, it was very accommodative and supportive of demand. What has gradually happened over the past year has been the removal of that accommodation. There is less support of demand. Now, as the Governor said, the question is how far it should get into restrictive territory and for how long.
Peadar Tóibín (Meath West, Aontú)
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I appreciate the answer, but I am trying to see if there is any quantitative analysis in the contribution cost-push inflation has had. Can we say that 30% of the inflation that now exists stemmed from restrictions in the aggregate supply of goods into the sector. That has a number of policy results. If it is significantly cost-push an interest rate increase is less useful and more punitive.
Mr. Gabriel Makhlouf:
We will try to provide the committee with a note on the specific point. We have probably got more information of the euro area split as opposed to the Irish economy. However, it might be helpful to the committee for us to go away and address that point specifically. The only thing I will add is that the drivers of inflation in the euro area are different from what has been happening in the United States. That is something worth noting. Sometimes in the media inflation rates and monetary policy decisions are conflated, but there have been different drivers in each. We will try to put together a short note explaining that to the committee.
Peadar Tóibín (Meath West, Aontú)
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I would greatly appreciate that. I think it is important. I am exaggerating here, but if most of our inflation is coming from the restricted supply of gas and other fuels then you can put interest rates up all day long and it is not going to make much difference to the inflation rate coming from those sources.
Peadar Tóibín (Meath West, Aontú)
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That is interesting because it is contrary to the political narrative in the State. The other issue I want to briefly touch on is one that is seldom discussed. Has any analysis been done by the Central Bank on the effect Covid restrictions had on interest rates? Obviously, we had a real illness and at times the Government had to deal with that and protect people with restrictions. However, Ireland had a significantly longer restriction period than any other European country. The Covid restrictions added significantly to the reduction in the aggregate supply of goods, which led to inflation. We also saw a quick rebound in demand after Covid because of pent up purchasing power. Significantly, monetary policy was then increased during that period. Is it fair to say that the Covid experience has been a significant element in those three capacities on the inflation rate we are experiencing?
Mr. Vasileios Madouros:
There are different channels through which the restrictions affected demand supply dynamics across the euro area. The Deputy mentioned interest rates, but monetary policy is set at the level of the euro area as a whole. Initially, it was a very big shock to demand because of the restrictions. As the economy started to reopen, there was a positive recovery in demand as restrictions eased. Some of the more difficult questions are around the potential supply side effects of all the shocks we have seen over the past few years. Whether it is Covid or some of the energy issues we are seeing at the moment which might be more persistent, these are some of the issues very much on our radar and more difficult to assess.
Peadar Tóibín (Meath West, Aontú)
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There are a couple of things there. It is very important that we have an Irish-wide analysis. European-wide analysis is fantastic but it is really important that we have analysis of the Irish experience specifically. We have had negative experiences with interest rates being set by the European Union. European Union interest rates led in significant part to our property bubble that existed before the crash. If Ireland is in a different cycle or has different inputs in terms of our experience, it would be useful for us as a committee and for the Oireachtas to see quantitative research on that. On the effect of Covid in Ireland, I would greatly appreciate if the Central Bank could also provide the committee with the impacts of Covid decisions on the process with regard to restrictions and increased money flow, etc.
These are policy levers that for all we know may well be used in the future. It would be beneficial for governments to know the effects these have in the long term. It is interesting that if you go back on a historical basis to all of the great plagues there are massive increases in inflation after them. That has a massive knock-on effect on people's ability to live. Would it be possible to get some information on the effect Covid policy had on inflation?
Mr. Vasileios Madouros:
I want to say, so there is no misunderstanding, that I only referenced the euro area because I thought the Deputy was asking about the setting of interest rates. They are of course set at euro area level. We publish a lot of analysis in our quarterly bulletin or in our financial stability review on the impact of Covid restrictions, and what has happened more broadly with the Irish economy. We have a lot of analysis on the impact on the SME sector, on the household sector and what has been happening to savings. We talked earlier about the transmission mechanism at euro area level, but of course we also look at what is happening in Ireland, which is operating a bit differently.
We do have plenty on this which we could supply.
Peadar Tóibín (Meath West, Aontú)
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Very good. In relation to the issues of the vulture funds and the interest rates they are charging, Mr. Madouros mentioned the code earlier. The code is a mechanism by which it is understood that we can make sure that vulture funds are adhering to Irish regulations. Is there any lever currently in place in the code to force the vulture funds to stop charging interest rates that are 2%, 3% and 4% higher than the traditional banks?
Peadar Tóibín (Meath West, Aontú)
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From a legislative perspective, that is an incredibly weak position by the State, given the approximately 100,000 people who are in the hands of the vulture funds. In many ways, the previous Governments have created a system to force these individuals into the vulture funds' accounts. There is currently a two-tier mortgage system in Ireland. Some people have mortgage interest rates of 3% and others have mortgage rates of 7%. We spoke about people switching earlier in the debate. Is there any way that a person could switch out of a vulture fund?
Mr. Colm Kincaid:
Just to build on the comments that the Governor made, the code and our regime require that all lenders, including non-bank lenders, must have a suite of options available to customers who may not be able to pay the mortgage they are on. This will kick in not just when a person falls into arrears, but when a person is facing arrears. Therefore, it also deals with a situation where people are facing a scenario where they may not be able to meet their payments. That is where our regime focuses on affordability. On that, I think the regime is strong. It is more extensive, detailed and intrusive than in other European jurisdictions.
Peadar Tóibín (Meath West, Aontú)
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Yet, it does not have any tool to deal with the two-tier mortgage system that currently exists.
Peadar Tóibín (Meath West, Aontú)
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There is tiering of price. Everybody can see that there are two markets now in terms of interest rates that are being charged. There is one among the traditional banks and there is another among vulture funds. Is that not correct? There are two tiers.
Mr. Colm Kincaid:
There are differences in the pricing practices. There are differences in the pricing practices even within the non-bank lenders. Not all non-bank lenders have passed on the interest rate increases for example. Not all non-bank lenders that have raised rates have raised them for all their borrowers. Not all of the more than 100,000 borrowers of which the Deputy speaks are in the scenario where they are dealing with a lender that does not have a full suite of products. Some of the non-banks are themselves lenders and do have a full suite of products, including fixed rates.
At the moment, we are at a point where we need to see the situation evolve. We need to see the extent to which borrowers switch. We have seen with some lenders some early indications through their redemption activity that may be indicative of borrowers switching. We also need to see the extent to which people who seek to migrate from one lender to another are successful in doing so. There is no distinction or restriction in our regime between the treatment of a borrower who looks to move between a non-bank lender to a bank. It is the same set of rules and the same provisions. That is why in the Governor's opening remarks we made the point that one of the areas of focus for us is to make sure that across the system a timely assessment of applications on prudent credit criteria is consistently applied so that a borrower with a non-bank who approaches a bank seeking to refinance gets the same treatment and the same assessment as anybody else.
Peadar Tóibín (Meath West, Aontú)
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I thank Mr. Kincaid for that. I do not want to be pernickety in relation to this, but I said there is a two-tier market for interest rates. That is not mutually exclusive from everything Mr. Kincaid said afterwards. Indeed, everything he said afterwards does not disagree with that sentence. Our mortgage rate has a two-tier nature. Many people went through extraordinary difficulties after the last crash, and the fact that those people are being squeezed more by interest rates seems to be patently unfair. Is there any data on the number of people who have been able to switch from a vulture fund back to a traditional bank?
Peadar Tóibín (Meath West, Aontú)
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The rules allow it, but in reality, it does not happen, then-----
Mr. Colm Kincaid:
I am sorry to speak across the Deputy. What I am saying is that we do not have historical data specifically on people moving from one type of provider to another. The area that we are most focused on at the moment, precisely for the reason the Deputy referred to, is the approximately 38,000 borrowers who are on non-tracker standard variable rates which are at the higher end with lenders who do not have a full suite of options available to them. That is an area where we see that the lenders have a special duty to understand the characteristics of those borrowers, to be engaged with those borrowers and to factor their analysis of the characteristics of those borrowers into their engagement strategies and the suite of options that they have available. We were clear in the letter from November last year that we expect financial service providers to review their product lines and suites of options to make sure they remain fit for purpose. In the case of credit, that means making sure that loans remain affordable.
Peadar Tóibín (Meath West, Aontú)
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How does one work that out on a micro level? For example, a woman rang me recently who had a split mortgage and a chunk was warehoused. She was paying €600 per month and then her mortgage went up to €950, which is impossible for her to pay. She has contacted me in relation to that. How do people in this scenario become noticeable to the Central Bank of Ireland to ensure that they are treated fairly? For those 38,000 people, how do they make sure that their rights under the Central Bank's framework are implemented in their individual cases?
Mr. Colm Kincaid:
The first thing to say is regarding any borrowers who are in a situation where they feel they may be challenged in making their mortgage repayments. I remind them that their provider - whether it is a non-bank or a bank - has regulatory responsibilities to them to engage with the lender and for that lender to support them. I would also say that we have more than 400 licensed mortgage intermediaries in the State. They could also seek advice about what options might be available in the market. Any information we receive - and we do receive information from individual borrowers, political representatives and others - we review, we consider and we will intervene with the entities that we regulate if we are concerned that we are seeing a systemic breach of the rules that we have set down, or that it is not meeting our expectations. To be clear, however, this is not to say that the onus is on borrowers. It is to say that regulated lenders, including the firms we are dealing with, have very clear obligations to have supports, resources and options available for any borrower who feels they may be challenged in meeting their mortgage.
Peadar Tóibín (Meath West, Aontú)
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I am conscious that I will probably be getting outside of my time limit soon. I have two final small questions. Out of the 38,000 mortgage holders Mr. Kincaid mentioned, honestly, I cannot imagine the majority of those people will be knowledgeable enough to understand that that is the process. It seems to me that there is a reactive policy by the Central Bank to say, "Well, if people come to us, we will try to look at it". In this time of crisis, people are being put to the pin of their collars and interest rates are so high. Let us say that their €600 monthly repayment may go up to €1,000. In those peoples' minds, the viability of continuing with the mortgage decreases. There is no doubt in my mind that those vulture funds are saying, "Well okay guys, you need to consider selling up here. You need to go into a mortgage to rent situation. We need to crystallise this investment in this higher-price building market". That is as likely to happen as a person saying, "Well, hold on here. I am pushing back. I am going to make sure that my rights are upheld". We must make sure everybody knows that.
The Central Bank needs to be much more proactive on that.
My final question relates to public banking. We have a really strange situation in this country whereby nearly every political party states it is in favour of a public banking system but we have an incredibly overly-concentrated banking market. We only have two real players and because of their enormous supplier power, they can dictate most of the elements of engagement with customers. We need more competition. Competition is obviously an objective of the Central Bank. Has there been any analysis of the contribution public banking could make to the Irish economy? Would it be a benign, positive or negative force? Is it something that would operate positively in the banking system?
Peadar Tóibín (Meath West, Aontú)
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The Sparkasse banking system is understood to be similar to public banking.
Mr. Gabriel Makhlouf:
Yes. The Department of Finance commissioned research on this not too long ago. I cannot remember precisely the conclusions of that research, other than the fact that there was no particular case for going down that road. I am not sure it was suggested that it was a bad or negative thing; rather there was no case for going down that road.
On the issue of competition, we do not have a mandate to promote competition. It is important to be clear on that. That said, we recognise that competition is very important for the Irish market. In our work, one of our objectives is to ensure that any new rules we introduce into the system are consistent with the orderly functioning of financial markets. It is the Competition and Consumer Protection Commission's job to be satisfied that enough competition exists in Ireland. The withdrawal of Ulster Bank and KBC is obviously concerning in the context of a competitive market. That is why we need to make sure that what we have seen in recent years, which is new entrants arriving, is encouraged and continues. My own view is that it is too early to do it this year but at some point, I would expect the Competition and Consumer Protection Commission to ask the question as to whether there is enough competition in Irish retail banking.
Of course, the nature of the industry is changing. We tend to talk about full-service retail banks that offer the whole package that we are familiar with, but what we are seeing in the market is new players entering and operating in particular segments of the market. Whether that is the future and we will see growth in that, especially growth of fintechs, is an interesting question. Incidentally, I would distinguish between fintechs and crypto; they are not the same. From my perspective, at some point in the next few years, I would not be surprised if the competition authorities felt they needed to do a full review of the state of the market here.
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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Deputy Mairéad Farrell is next.
Mairead Farrell (Galway West, Sinn Fein)
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This has been a very interesting meeting. The discussion on crypto was particularly fascinating. I have heard friends talking about crypto and have listened nervously sometimes.
I will start with a question on Revolut. The Central Bank may be aware of a scam that some people fell foul of before Christmas involving Revolut. Obviously that is a matter for An Garda Síochána rather than the Central Bank. We know that more and more people are using Revolut as their main bank and Revolut is now issuing international bank account numbers, IBANs, to its Irish customers. In ordinary retail banking, a lot of the services that had been provided previously are becoming less available in the context of the reduced physical presence of banks. In the context of Revolut having such a strong influence on the market at the moment, is it time to introduce a regulation whereby operators of a banking licence here are obliged to have some kind of physical presence? One of the issues to note with regard to the aforementioned scam - again, I know it is a Garda matter and I am not asking the Central Bank to comment on it - is the fact that when the people affected were trying to speak to somebody in Revolut, their only option was a chatbot and that was incredibly frustrating for them. Given that Revolut is becoming such a big presence here, is there a need for a regulation in that regard?
Mr. Gabriel Makhlouf:
I am not going to talk about a specific firm nor the incident that the Deputy mentioned. Perhaps Mr. Madouros or Mr. Kincaid will add to what I have to say but there are two issues at play here as I see it. First, on the question of physical presence, that is to a certain extent part of the retail banking review that the Department concluded last year. There was a specific focus on the use of cash, ATMs and so on and we will be working with the Department on that. The other point I would make in the context of the operation of the Single Market in Europe is that we need to be conscious of the fact that we cannot introduce rules that contravene EU law. The question is whether, at the EU level, we feel there is a public policy reason for banks to have a physical presence anywhere that they offer services. I do not know if that sort of discussion has taken place at the European Securities and Markets Authority, ESMA, or anywhere else. It is an interesting question.
Mairead Farrell (Galway West, Sinn Fein)
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Does Mr. Makhlouf think there is a need for that kind of discussion at this point?
Mr. Gabriel Makhlouf:
I am not entirely sure on that. I would like to understand the issue further, in the course of looking at the follow-up to the domestic retail banking review. I am trying to resist talking about a particular firm, but the example the Deputy has given is of a new entrant into the market. It is not unique. There are others like it and they are offering a particular service. Consumers clearly are attracted to that service and are using it. At an EU-wide level, we expect certain standards to be followed by providers of that sort of service. If we are going to say that all of these firms are going to need to have a physical presence in every jurisdiction, there is a danger that we would kill the service by making it uneconomic to their business model. One would have to be quite careful in terms of the objective. If the objective is to achieve particular standards in terms of the customer experience - being able to talk to somebody easily or having a chatbot that actually works - that may be a different question.
Mr. Colm Kincaid:
One way of looking at it is in the context of wanting to see choice, availability, competition and innovation for consumers. First, we put a very strong onus on the firms we regulate, as do other regulators across the European system, to be really clear and upfront with their customers about what service they are providing and what the features of that service are, so that when the customer is making a choice about a particular service, he or she understands what it is. Second, the onus is on firms to ensure that whatever model they use, they do it well.
Third, there should be special arrangements in place for people who might need some particular special assistance, be that face-to-face or otherwise. That is a broad-brush way of looking at it but that is the lens through which we look at innovation in products. We ask if it will be understood by the people who will use it, if it serves a purpose and if there are supports in place for people who might be quite happy to use it in a certain way in the normal course but who might need particular assistance at a particular point.
In the area of digital provision, we have been clear that there will be times when people will want to have face-to-face interaction with a human being because they have a particular need etc. On the physical location and the bricks and mortar issue, the system is evolving in a digital direction. Those are the lenses through which we look at the issue if that is helpful.
Mairead Farrell (Galway West, Sinn Fein)
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That is interesting. I will touch on the issue of interest rates, and I know we have already discussed it at length. I saw that the Chief Economist of the ECB, Professor Philip Lane, recently said that interest rates need to reach restrictive territory this year. Reuters did a poll among economists on this and they broadly said what the Central Bank said today; there is a consensus that would see two rises of 50 basis points each at the ECB's next two meetings, followed by a 25 basis point rise at the start of the second quarter. That would mean the deposit rate would be 3.25% by quarter 2. Is that forecast accurate? We have already talked about that a bit.
Does the Central Bank expect it will need to go beyond that in order to reach this restrictive territory, as it was called? I note the witnesses said clearly that we need to realise we are not in an era of low interest rates and that era is gone. I would be interested to hear if the Central Bank sees that as being restrictive territory or if it goes beyond that. Is that something we will know with time?
Mr. Gabriel Makhlouf:
It is worth repeating something that Mr. Madouros said earlier. We have been running an accommodative monetary policy for a long time. Since December 2021, we have started to normalise policy. Negative interest rates are not normal. What we started in December 2021 was to signal that our asset purchase programmes would start to be reduced. We started in March of last year with the end of the pandemic emergency purchase programme, although we will still be reinvesting the proceeds of that for a while, and we put up rates in July. The normalisation process is ongoing, therefore.
Where restrictive territory sits is one of the big debates economists have and which there is no single answer to. My view is that we are not in restrictive territory but I can see us getting into it. The number the Deputy described is more restrictive than where it would have been but is it where we will stop? The people who say they know are just speculating wildly. One of the things we have said for a while is that we will be adopting a meeting-by-meeting approach to our decision-making. I said what I think should happen next week but I did so because I feel I know most of the data and information there is to know. However, I will not speculate today on what we will do in March. I think I know what we will do in March but we will have new projections then, which will inform us quite a lot. What will happen after that is speculation. We must bear in mind that inflation is high and that core inflation, which is inflation excluding energy and food prices, has gone up slightly. Therefore, it would not be surprising to see us continue on this path of interest rate rises beyond this first quarter.
Mairead Farrell (Galway West, Sinn Fein)
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What is the Central Bank's modelling saying about the chances of recession in 2023?
Mr. Vasileios Madouros:
The last time we did our forecasts was back in October and we will update them in March. At the time, as the Governor described in his opening remarks, we saw 2022 as a tale of two halves. For 2023 we saw a deceleration in activity, relative to 2022. This year as a whole will not quite go into negative territory but there will be a significant deceleration. We will update the forecast in the coming weeks but in the broad narrative that is what we think.
Mairead Farrell (Galway West, Sinn Fein)
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I want to ask a question on that. We saw the Business Postreport last weekend that up to €10 billion could be wiped off the value of commercial property here this year due to rising interest rates and weakening demand. How will that impact the economy?
Mr. Vasileios Madouros:
Commercial property is one of the asset markets that is being affected by rising interest rates. We have seen significant changes in valuations of financial assets across the world since monetary policy started to tighten to bring inflation back to target. On the transmission channels from the commercial real estate market back to the economy, lenders' exposure to the commercial real estate market has significantly reduced over the past decade. We have different types of financial intermediaries, including investment funds that are active as owners of commercial property. We have been looking at this area closely and last year we introduced new measures for some of these funds that invest in commercial property in Ireland. There is an adjustment happening to valuations but the exposure of banks is more limited than it used to be. However, there could be spillovers through either construction activity or through some of these known bank exposures.
Mairead Farrell (Galway West, Sinn Fein)
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Section 110 is an issue I have been raising for a long time, even before it became popular and was discussed, which I was happy about. At budget time the then Minister for Finance announced a review of section 110 companies. I saw recently that both the Dublin Inquirer and The Currencydid a collaboration showing that section 110 companies are once again being used for domestic property transactions. A review is just a review as far as what the Minister for Finance announced. Has there been a change in attitudes on section 110 companies?
Mairead Farrell (Galway West, Sinn Fein)
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On the part of the Central Bank. What is its view? I was quite astonished that this was continuing, despite everything we have seen in recent months and the fact that the Minister announced that the Department of Finance would do a review. I am astonished that this is to be continued and my concern is that this is one of those things that is a flash in the pan for a moment in time because it is politically interesting. Nobody was interested in section 110 companies before that and I would be concerned that this will be ignored again so I was wondering what the Central Bank’s view is.
Mairead Farrell (Galway West, Sinn Fein)
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So do I. I was probably the only person who was excited to hear about it in the budget speech. I am aware that other members want to come in so I thank the witnesses.
Bernard Durkan (Kildare North, Fine Gael)
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I apologise for arriving late; I was in other places. I welcome our guests and I want to ask a simple initial question. Who supervises the vulture funds? Does anybody do so?
Is it self-regulation or how does it work?
Bernard Durkan (Kildare North, Fine Gael)
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I am not too concerned about Mr. Makhlouf's idea of vulture funds. Essentially I am talking about the funds - as we were informed in the House several times - they do not come under the regulation of the Central Bank. Is that true or have they come partly under its regulation? Do they self regulate? What is to stop them from running wild and buying up half the country? The Irish Farmers Association will tell the witnesses about the proposal by Coillte. What is to stop them from buying the most profitable and productive-----
Bernard Durkan (Kildare North, Fine Gael)
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Will Mr. Makhlouf wait until I am finished?
What is to stop them from buying up the most agriculturally productive land in the country? They will hardly buy swamps when they are getting involved in this. We talk about rewetting on one hand and rewilding on the other hand, some of which we have to do. We have a lot of wetting and wilding done already. How will they be regulated in the proposed operation which has already started in some way?
Bernard Durkan (Kildare North, Fine Gael)
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I suggest Mr. Makhlouf answers this one.
Mr. Gabriel Makhlouf:
Absolutely. I will invite my two colleagues to come in. We cannot answer about the specific transaction the Deputy is describing, in part as I am not sure we know enough of about it. Our world includes non-banks operating and providing financial services to consumers in the Irish market. Funds that may exist in another jurisdiction that buy assets in Ireland are operating in a different environment. That is a simple example to show the distinction between what we are interested in and the existence of entities that buy assets but which are not involved in the provision of financial services.
Bernard Durkan (Kildare North, Fine Gael)
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Is the Central Bank conscious that their activities, depending on their size, importance and influence, could have a significant effect on smaller open economies if left unchecked?
Mr. Vasileios Madouros:
I will come in and perhaps Mr. Kincaid will also.
As the Governor stated, a large non-bank financial sector is resident in Ireland and includes a number of diverse entities. Some are investment funds that invest here and the majority invest abroad. These are regulated from an investor protection perspective. In the non-bank sector there are also entities that do not fall into our regulatory perimeter, including from an investor protection perspective, apart from some very small touch points. In response to the Deputy's point about the implications for the economy of high volume investment, I will refer back to what I spoke about earlier. We did some work around macro-prudential measures for investment funds that invest in commercial property. One of the reasons for that is they now account for a significant share of the commercial property market in Ireland. Therefore, any potential financial vulnerabilities could have an effect on the market and, through it, on the broader economy. We have been active in this area but only in the context of links with key parts of the domestic economy.
Mr. Colm Kincaid:
The term is often used in the context of consumer and retail credit. Under Irish law, any person who provides or acquires a consumer credit loan such as a mortgage or an unsecured credit loan, is regulated by the Central Bank. Some of the commentary about the underlying owners of those loans relates to the fact that typically, in retail credit from a credit servicing firm, the funding for the acquisition of the loans comes from a range of funds that may be in Ireland or anywhere else in the world. We do not regulate those investors or the entities that put up the funds for the Irish regulated entity to acquire the loans.
Bernard Durkan (Kildare North, Fine Gael)
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Why not? Is it because of a policy restriction or does the Central Bank not wish to get involved?
Mr. Colm Kincaid:
It is what the legislation provides for. The logic of the legislation is that the entity that is either providing the credit to or engaging with the consumer about the credit, including on the issues we spoke about earlier in this session, is regulated. Other entities that provide funding to them and are the underlying beneficial owners of the assets are not regulated by the Central Bank. That is a feature of the legislative regime.
Bernard Durkan (Kildare North, Fine Gael)
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I accept that but it does not stop us having to raise questions as and when they arise. Public representatives are at the coalface and we are the first people the public will blame. They will not blame the Central Bank. They blame public representatives for not warning them. Someone must warn the public about cryptocurrencies and everything else. Some authority must warn the public as to whether this is a dangerous place to go, whether a fund is overextended, cantilevered and so on. There are plenty of signs or evidence of that. I am aware of the need for what some people call investment funds and are investment funds and some people call vulture funds and are vulture funds. At a time when very little was moving in the economy they had a role. However, I am a little worried about the secrecy surrounding them. For example, as the Chair has raised before, if what was seen as an irregularity, a risk or possible carryover, is presented to the Central Bank, what is done? Is the risk examined or the person presenting the case examined and awarded for alerting the Central Bank to the forthcoming possible overextension as necessary? What happens? If I am a risk manager in an institution and I bring something that should not be happening to the attention of the Central Bank, what happens to me and what action is taken?
Mr. Gabriel Makhlouf:
If someone makes a protected disclosure or any disclosure to the Central Bank about any issue of the kind the Deputy described, we treat it seriously and consider it. If a person goes through the formal protected disclosure route, we have a particular system in the Central Bank that handles that kind of information extremely carefully. Assuming we are talking about the firms the Central Bank supervises, the supervisors will consider the information and deal with it appropriately. That could involve a whole series of different actions, depending on the nature of the issue.
Bernard Durkan (Kildare North, Fine Gael)
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That has not been the experience of people in public life. There is a feeling that people who raise issues are potential troublemakers and perhaps they have the wrong end of the stick, should take their case somewhere else or whatever the case may be. I will park that as I know the Chair also wishes to contribute.
I will move on to another matter. I am aware of moral hazard and the need for some protection. Otherwise people whose mortgages have been bought might not want to pay anything at all. However, the secrecy worries me. I, the Chair and all committee members have dealt with cases where unfortunate people, perhaps through wrong investment, a wrong turn or circumstances outside their control, found themselves in positions where the bank or lending institution came to foreclose their property.
Unfortunate people, who maybe through bad investments, wrong turns, or circumstances outside of their control, have found themselves in the position where the bank or lending institution came to foreclose on their property. The degree of sympathy coming from the institutions was not great. I know people will say they are businesses and that sympathy is not part of their make-up. However, we have all dealt with really appalling situations where vulnerable people were tossed about on the sea of financial turbulence, for the want of a better word, and lost out. I have dealt with these people as has everyone around this table. Members of the Houses will tell you about it. The problem was those vulnerable people who were really down and desperate would always ask about their loan that was sold to a financial investment company or whatever the case may be. They bought it for a certain amount. What percentage of the face value did they buy it for? Then it is sold on for a multiple of what they bought the property for. It is all very fine to say that is business. We are dealing with people's lives here and people's emotions. It is not something that is new to us or to the Central Bank either. It needs to be aware of it. I am a little worried that not enough concern is shown for people in that situation, and there are many of them. They will suffer long after the financial crash and eventually they will get nothing. They will find themselves thrown on the slag heap, as it were, and that nobody wants to listen to them.
I know the vulture funds are categorised as not being willing to talk. That is not true. Some of them are willing, but some of them are not. Some of them are willing to accommodate customers but some are definitely not and will shift the case around to suit themselves and they will ask those who attempt to achieve a solution to make a proposal which is inevitably rejected. They will then ask them to make another proposal. This is being used in many cases as a negotiating ploy where the original borrower gets to the stage where they throw up their hands and say that this cannot be solved. I am worried about disclosures in the future that may well unveil something that may be a shock for the country in general and certainly for public representatives.
I give credit to those who are willing to negotiate honourably and honestly. I am aware of the ones who do not and the various ploys that exist. When we call them to deal with the customer, we have to go back through the whole security process. The General Data Protection Regulation, GDPR, is the answer to everything. Everybody shelters behind GDPR now. The customer has no place to shelter and no place to go. I would be grateful if customers could be warned in a very effective way as to the blatant risks of getting involved in crypto currencies in stark red letters. Let them know about it. I refer to the so-called vulture funds' activities in other areas. Echoing what the Irish Farmers Association, IFA, say, if I was a vulture fund and I was going to buy property all over the country, I would buy the most valuable and lucrative assets. I would not buy swamp land or something like that. It could, however, reduce the ability of the productive sector to produce what it produces best which is food. I will have more to say some another time as will the Chair. However, we need to be mindful of what happens.
The existing banks have attempted to become invisible and to do what they want behind the scenes. That will not work. Customers throughout the country want to be able to talk to their financial adviser, as they see it. It was always that way and there are plenty of examples to show why that was useful. It is not being followed through now. There is a movement away from that and to become invisible to all intents and purposes but as I said, it will not work. However, we will have more to say about it another time.
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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I thank Deputy Durkan. Mr. Kincaid made reference to institutions needing to learn lessons when talking about the past. Does he think lessons have been learned around the issues that were raised regarding accountancy firms that sign off on the banks' accounts? I recall that on 21 October 2020, I raised the issue of an article in the Financial Times. It spoke about banks deliberately overvaluing their loans. I then noticed an article by Mr. Matthew Vincent in which he spoke about the fact that banks were audited before the crash and given a clean bill of health. In one case, the comment was that both the cash flow and balance sheet were insolvent.
Moving on from there to 2018, I read another article on the same issue and the fact the Central Bank was not meant to lend to insolvent institutions so why did it? Again it cites a bank having its accounts examined and signed off and some months later the same accountants and others outside did not come to that same view. As part of hiding their actual position, and the same can be said of the main banks and Anglo Irish Bank at that time, the use of the value of properties was raised. It then relates back to accounting rules in terms of their analysis of a bank's position. In October 2022 a report in Private Eyesaid that internationally agreed accounting rules heavily that were influenced by the big four accountancy firms, which draw so much of their incomes from the financial sector, have barely changed.
I will come back to Mr. Kincaid's point about lessons that were learned. Accounting rules that applied at that time and allowed for that analysis to happen, although within months billions of euro had to be pumped in by the State, have not changed. Banks currently have to estimate what their losses on loans, such as mortgages, will be over the following 12 moths rather than what the total they will not get back really is. This was from a Private Eyereport. If nothing has changed since the crash, if properties and loans will face difficulty, which the Central Bank believes, and if there are the same rules for accountancy firms to perform their analyses of the banks' positions, will we have the same outcome? We now have bankers' bonuses coming in and the scene that was set in 2008 is nearly set again, with the same accounting rules.
How can we get a different outcome if what is in place is still the same? Has the Central Bank looked at that? When its representatives previously appeared before the committee, I asked the same question arising out of the Financial Timesarticle. It was hoped that we would get an analysis based on that article and question. What do the witnesses say regarding all of that? Can we now be comfortable with the lessons learned from the past? Have these rules been changed? Has the valuation of properties within the bank, including loans and so on, been changed to reflect reality rather than some other position?
Mr. Gabriel Makhlouf:
I am hesitating slightly because I want to make sure I answer the Chair's question and not something else. I do not know if Mr. Madouros or Mr. Kincaid want to come in. I will make a general statement about what I have seen, not just in Ireland but elsewhere, regarding the lessons learned from the financial crisis, specifically the experience of the accountancy and auditing profession.
Many lessons were identified. My experience has been that lessons were learned. The fact that some of the rules may not have changed underplays the effort put into the application of the rules themselves and the standards. I cannot speak for Ireland but in a number of jurisdictions, changes were made to the regulatory system around the accountancy, for example, and other professions, to address some of those issues. I think there were specific changes - Mr. Madouros or Mr. Kincaid may know - around the valuation rules of particular assets and how they should be done. I do not know whether these address the article the Chair talked about. I have not seen thePrivate Eyearticle, for example, or the other articles.
As an example beyond the accountancy profession, a very significant change made following the financial crisis was to the rating agencies and the use of ratings in the assessments made by institutions, such as regulators, around the world. That was a very significant change. The rating agencies certainly got it wrong before then. I am potentially straying into territory I am not completely on top of. I do not know if Mr. Madouros or Mr. Kincaid have anything to add to this. If the Chair gives us the Private Eyearticle, we can try to be a little more specific.
Mr. Vasileios Madouros:
A couple of points arise out of what Mr. Makhlouf said. One of the big changes has been in the valuation approach to specific assets. In the case of a loan book, this moved from taking impairments, if loans were incurred and actual evidence of loss was seen, to expected loss. The view at the time was that impairments meant waiting too long, if losses had already been carried. This move towards expected loss provisioning was an attempt to guard against that. This operated for the first time during the Covid pandemic when there was real stress globally. There was some evidence, certainly in Irish banking, that banks took on more provisions recognising some of these potential losses earlier on.
One thing that has certainly changed is the prudential regime for the banking system. That has changed significantly across many different dimensions since before the financial crisis. There are elements of that which interact with the accounting regime. One very narrow example is that in determining what counts as regulatory capital, there are a number of adjustments to what would count as accounting equity to get to the view that regulatory capital can absorb losses that are appropriate from a prudential perspective. That interaction is also important.
Mr. Colm Kincaid:
I will complement that. To return to my earlier remarks, another area is where we are coming into an economic scenario whereby the system, resources, and knowledge in the system on dealing with mortgage arrears, in particular, are significantly advanced, which is unfortunately due to the problem we have to deal with. That is one of the reasons we put so much effort into that in 2020, 2021 and leading into 2022. One of the key lessons from that, and one of the reasons we are so proactively engaged with lenders now, especially non-bank lenders, to refer to Deputy Durkan's comments and to be very clear, is that our demeanour is the institutions we regulate have a duty to support their customers and behave sympathetically towards them. We see a mixed bag in respect of performance under that. It is one of the reasons we are so proactively engaged with firms on an ongoing basis, as well as getting information that we review, as I mentioned in response to Deputy Tóibín.
One of the lessons we learned was the importance of early engagement and trying to quickly get to solutions with people and not allow a situation to drag on for too long regarding what options are available to them. To link that to the point Deputy Durkan made, and to be very clear, under the code of conduct on mortgage arrears, lenders have a duty to have a suite of options to assess the financial position of customers and to make offers to them, or to identify with customers that they cannot, and why they cannot, avail of a certain option. Any of these scenarios where consumers feel it is on them to find the solution is certainly not consistent with what we expect of firms.
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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Mr. Kincaid is straying from my central question. Can he guarantee that banks will record the loans in a fair way, other than the way they were recording them previously to give their balance sheet a more respectable look? Are banks allowed, in certain circumstances, to record loans above their value? That is the central question.
The second part of that question is in looking at the big four firms, in the main, who audited the banks, how did they arrive at the conclusion that the banks were solid at that time when, just a few months afterwards, they were insolvent in all sorts of ways? Has the Central Bank analysed how that happened? Again, the question for the Central Bank is whether it is satisfied that if there are, in fact, new accounting rules, that situation will not happen again. Is there no change in the rules for how these firms account for themselves? That is the deeper question because if that has not changed, it is then back to Mr. Kincaid's comment about learning lessons. I am not trying to trap the representatives in any sort of scenario. I just cannot understand why, during the long banking inquiry, we never discovered anything about the reasons a clear set of accounts was signed off on and yet the banks all went bust within a short period after that.
Looking at the accounting rules at that time, what was allowed within those rules to give authority to those that were auditing to state that the banks' accounts were okay? The crash then happened and everything changed.
It happened so quickly and involved so much of taxpayers' money. Arising from that and the public commentary in fairly reputable newspapers, what does Mr. Makhlouf see as having changed in the accountancy practices and rules that will not allow this to happen again? The second part of my question concerns the value of these loans. Regarding the way in which those loans were valued at that time, which was obviously at a higher value, can Mr. Makhlouf tell us that this can never happen again?
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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Mr. Makhlouf mentioned he had not read the articles. Again, I am not trying to catch anyone out. I am just looking back over my notes. I raised the question about these articles, those printed at that time, back in 2020 on two occasions. In fact, I think the secretariat will have sent them to the Central Bank. I am interested in establishing what the current situation is-----
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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I will give Mr. Makhlouf the articles before he goes so that we can at least get some sort of idea-----
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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Okay. That would be great. Considered answers are fine.
Mr. Vasileios Madouros:
Maybe we should take away the account question as well. I would like to go back to the prudential overall framework, and not just the way things like regulatory capital are calculated, and to some of the Chair's questions. If we look at where we are now compared to where we were back then, it is a very different approach. There are many differences, including levels of capital, quality of capital, underwriting standards and the measures we have. One of the key additions is that when we look at banks and risks around financial losses we do not just look at what their capital ratio is now. We also look ahead. We do projections in different scenarios, including in stress scenarios, to understand what might happen, not just in the context of what we expect to happen to the economy but also in bad days of the world. This gives us a much better forward-looking view of these risks. I will come back to the Chair's other questions.
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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Arising from Deputy Durkan's questions, I would like to clarify that the investment funds being referred to, from outside the country, can buy whatever they like. No restrictions have been placed on their commercial activities in the market if they are buying property, houses or blocks of apartments. Is that what was said? An outside investment fund, like an individual, I presume, can purchase what it wishes. It can buy up land for forestry or any other project, houses and blocks of apartments. Its engagement is directly with whatever management entity it will put in place relevant to the project. As for the Central Bank's overview of these funds, there is no role for it here.
Mr. Vasileios Madouros:
Mr. Kincaid may wish to jump in as well, but it is fair to say that we have less visibility when it is cross-border investment and happening from abroad. That is equally the case from a supervisory perspective. In the context of some segments of the investment market, such as the one I mentioned earlier and that I will come back to again in the context of the commercial real estate market, much of this activity is being undertaken by investment funds authorised in Ireland by us, even if their underlying investors are cross-border. In that case, we have visibility and tools and we supervise them.
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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I am sorry for cutting across Mr. Madouros, but the Central Bank cannot prevent them from investing in forestry, housing or anything else. The bank's job is regulation. Deputy Durkan was asking a specific question and I am trying to tease it out. It is for the investment funds to make a decision as to where they will invest. If they are in Ireland, they come up on the radar of the Central Bank. If they are not, then the actual fund does not. Perhaps Mr. Madouros does not wish to say anything about this but I will leave that to him. Does he accept, in respect of these kinds of funds that buy up blocks of apartments, housing schemes, forestry or anything else, that there is a risk to society, let alone the economy, if something should happen to these funds because they would leave tenants exposed and blocks of land under question in terms of the ownership and usage, the legal framework, etc. Is that the case?
Mr. Vasileios Madouros:
There are societal questions that I will not get into to but in the context of this source of financial intermediation, because this is a source of financial intermediation and like all such sources can entail potential vulnerabilities, if these are material enough, they have the potential, not when times are good but when things go bad, to amplify stresses. When that happens in the context of the commercial property market, and this is why we are taking action, it is also incumbent upon us to ensure these funds are resilient enough to be able to absorb these shocks and not amplify them. I am talking about a segment of the market here, but it is certainly a segment that, certainly from the perspective of the investment fund sector here, has the closest links to the domestic economy. This has important macrofinancial implications.
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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I am sorry for probing this but I have a concern about this. I understand the macrofinancial implications and have a view on it. Where a company is funding projects in the State from outside it, does the Central Bank have the reach to determine if it can sustain any financial blips as it develops its projects or is it the case that this sector, in forestry and housing, is open to an extra vulnerability because the Central Bank cannot apply sufficient oversight to them?
Mr. Colm Kincaid:
I understand the issue the Chair is grappling with. To take a step back for a moment, I will quickly describe the gateways through which some of these entities come to be regulated by us. As Mr. Madouros mentioned, under European and domestic law, in certain cases where an entity is set up and starts marketing investment in itself to the public, or to portions of the public, it becomes a requirement to have that fund authorised by a national competent authority. If such an entity is set up in Ireland, that would be us. As people know, we have a large funds industry here.
Our focus as a regulator in regulating such an entity is to ensure it is acting in accordance with the best interests of the investors in the fund. There will be an investment mandate, which could be to invest in government bonds, fisheries, forestry or whatever. One basis on which we would intervene is if we saw a fund investing outside its mandate. We do that for the protection of those investors. Alongside that, on a sort of macro level, we have a concern regarding those entities investing in this economy, be they located here or elsewhere, to determine what the implications are of this investment and how resilient the economy is to it. We do not, per se, regulate the simple fact of a person purchasing an asset in Ireland.
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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Yes.
Mr. Colm Kincaid:
I know the Chair understands this point. These funds would be subject to whatever rules are in place for whatever asset class they are purchasing, whether it is apartment blocks, forestry, fisheries, etc. In our investor protection mandate, while we would step in if we saw a fund set up and authorised in Ireland or became aware of one in another jurisdiction misappropriating or misinvesting, if that is a phrase, investors' moneys, we do not have a role in prescribing what such funds invest in. That would be prescribed in the constituting documents of such a fund. I hope that is helpful in explaining the landscape at least.
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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It is. It just emphasises for me the dangers of some of these funds relevant to the types of activities it has been suggested they would be engaged in, for example, forestry and housing. I can see there is a gap in the regulation that needs to be addressed. Those funds are distinctly different, in a way, from what we would describe here as vulture funds. The problem I see with the vulture funds is that more and more people are going to be trapped by them. They refuse to appear before this committee or make themselves available to us. They refuse to be accountable and transparent. It falls to the Central Bank, therefore, to ensure it is vigilant in how their front-of-house operators behave and how the funds themselves are informed by that front-of-house operation so that the unfortunate person who ends up with the vulture fund is not pestered to the point that it basically ruins his or her life.
What is the Central Bank's engagement with those funds? Does it have regular engagement? Are they aware of the concerns we express? Are they aware that those who make the law here are particularly annoyed that they continue to snub the Joint Committee on Finance, Public Expenditure and Reform, and Taoiseach, the only committee, from a financial perspective, that represents the people. We have questions we want to ask of these funds? Do they give a sense that they are beyond or above us? Does the Central Bank have sufficient engagement? Why do they not appear before this committee whose members deal with people who are in trouble within this country? Does that conversation ever happen?
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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Yes. That is why I made a distinction between my first and second questions.
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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I understand.
Mr. Colm Kincaid:
Whatever about the committee, they are certainly not beyond the reach of the Central Bank. We have a very regular engagement with the retail credit firms and credit servicing firms, which are authorised and regulated by the Central Bank. They are subject to all of our authorisation standards and requirements. They are subject to all of our requirements for people in control functions to be approved and authorised by us. We inspect and engage with them. We engage with their CEOs. We have engaged and will engage with their CEOs specifically on the issue of customers who are on higher variable rates and may not have an option to switch where that lender does not provide a full suite of products for those kinds of customers. That is a very live engagement of ours with them.
What we do in our risk-based approach to supervision is zone in on the issues that we are particularly concerned about at a particular point in time. As I said, in 2021 and into 2022, our main focus was on these long-term mortgage arrears cases that had been sitting there for a long time and getting the institutions to make progress on that. I will point out that, statistically, these entities hold three quarters of long-term mortgage arrears but where we have seen progress in mortgage arrears, we have seen it in those entities. We have required them to improve how they have been doing that but we still believe, and we have said this publicly, that there is more for them to do, particularly at this point in time because, as the Chairman said, they have these loans on their books where people may not be able to switch. Having done the analysis of the characteristics of that book, we will now be engaging with them to understand how they have factored all of that into their pricing strategies and into the suite of options they have available for people. That is a very live engagement.
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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My final question has to do with switching. Senators Higgins and Sherlock are waiting to contribute and I am sorry to delay them. The main banks still have accounts that are in difficulty. They have appointed receivers and done all sorts of stuff with some of their customers. Where they have failed is in the engagement with customers who are in difficulty, preferring instead to hide behind a solicitor, the law or a receiver. The Central Bank should insist that the banks account for themselves with regard to some of those accounts. The Central Bank cannot deal with individual accounts, and I understand that. It should take an overview, however, and take it as a fact that most of those banks are still defending their own position regarding mortgages, tracker mortgages, loans and business loans. There are some that still have to be resolved. I am not asking that people be let off the hook. I am asking that they be dealt with fairly. I have seen very unfair practices in the banks. To finish on the mortgage issue and vulture funds, we are going to engage in a session on the activities of vulture funds. What we might do is continue to inform the Central Bank of what we are hearing, the issues we have in hand and the outcome of our hearing.
My final question has to do with politically exposed persons. Mr. Kincaid spoke about switching. Try switching if one is a politically exposed person. These are individuals who have been characterised as such in terms of the work they do. The negativity they experience from the banking sector has to be experienced to give an understanding of just how much they are shunned by that sector. Last week, a Member wanted to lodge cash for his holidays and could not do it. Members who wanted to switch accounts, like any other citizen in the State would do, could not do it. Individual family members tried to raise money just to be approved for a mortgage only to be told, "Sorry, you are related to a politically exposed person". I am not talking about me personally but a wide range of Members who contact us to tell of their experiences. I ask Mr. Kincaid to remember, within whatever regulation exists and in his discourse with the banks, that the consequences of this are far-reaching. It is hard to understand that the regulation would be enforced in such a way as to make life hugely difficult for families and workers in our offices here in Leinster House or for people to switch to get better value for their buck. I raise that point with Mr. Kincaid in terms of his engagement with banks.
I must go to Senator Higgins. I have kept her waiting, for which I apologise
Alice-Mary Higgins (Independent)
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I will follow up on a couple of points that were flagged earlier. One that I was a little concerned about was with regard to digital finance and cryptocurrencies. In his reply to one of the other members, Mr. Makhlouf spoke about the need to support innovation. Looking again at the mandate of the Central Bank, however, it does not have a mandate in innovation or supporting industry. The Central Bank has clear strategic responsibilities around the stability of the financial system, the protection of customers and the regulation of financial institutions. I am concerned about a narrative of having innovation in an area and then the Central Bank will see how it might need to be regulated further down the line. We know, for example, that after the last crash, lots of innovative financial products were developed, including bundled securities, subprime mortgages and so forth. Much of that innovation proved to be extraordinarily costly for the stability of the financial system and society. I am a little concerned by that. I have been concerned by the shift in tone over the last couple of years from the Central Bank in respect of this area.
I would be very concerned if it is seeking to encourage Ireland becoming a hub for this new digital finance or cryptocurrencies. The term "crypto assets" is problematic in itself because, in most cases, there are no assets. That motivation clouding the regulatory and security functions that are mandated in the legislation relating to the Central Bank is a concern.
I recently encountered an example of that in an article published inThe Irish Timeson fintech and the opportunities, as it was phrased, in that regard. It was being promoted and commercially boosted. The article in question referred to the Central Bank at length. Mr. Makhlouf mentioned that we are waiting for these EU regulations but the EU regulations have been negotiated and the final votes, which have not yet taken place, are due quite soon. The markets in crypto assets, MiCA, regulation is awaiting a vote of the European Parliament. What engagement has the Central Bank had in the development of the new EU regulations or the new proposed EU regulations? What positions has it been advocating in that regard? I make those remarks in the context of the commercially promoted article to which I referred, in which people working for business law firms in the fintech area discussed how the Central Bank has streamlined their applications recently and its new sophisticated streamlined processes. They are having meetings with the Central Bank to get it on board and understand the products.
I am concerned that on one level Mr. Makhlouf saying that this is a new area of innovation, that we are going to have to regulate it down the line and see what the EU does, that EU regulations are being actively negotiated and - prior to those new EU regulations, whether or not they are strong enough - that there is a streamlining process that seems to be taking place in the context of the Central Bank's engagement with stakeholders or commercial actors in this area. I ask Mr. Makhlouf to expand on this matter because I am extremely concerned about it.
Mr. Gabriel Makhlouf:
The first important point to make and bear in mind is that we are not lowering our standards. That is an important piece of background. To be clear, we are not supportive of crypto, particularly the unbacked crypto I explained earlier, and we are not looking to encourage it. It is not going to be regulated by any EU regulation. As I stated earlier, I am concerned about the implications for retail customers. I am less concerned about the implications for financial stability, but that does not mean we should ignore it. Regulators across the world are concerned about the whole crypto universe but unbacked crypto in particular. I am happy to repeat that I consider unbacked crypto to be, in essence, a Ponzi scheme. It is problematic and a gamble. People are free to gamble. I reiterate that some people will win when they gamble but most people will lose. The Central Bank is not in the business of promoting, supporting, authorising or encouraging unbacked crypto. I hope that is clear.
Second, the substance of the article to which the Senator referred, which I have read, is about our authorisation processes which have been in place for some time. In a nutshell, they are processes through which firms must go if they wish to operate in Ireland. We have looked at the way the process has run and we have made efficiency and effectiveness improvements to streamline the process. That does not mean we have reduced our standards. Our standards have not reduced; they have just become more transparent and, it is to be hoped, a little faster. This is not to promote or encourage crypto; it is basically to run an efficient operation that achieves its outcomes, which are to only authorise the firms that meet our requirements and not to spend a disproportionate amount of resource on that so that we can use those resources to do other things to protect consumers and ensure the financial system operates for the whole country.
The Central Bank does not have a mandate to promote innovation; it has a mandate to ensure monetary and financial stability and that the financial system works for consumers and the whole economy. The reality is the financial system is changing. It has changed, is changing and will change. What the Central Bank cannot do is ignore that change because, if we do, ultimately we will cause a problem for the country. We have to understand what is happening in those changes. We are doing that partly by making sure our people are skilled up to understand what is happening, particularly in technology. One of the best ways of understanding what is going on is to speak to the industry about what it is doing and what is happening. That is how we learn. It is one of the key ways of learning. The innovation hub that we have had in place for a number of years is a place where people with new ideas can engage. To be clear, fintechs are not crypto. We are talking about firms that are offering different sorts of services but not the crypto stuff or unbacked crypto. These products are being developed and firms want to provide them in Ireland. Some of them are Irish firms. To get that authorisation, they have to go through a process. Our innovation hub has acted as the gateway to help people to understand our rules. It is critical that people understand the standards we expect. We had a lot of complaints in the past that people did not understand our rules and, when they put in their authorisations, we either rejected them or spent a long time trying to understand them. The sort of improvement we have made, which the article appears to recognise, is that our teams that work in this area have found ways of improving their processes while ensuring that people understand our standards.
Finally, on the European legislation that is coming, new legislation is normally introduced by the European Commission. The Department of Finance is the lead agency that manages proposed legislation by the European Commission. We support the Department in its negotiations in those European forums. Other rules are made in the supervisory authorities, such as the European Banking Authority, the securities authority and so on, in which we are directly involved. I hope that is helpful.
Alice-Mary Higgins (Independent)
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Yes. I wish to follow up on a few matters. First, that did not really answer my question as to what the input has been in respect of that European regulatory development. I am aware that the Central Bank supports the Department. The mandate of the Central Bank is to contribute to the development of sound rules in respect of the European regulatory process.
Alice-Mary Higgins (Independent)
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Since the Central Bank is supporting the Department in that trilogue process, I am seeking to discover what Ireland has been bringing to the negotiations. I am very concerned there may be a bit of a divide and conquer in that we have heard a lot of talk about crypto not being appropriate for retail customers. The point is, however, that in the last crash, it was not retail customers who bought securities and bundled products; it was the financial system. It was in many cases professional investors who created and bought into new products, and it was retail customers, or citizens, who paid the price for that. The idea, therefore, that we will keep retail customers away from crypto but let it into the financial system is a concern I still have. There is not such a hard line between cryptocurrency and digital finance. For example, Revolut was mentioned earlier. I know that the witnesses will not comment on individual companies, but Revolut offers the option of purchasing cryptocurrency. We have heard that many people now bank with Revolut. Those who are involved are involved in something which has significant exposure to cryptocurrencies. As a result, there is quite a blurred line between digital finance and cryptocurrency. Those are concerns I have.
Yes, there is talk of innovation in the industry, but earlier the witnesses were asked specifically if there is a conversation in this area and we were told that it would happen at EU level, and now it turns out it is happening at Irish level but with industry. The conversation has to be social, societal and political. That is why I am interested in what positions Ireland - or, certainly, the Central Bank - is bringing to the discussions of these regulations.
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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We are due to conclude at 4.30 p.m.-----
Alice-Mary Higgins (Independent)
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I have two further questions-----
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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That is okay. I am just saying we have to conclude-----
Alice-Mary Higgins (Independent)
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-----and I have waited a considerable amount of time.
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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Excuse me, Senator.
Alice-Mary Higgins (Independent)
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I can ask my two questions and get the answers to all three if the Chair so wishes
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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We are due to finish-----
Alice-Mary Higgins (Independent)
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Certainly. My other questions-----
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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No. Excuse me.
Alice-Mary Higgins (Independent)
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-----relate to two other areas. Quite a short answer could be given to the first of them. We saw the Minister, Deputy Michael McGrath, speak recently about the fact, on which the witnesses themselves have commented, that monetary policy is now tightening in that money is more expensive. One of the things he said was that this is impacting on mortgage holders, businesses and the Government. Is it then the case that it will cost the Government more to access money now? I ask that in the following context. There was a time when we had access to, as was said, zero-interest or less-than-zero-interest loans at European level, for example. What do the witnesses think is the additional cost to the State of not having taken money at that point but, instead, having sought loans? What is the difference in cost between the State seeking to borrow now versus, for example, two years previously? Do the witnesses have figures on that or a sense of what that might be? I would like a verbal answer to that but I am happy to have a written piece on the position that has been taken on the crypto regulation as well.
I had one other very brief question but I have lost my note on it. I was also going to ask about the estimated progress on the senior executive accountability regime from the witnesses perspective. What do the witnesses believe the timeline for that coming through might be, and are preparations under way within financial institutions to ensure that this will be effectively implemented as soon as it does come into law?
Mr. Vasileios Madouros:
Yes, I am happy to do so. One of the points the Senator made, which is really important, is that, in the context of the crypto discussion, there is of course the risk to consumers the Governor mentioned and the potential links to the broader financial system. That is a key point that was made. As the Governor said, part of the reason why this is not as material from an overall financial stability perspective but could be is that some of these links to the broader financial system - certainly, the core of the financial system, which is the global banking system - are still very small. The Basel committee did some work to assess this at a global level and the exposures were very small. Also, some of the rules that are coming in are intended to ensure that, for example, banks have a lot of capital if they are exposed to some of this unbacked crypto in particular, so the regulation is coming in ahead of that to prevent some of the risks we saw before. However, the Senator's broader point about continuously understanding the potential links to the broader financial system is really important. Even if at the moment the risks to financial stability are not as material, if this continues growing and some of these linkages continue growing, it could become an issue, so we need to get ahead of it.
Briefly, on the issue of government borrowing, yes, in that sense, at global level, as central banks have increased interest rates there has been an increase in government bond yields across the world as it has become more expensive for governments to borrow relative to what would have been the case previously. The position here at this stage is relatively different from those of some other countries, as the Senator will know. Because of the very strong fiscal position of the Government and because corporation tax receipts are very strong, the borrowing needs are smaller in terms of maturities. I think they are relatively small this year, so Ireland's position is slightly different from those of some other European countries in terms of the need for issuance.
Alice-Mary Higgins (Independent)
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Sorry. I was saying that it is not the need in terms of a year-to-year need for borrowing but in terms of the opportunities - for example, the opportunities for borrowing for infrastructural expenditure or social housing and so forth. Has an opportunity to access money at a lower rate been missed? I presume that it was predictable that money would not stay available at such a low rate for ever. I am just concerned about what it has cost us not to borrow and invest when we had finance at a lower rate than now.
Mr. Gabriel Makhlouf:
We cannot answer that. That is a question, ultimately, for either the Department of Finance or the National Treasury Management Agency because it depends hugely on the funding strategy and so on. It is therefore not really a question we can answer beyond what Mr. Madouros has just said, which is that interest rates are going up for everybody.
I want to underline something Mr. Madouros said about the crypto stuff, which the Senator may not have heard me talk about earlier. To be very clear, this area is new. The risks, especially with unbacked crypto right now, arise primarily with retail customers. We are not ignoring the fact that financial stability risks could arise in the future. The point I made, and which Mr. Madouros has just repeated, is that, right now, those interconnections that created different problems in the past are pretty small. However, we are not allowing that to lead us into a sense of complacency. We want to get on the front foot to make sure the problem does not grow and then become a headache we cannot manage. That is a view shared by the global regulatory community.
The Basel Committee on Banking Supervision has proposed new rules for banks aimed at this precise area. The global community is also looking to be on the front foot of this issue. On the individual accountability framework, as soon as the legislation gets through the Oireachtas and is signed into law, we are ready to publish our draft guidance and start a consultation process. We hope it will be fairly quick in order that we can put everything into law but we need to allow time for people to digest what are doing. The institutions that will be impacted have known for a while that they are going to be impacted. Some have learned from similar regulations in the United Kingdom. This is not going to be a surprise to them. The guidance we are putting together amounts to over 100 pages, as I understand it. We are ready to proceed as soon as the Oireachtas and, ultimately, the President, sign this into law.
John McGuinness (Carlow-Kilkenny, Fianna Fail)
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It is 4.30 p.m. We are obliged to end the meeting. We will resume our deliberations on other matters next Wednesday. I thank the witnesses for appearing before the committee, and I thank my colleagues.