Martin Mansergh (Tipperary South, Fianna Fail)

I am pleased to present to the House the details of the Government's recapitalisation package for Allied Irish Banks and Bank of Ireland. The recapitalisation of our two largest banks is a central element in the Government's broader strategy for addressing the financial crisis, ensuring our two major financial institutions remain sound and stable and in position to fulfil their vital role in the economy. The Government has also progressed the other main elements of its approach to securing our financial system, including the package to address the concerns of ordinary customers of the banks, and I will later take the opportunity to outline to Senators the position on these other measures.

Without covering old ground, in introducing the recapitalisation package to be offered to AIB and Bank of Ireland, and the substantial State funds that this involves, it bears noting the unprecedented conditions that persist on international financial markets and in the international economy generally. Sources of funding for banks globally have been under significant pressure, while the expectations of international markets have increased on the levels of capital that should be held by banks to cover potential losses. At national level, the contraction in economic activity seen in the past year, and the related fall in property values, places pressure on the asset side of the banks' balance sheets. All these pressures, national and international, have come to the fore at a time when the need to maintain the flow of credit to the wider economy is, perhaps, more vital than ever to ensure funds are available for sound businesses and entrepreneurs to enable them to provide the employment and the output which will be the base of our economic recovery.

The Government's strategy to address these various financial and economic pressures in the banking sector has been comprehensive. It was in a context of fear and uncertainty which permeated international funding markets that the Government quickly moved last September to introduce the guarantee of Irish bank liabilities, which has provided certainty to depositors and investors alike regarding Irish banks and which was successful in securing the liquidity requirements of our banks. The Government's recapitalisation programme, announced in December, addresses both the expectations of international markets on Irish banks' capital levels and the needs of our major financial institutions in covering potential loan losses in the coming years.

Following the announcement of the recapitalisation programme, the Government initiated further intensive discussions with Allied Irish Banks and Bank of Ireland with a view to securing the position of our two largest banks. As a result of these discussions, the Government has decided on a comprehensive recapitalisation package for the two banks, which will reinforce the stability of our financial system, increase confidence in the banking system here and facilitate the banks involved in lending to the economy.

The Government will provide €3.5 billion in core tier 1 capital for each bank. The capital to be provided to each bank was determined following detailed engagement with the banks and with the benefit of survey information of the banks' loan books, which was conducted on behalf of the Government by PricewaterhouseCoopers. A careful assessment was made of the potential losses that the banks face on their loan books in the coming years, taking into account the impact of likely trends in property values and various stress scenarios for the economy. While the Government was criticised in some quarters for taking too long to proceed with a recapitalisation of our major financial institutions, the time taken to assess as accurately as possible the capital requirements of each bank is worthwhile in terms of the assurance that can be offered to markets on the levels of capital in the two largest banks, and the fundamental strength of their position in the coming years. The capital being provided by the State will boost the core tier 1 capital ratio of AIB to 8.5% and that of Bank of Ireland to 9%. These are high capital ratios by international standards and the banks will, therefore, be in a strong position to raise the funding they require on international markets and withstand loan losses arising.

In return for the substantial investment being made, the State will hold preference shares which have a fixed dividend of 8% of the total sum invested, payable in cash, or with ordinary shares in lieu in the case where the banks do not have profits to pay a dividend to its shareholders. The banks can redeem the preference shares to the State at par value within the first five years and at 125% of face value thereafter. Warrants for the purchase of shares also give the State an option to purchase in five years up to 25% of the ordinary share capital of each bank at predetermined strike prices, which are based on the current market share prices. These warrants provide the State with access to the future upside of the investment it is making in the banks as this will be reflected in future increases in the banks' share prices.

As part of the terms of the investment the Minister for Finance will have the right to appoint 25% of the directors in total to the board of each bank. The Minister will also hold 25% of the total ordinary voting rights in the two banks in respect of certain key functions, including decisions on change of control and board appointments. These terms provide for an adequate degree of State representation in the corporate structure of the two banks, given the substantial investment it is making. However, the Government has been clear that it does not intend to take control of these banks and the terms of the recapitalisation carefully provide for this. Following this recapitalisation, the State will not hold ordinary shares in either bank, other than existing NPRF holdings, while the option to exercise warrants in the future is capped at a defined level of shareholding.

In addition, the terms of the recapitalisation provide that each bank will have the possibility of redeeming up to €1.5 billion of the State's investment by raising privately sourced core tier 1 capital prior to 31 December 2009. In this case the warrants held will be reduced pro rata to that redemption to an amount representing not less than 15% of the ordinary shares of the bank. The Government has made clear on a number of occasions that it encourages the banks to access private sources of capital where possible, and the banks are therefore incentivised to do so under the terms of this recapitalisation. Equally, the terms of the deal convey a clear message internationally that the State will not inhibit private investors now or in the future in the Irish banking sector. Ireland, as a small, open economy, is by nature dependent on the investment it can attract internationally and the key task now for the two banks is, therefore, to raise funds to enhance their funding and capital position and expand the contribution they make to our economy. The terms of the recapitalisation provide a clear path for the two banks to remain privately run, privately owned institutions, not least because this is by far the most efficient way to organise the vital role played by the banks in the economy.

While the State is clear in not seeking to take control of the banks, the terms of the recapitalisation provide an appropriate return to the State for the investment it is making in the banks, in the context of current financial market conditions, while avoiding the mistake of placing overly stringent costs on the banks, which would impede them from lending. The capital investment also brings a clear return to our economy. Our two largest financial institutions are in a strong position, able to withstand losses arising on their loan books, and equipped to maintain the flow of credit to our economy. I will outline later the commitments the Government has secured from the two banks in terms of their lending to the real economy.

The recapitalisation programme will be funded from the National Pensions Reserve Fund. Some €4 billion will come from the fund's current resources while €3 billion will be provided by means of a frontloading of the Exchequer contributions for 2009 and 2010. The necessary amending legislation to the National Pensions Reserve Fund Act will be introduced shortly.

The recapitalisation package for the two banks has been recommended to the Minister by the Governor of the Central Bank, the Financial Regulator, the Minister's financial advisers and the National Treasury Management Agency. The Financial Regulator has confirmed that the preference shares qualify as core tier 1 capital, meaning that such funds are of maximum utility to the banks in terms of the buffer provided against loan losses.

The recapitalisation package is subject to the approval of the ordinary shareholders of each bank, at general meetings which will be convened without delay. The Government's proposals on recapitalisation have also been designed having regard to the European Commission recapitalisation communication and are subject to EU state aid approval.

The Government is continuing its discussions with the other covered institutions, Irish Life & Permanent, EBS and Irish Nationwide Building Society, concerning their respective positions. While capital is available where such is required, any possible requirement for these institutions would of course be substantially less than that for the two main banks. As Senators are aware, Anglo Irish Bank, now under full public ownership, will continue to trade as a going concern with appropriate Government support as necessary, following consultation with the EU authorities, to ensure its viability.

I turn to the other aspects of the Government's strategy for addressing the impact of the financial crisis in Ireland. The Government is committed to underpinning its recapitalisation proposals with further measures to strengthen and secure the Irish financial system. In that context and within the six-month review of the guarantee scheme to be completed by mid-April 2009, the Government will examine how the guarantee scheme could be revised in ways which include supporting longer-term bond issuance by the banks. This review will be subject to European Commission approval and consistent with EU state aid requirements. Such a review would be in line with international and EU trends where the average term of state cover for bond issues extends beyond 2010.

The Government is also conscious that in current market circumstances there is a need to bring greater certainty and transparency to the operations of systemically important financial institutions, in particular for specific asset classes currently perceived as carrying a higher than average risk. Irish institutions have engaged in lending for land and property development which exposes them to specific risk at a time of falling property prices and difficult economic conditions.

In line with developments internationally where the UK and US have made specific proposals, and current discussions at EU level, the Government will examine proposals for the management and reduction of risks within financial institutions with respect to specific land and property development exposures. Ongoing work at the level of the European Central Bank and in the EU will inform this process.

I have already outlined to Senators the conditions attached to the recapitalisation proposals to protect and ensure a return for taxpayers. I would like to highlight broadly further measures to which the banks have committed regarding credit supply and their interaction with customers.

The continued flow of credit is vital for our economy. To establish the exact position regarding the availability of credit, the recapitalised banks have agreed to fund and co-operate with an independent review of credit availability which will be managed jointly by the banks, Government and business representatives. The recapitalised banks have also agreed to work closely with IDA Ireland, Enterprise Ireland and State agencies to ensure the supply of appropriate finance to contractors engaged on major projects sponsored by them. They have also agreed to engage in a "clearing group" to identify specific patterns of events or cases where the flow of credit to viable projects appears to be blocked and to seek to identify credit supply solutions. The banks have also agreed to provide €15 million each to a new seed-capital fund.

Importantly, statutory codes of practice on business lending and mortgage arrears have been finalised and will be published by the Financial Regulator this week. The codes will be put in place to ensure all banks operating here deal in an honest way with customers and that consumers in particular are treated in a reputable and respectable fashion. The business lending code will require banks to offer annual review meetings to inform customers of the basis for decisions made and to have written procedures for the proper handling of complaints. Where a customer gets into difficulty the banks will seek to agree an approach to resolve problems and provide reasonable time and appropriate advice.

Under the mortgage arrears code where a borrower is in difficulty the lender will make every reasonable effort to agree an alternative repayment schedule and will not commence legal action for repossession until after six months from the time arrears first arise. The two recapitalised banks will not commence court proceedings for repossession of a principal private residence until after 12 months of arrears appearing, where the customer continues to co-operate reasonably and honestly with the bank. The recapitalised banks have also assured Government that in the normal course of events they will make every effort to avoid repossessions, as has been evidenced by the low level of repossessions by them to date.

It is important that I address the issue of remuneration in banks. The Government is of the view that significant reductions in the remuneration structures of banks are required. The banks benefiting from State capital, AIB and Bank of Ireland, accept that pay restraint is important in the overall context of the economy and the supports being provided by the taxpayer, and will act accordingly. As a step in this direction, they accept that the pay of senior executives will be curtailed. Total remuneration for all senior executives will be reduced by at least 33% and no performance bonuses will be paid to these senior executives and no salary increases will be made in respect of 2008 and 2009. The two banks have also accepted that, for non-executive directors, fees will be reduced by at least 25%.

In addition, the report of the covered institution remuneration oversight committee, CIROC, is expected shortly. As Senators will be aware, the role of CIROC is to consider the remuneration plans of each of the institutions covered by the Government guarantee. The Minister for Finance has indicated he will be writing to the chairman of CIROC, Mr. Eddie Sullivan, to ask him to examine whether an overall cap on executive remuneration can be introduced for the banking sector, in light of the significant State support that is being provided to the sector, and the pay restraint which is now a feature of other sectors, including the public sector. The banking sector will need to play its part, along with other sectors, in reducing our cost-base to ensure our competitiveness in the years ahead. The Government will therefore be bringing forward proposals regarding remuneration in the banking sector on receipt of the CIROC report.

The Government's recapitalisation package for AIB and Bank of Ireland and the associated measures I have outlined represent the taking on of a significant and indeed unforeseen role by the State in securing the banking sector. There have been important issues for the Government to address in taking on this role, at a time when we also need to ensure fiscal prudence, taking difficult decisions to ensure our competitiveness internationally. The proposals presented by Government crucially provide for an adequate return to the taxpayer who is making the investment, appropriate representation for the State in the banking sector and most importantly the future health and viability of our banking sector.

A priority for the Government has been to ensure that all intervention in the banking sector has the ultimate goal and effect of benefiting and securing the position of customers of the banks - account-holders, mortgage holders, businesses and entrepreneurs. The bank customer package will ensure the interests and concerns of consumers are to the fore.

In all, the Government's recapitalisation proposals for AIB and Bank of Ireland represent a comprehensive Government commitment by the State to maintaining the two main banks as strong, forward-looking, confident institutions, able to play their part as the primary financial services and credit providers in this country.