Martin Mansergh (Tipperary South, Fianna Fail)

I welcome the opportunity to address Seanad Éireann on the two preliminary banking reports laid before the Oireachtas last week. They were prepared by Mr. Klaus Regling and Mr. Max Watson and by the Governor of the Central Bank and Financial Services Authority of Ireland, Professor Patrick Honohan, respectively, submitted to the Minister for Finance at the end of May and considered by the Government prior to being laid before the Oireachtas and published last week. I thank the three gentlemen for what are excellent and in depth reports. Fears were expressed before the work was done that they would not be substantial reports and that they would not get to the heart of the matter. These fears have proved to be completely unfounded.

I will set out the background to the reports, outline their main conclusions and set out the proposed next steps for further consideration of the issues raised and the recommendations contained therein. The Seanad will recall that last January the Government set out a comprehensive framework to the Oireachtas for an investigation into the banking sector. This investigation consists of two distinct stages. The preliminary reports published last week form the first stage of the investigation. The second is to consist of a statutory commission of investigation. The Government proposes to seek the approval of the Oireachtas shortly to establish the commission following consideration by the Oireachtas of the preliminary reports and the proposed terms of reference for the commission. The Seanad's consideration of the reports starts this afternoon.

As the Minister for Finance set out in the Dáil last January, this two-stage approach to the investigation proposed by the Government reflects and recognises the strong desire among Members of the Houses and the wider public for a comprehensive understanding of the events that took place in the banking sector in this country in recent times. We have a duty as a Government and as Members of the Oireachtas to ensure not only that the origins of the crisis are understood, but that lessons are learned and that international and domestic confidence in our banking system is restored and the economy can return to growth and employment.

The report of the Governor of the Central Bank deals with the period from the establishment of the Financial Regulator in 2003 to the end of September 2008 when the provision of exceptional Government support, in the form of the extensive State guarantee for the liabilities of the Irish domestic banking system, was announced. It deals with two distinct aspects: crisis prevention in the years before 2008 and crisis containment starting with the onset of the global liquidity crisis in August 2007.

The report's key conclusions as regards the Financial Regulator are that the root causes of the difficulties in the banking sector appear to have been twofold: a regulatory approach which was and which was perceived to be excessively deferential and accommodating, insufficiently challenging and not persistent enough — this meant not moving decisively enough against banks with governance issues and that corrective regulatory intervention for the system as a whole was delayed and timid — and an under-resourced approach to bank supervision that, by relying on good governance and risk management procedures, neglected quantitative assessment and the need to ensure sufficient capital to absorb the growing property-related risks. As far as the Central Bank is concerned, the Governor's report highlights an unwillingness on the part of the Central Bank to take on board sufficiently the real risk of a looming problem and act with sufficient decision and force to head it off in time.

In addition to the role of the Central Bank and Financial Services Authority of Ireland, the Governor's report concludes that banking practice and macro-economic and fiscal policy both clearly played a central role in contributing to the crisis. In regard to banking practices, the report concludes that there is prima facie evidence of a comprehensive failure of bank management and direction to maintain safe and sound banking practices, instead incurring huge external liabilities in order to support a credit fuelled property market and construction boom. In regard to macro-economic and budgetary policies, the Governor's report takes the view that such policies contributed to the economic overheating, relying to a clearly unsustainable extent on the construction sector and other transient sources for Government revenue. The report goes on to state a less accommodating and pro-cyclical policy approach would have acted to greatly reduce the need for preventive action by the Central Bank and the Financial Regulator.

The report of Klaus Regling and Max Watson looks at the recent crisis in Ireland's banking system as a whole to inform the future management and regulation of the sector. This preliminary view seeks to clarify how different factors — external and domestic, macro-economic and structural — interacted to cause the banking crisis in Ireland. The report is characterised by its authors as a diagnostic rather than a forensic study, the overall approach of which is to highlight factors relevant to the difficulties that arose in the banking system without prejudice to institutions or individuals and to recommend where further investigation seems desirable to achieve greater clarity and ensure incentives are corrected for the future.

The key conclusions of the Regling-Watson report can be summarised as follows. While Ireland's banking crisis has been influenced by global events, it is clear that in various ways bank practices and governance failings, taken together with Government policies and weak financial supervision, seriously exacerbated Ireland's credit and property boom, leaving the economy vulnerable to a deep crisis and depleted its fiscal and banking buffers when the crisis struck. Ireland's difficulties arose from a property bubble, compounded by exceptional concentrations of lending for property, commercial property specifically, and within that sector to a limited number of key developers. Indicators such as credit growth, asset concentration, loan to value ratios and funding exposure should all have pointed to risks. The report states lending trends in the Irish banking sector, especially from 2003 onwards, feature a pace of expansion and a rise in asset and funding risks that should have rung alarm bells and that these trends were similar to trends in economies that had earlier experienced a financial crisis. Bank supervision in Ireland was weak and the response of supervisors to the build-up of risks was not sufficiently hands-on or pre-emptive and was, in some cases, too mild to make a major impact on these risks. Problems within individual banks often reflected several elements, including a failing of checks and balances, which involved a number of actors within and outside the institutions. Bank management, including risk management, and governance were weak; credit risk controls failed and internal procedures were overridden.

It is important to keep in mind that these are preliminary scoping reports intended to point the way to more detailed examination of specific issues by a statutory commission of investigation. It is also important to state Mr. Regling and Mr. Watson and Professor Honohan have all stated that where problems arose, they reflected the actions of several elements, each of which interacted in mutually reinforcing ways. In that context, both reports identify a number of areas which might be investigated further by a commission of investigation. However, there is a caveat, that is, that Mr. Regling and Mr. Watson are careful to distinguish in their report between those issues that are amenable to further investigation through a legally orientated process such as a commission of investigation and other issues which are less concrete and verifiable and may be more appropriately the subject of a policy review. The Government accepts this distinction. In its statement last Wednesday, 9 June, it set out how it proposed to take forward further consideration of these two strands.

In regard to those areas for further investigation by a commission of investigation, the report of Mr. Regling and Mr. Watson sets out a comprehensive set of issues, broadly covering specific breaches of corporate governance and failures in risk management which the report authors consider are amenable to a promptly executed, legally orientated process through a commission of investigation. The Government has, therefore, prepared and published draft terms of reference which seek to encapsulate these issues. I will not quote the draft terms of reference in full, as Senators will have had sight of them, but it would be useful to summarise their broad parameters. They include: within each of the institutions guaranteed by the Government, the main causes of the serious failures to implement and adhere to appropriate standards and controls and to ensure prudent risk management policy and procedures; with regard to Anglo Irish Bank and Irish Nationwide Building Society specifically, the main causes for the adoption by their boards and implementation by their senior managements of business models and strategies which resulted in these institutions experiencing severe financial distress; whether the external auditors of each of the covered institutions had commented in their audit reports on the standards and controls and risk management policy and procedures or the business models and strategies and business and lending practices of the covered institutions; and the main causes of the failures of the Central Bank and the Financial Regulator in respect of the regulation and supervision of the covered institutions and the maintenance of financial stability, in particular in regard to the supervision and oversight of corporate governance and risk management policies and practices in all of the covered institutions and the relevance in this regard of any advice or directions given by the Department of Finance to the CBFSAI regarding its supervisory role. It is proposed that the commission investigate theses issues as they arose between 1 January 2003 to 28 September 2008 and prepare its report within six months of the date of its establishment.

The terms of reference published by the Government are in draft form only. The Oireachtas, in line with the framework set out by the Minister for Finance last January, will have a central role in shaping the terms of reference. The main elements are as follows: the Government has invited the Oireachtas Joint Committee on Finance and the Public Service to provide its views on the draft terms of reference having regard to the two preliminary reports. I understand the committee has had two separate and lengthy engagements with the authors of the reports. Messrs Regling and Watson appeared before it last Friday, followed by Governor Honohan this morning. I watched Senator Ross as he questioned the Governor earlier. When the joint committee has provided its views on the terms of reference, it is proposed that the final terms of reference be put to a vote in both Houses of the Oireachtas in the form of a draft Government order. It is envisaged that this vote will take by the end of June. Once approved by both Houses, the order establishing the commission is to be signed by the Taoiseach.

In addition to the areas to be dealt with by a commission of investigation, the Regling-Watson report also highlights a broad range of other issues which it believes should trigger important learning at the level of policy formulation and execution and which may carry broader political and social lessons. They stress that these issues are, in general, less concrete and verifiable and appear less amenable to a legally oriented process of investigation. The areas in which lessons for policymaking need to be learned for the future include macro-economic management and fiscal policy; the need to mitigate through fiscal and prudential policies any mismatch between monetary conditions and the national business cycle; the appropriate management and surveillance of imbalances and risks that can build up in both the private and the public sectors of national economies in the eurozone, including "external" imbalances vis-á-vis other euro area members, and the way these imbalances are funded; the design of fiscal policies so as to build in sufficient allowances for temporary revenues to avoid erosion of the tax base and, in this context, the case for independent institutional sources for economic and fiscal projections and national fiscal rules in due course.

The Government fully endorses the conclusions of the preliminary reports prepared by the Governor of the Central Bank and Messrs Regling and Watson. The reports provide comprehensive and authoritative examinations of the crisis in the banking sector in Ireland. They provide a solid basis for further Investigation of specified issues which will enable us to understand the origins of the crisis and help us to learn lessons which will inform our future management of the banking sector. I commend both reports to the House and very much look forward to hearing the views of Members.