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Nama and Creative Accounting

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This entry might appear technical but it involves tens of billions and gets to the heart of Nama's role and activities.

As explained in its second business plan (June 2010), Nama has adapted an accounting method (Amortised Cost - Effective Interest Rate) which is based on expected cash flows rather than contracted cash flows. This has facilitated the "disappearance" of some rolled up interest and enables it to massively write down the value of loans acquired from the covered institutions from the very outset.

Use of this method is misleading and diverges very significantly from that signalled in Nama's original business plan (October 2009) in the following respects:

  1. It excludes rolled-up interest accruing after it acquires loans from the covered institutions. This could amount to €10.9 billion over the eleven years commencing 2010.

    As evidence of this, Nama's original business plan provided for interest income of €9.46 billion in the budget projections (Table 7 on page 12) for the three years commencing 2010 as compared with cash interest income of only €4.5 billion for the same period (Table 6 on page 10). The difference of €4.96 billion is rolled up interest which disappears, thanks to the accounting methodology.

  2. The original business plan indicated in a bullet point accompanying the 11-year cash flow projections that "of the €77 billion nominal value of loans acquired, €62 billion will be repaid by borrowers and that loan defaults or debt restructuring will occur on €15 billion (a rate of 20%)". This implied that Nama would be accounting for these transactions via Profit and Loss accounts. Clearly, this is not happening.

Nama's use of creative accounting effectively buries about €50 billion of losses comprising €40 billion of loan write offs and €10 billion of uncollected rolled up interest. This has two significant implications as follows:

  1. It becomes much easier for Nama to report an illusionary "profit" when wound up. It also made it possible for the Irish authorities to claim that Nama was the best solution to Ireland's banking crisis.

  2. With the stroke of the pen, Nama is effectively forgiving about €50 billion of debts. Where is the "moral hazard" and justice in this when, based on Nama's creative accounting, every billion euro of discount on the loans being acquired is immediately written off to the benefit of borrowers?

    Repeated suggestions by the Minister for Finance and Nama that it will pursue debts to the "greatest possible extent" must be taken with a pinch of salt as they don't even appear in Nama's balance sheet or form part of Nama's core objective.

Against this background, I wrote to Joaquín Almunia, EU Competition Commissioner, on 17th September last. Here is a copy of my letter which explains my issues and concerns in more detail. It also contains proposals to make Nama more transparent and accountable. I will post the Commission's reply if it comprises more than an acknowledgement.

This was my second letter to the Commission - the first one (17th December 2009) which deals mainly with rolled-up interest can be seen here. The Commission's reply was just a lengthy acknowledgement. 

I also wrote an  open letter to Nama's board on this matter. This was done prior to the change in Nama's accounting method which confirms (to me) that Nama is consciously forgiving tens of billions of borrowers' debt by failing to comprehensively account for it in its accounts. The Minister for Finance replied to a copy of the letter and assumed that Nama would also do so - it didn't. I suppose Nama's replied indirectly by changing its accounting method to bury its bale outs!!!

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This page contains a single entry by Brian published on November 2, 2010 5:07 PM.

Moral Hazard with Justice was the previous entry in this blog.

Say Cheese is the next entry in this blog.

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