Transcript of Governor Makhlouf's interview with Joe Brennan, Markets Correspondent, The Irish Times

Joe Brennan: You were in the chief executive and secretary of the New Zealand Treasury when the top job at the Central Bank of Ireland came up in early 2019. How were you approached and what piqued your interest in the position? 

Governor Makhlouf: I got approached by head-hunters. I'll give you a little bit of a backstory. At about Christmas time December 2018, I knew that my contract was coming to an end. My wife, Sandy, wanted to come back to Europe. She said, ‘If you can get a job that's within 12 hours of London, that’s fine’. It meant that up to Singapore and LA were within the range, but Australia and New Zealand weren’t. I said to her, ‘I'm going to finish my term. I'm going to take two months off and have a complete break, go to the Greek islands, and then I’ll start looking for something else to do’. That was the plan.

And then in February or March (2019) I got a phone call. What piqued my interest – aside from coming back to Europe – were two things in particular: the combination, which this job provides, of economic leadership and organisational leadership, which are things that I am personally interested in. It’s what I’d I spent a big chunk of my previous eight years doing, and this was about doing it in a similar, but different, territory.

Joe Brennan: As Governor of the Central Bank, you are also on the Governing Council of the European Central Bank. What’s it been like holding Council meetings by video conference and having people generally working remotely during the Covid-19 crisis?

Governor Makhlouf: At Governing Council meetings you get 25 members – or 19 governors and six executive board members – together and discuss things. They’re genuine discussions. They happen over coffee, they happen over dinner, and after dinner – before the meeting starts. So a whole chunk of that is not happening now.

It’s not where you want to be, but it's still worked very well. We've made some very, very big calls. I think all of that has worked remarkably well.

I don't particularly like remote working. But I have to say that people in the bank virtually everywhere responded to this virtual world incredibly well.

We had started in February, as a bank, paying attention to what was happening with Covid. That month our own internal crisis management systems we up and running. We had the top team here meeting regularly to get reports on what was going on. We'd started to encourage people, because we could see the direction where we were going, to make sure you take laptops home, etc etc.

On 12 March we were told that schools were closing and we made a decision then that everyone was going to work from home and didn't agonise about it. Up until Easter, I was really, really struck by how hard people were working and the adrenaline that was keeping everybody going. But you could see, as it went on, that it was hard on people.

Staring at a screen all day, which some people are doing, at some point is not good for you. We’ve suddenly found ourselves getting used to just sitting – in my case at my dining room table – and going from one [virtual] meeting to the next, which in the long term is not sustainability.

The fungibility – that’s a word I only used in discussing securities – between work and home has become a real problem right now. I mean, personally anyway, but I think for many people, being able to leave the house or the office and switch away are healthy things. If, and I hope this won’t happen, we're going to have to live in this world for sort of the next few years, we've got to work out how to have those breaks. Because we're going to become ill.  

Joe Brennan: When you took over as governor of the Central Bank, you said you wanted to initially spend your time stepping back and listening to people and meeting people. As we know, the Covid-19 crisis started six months’ later. Do you think that maybe you didn't have the full opportunity to listen and learn before the crisis struck?  

Governor Makhlouf: I learned a lot in the first six months that I was here. Someone asked me the other day, ‘How's your year as governor been?’ And I said, ‘What, during the year since I started, or the two years since March?’ But I think I've learned a lot in the run-up. But certainly there was a lot more for me to learn which got disrupted. 

Between March and May, everyone was into adrenaline-driven getting things done. But then we started to think about some of the things that I wanted to do. So, for example, in July I (virtually) went to four Chambers of Commerce around the country, even though I was actually sitting at the table behind you. We organised discussions, I think they were about an hour, a couple of hours, each with the Chambers in Cork, Limerick, Dublin and Galway. I wanted to spend time listening inside the bank but also to people around the country. Because one of the things that I think is very important for a central bank is that we understand how the economy works. And the economy is more than Dublin.  

Actually, my first trip was to the National Ploughing Championships (in Co Carlow in September 2019). It was just a great experience, wandering around and listening and talking to people. 

I then went to Waterford, where I gave a speech (in November). I had a day in Dundalk and I went down to Tralee in Kerry to talk to business people. We then planned to take the Central Bank Commission to Cork. We had all sorts of plans, which we had to postpone [because of Covid]. We're going to come back to them. 

For my holiday, we did a tour of the whole island in August. We went down to the bottom of Wicklow, across to west Cork, Killarney, Galway, Dingle, Connemara, Donegal and back. It was for relaxation and sightseeing, but you also got you quite a good feel for what was going on. Actually, one of my takeaways was how busy everything was.  

I think it's important for this institution that it gets out, that it understands what's happening to the real economy. There are two particular reasons. One is the obvious one: we've got to understand the real economy. But the other one is that part of our vision is to be trusted by the public. And to be trusted by the public, they need to understand us, they need to know who we are, they need to see us and make sense of us. And that means we’ve got to do more than just sit in this building and go out there and engage.

Joe Brennan: In July, the Central Bank’s baseline case was that the coronavirus crisis would lead to a 9 per cent decline in gross domestic product – while the severe scenario pointed to an almost 14 per cent drop in GDP. We’re seeing an increase in cases in Ireland and internationally at the moment. Do you think we are headed towards full-scale lockdowns again?

Governor Makhlouf: The very big unknowns here are the paths of the virus and a vaccine. 

I tend to be someone who thinks that, even if we assume that a vaccine is discovered, not everything will be fixed. Look at the flu vaccine, every year that needs to be changed and updated. So, maybe a vaccine will solve everything at a stroke, but maybe not.

I do hope that the authorities will not feel that we need to go to a full second lockdown. I do think that the consequences of a full second lockdown would be very serious for the economy, but more than just the economy. One thing I'm particularly worried about at the moment is just the mental wellbeing of people – of my own staff and the wider community.

So I'd like to think that a second lockdown can be avoided and that we find ways to manage and contain the virus. Some of it will be about making sure the health system has got the capacity to manage multiple cases. I think people are learning how to deal with it. You're still seeing behaviour around the place – though to the fair, you see more of it overseas than in Ireland – that is astonishing, especially in the United States.

So hopefully the authorities will be able to manage this in a way that the economy functions. I mean, I would be very concerned if the conclusion was that we need to lock down.

As you know, I wrote to the Minister [for Finance Paschal Donohoe in relation to the Central Bank’s quarterly bulletin] in July and I also put it in my Budget Letter [this week] that we need to avoid scarring effects, which is a big concern across Europe. So, if we have a second lockdown, you just worry that the risk of that is really accentuated. Let’s hope we can avoid that.

This virus is not going to be over in the next week, or the next month, or probably not by Christmas. So, my view is that we have been learning to live with it and we have to learn to live with it even more. And that also means we've got to make sure that the economy functions in a new environment.

Back in March when everything went into lockdown, the big concern then was that the health system would get overwhelmed. What I'm observing right now, is that while there is an increase in cases, I'm not hearing at the health system is becoming overwhelmed.

Clearly, the increase in cases is of concern and needs to be managed. But somehow we have to find this medium whereby we're managing the virus, living with the virus, but also allowing the economy to function. And part of allowing economy to function is allowing international travel to work well enough.

Joe Brennan: In the middle of March, ECB president Christine Lagarde called on EU governments to come up with an ambitious and coordinated response to the economic shock being posed by Covid-19. And in typical European fashion, it took EU leaders a while to get there – four months. Do you think the scale of the €750 billion EU virus recovery package is enough?

Governor Makhlouf: My honest answer to you today is that it’s too early to say. You're right, Christine did say that early on. I think [around that time] that I said we needed an “ambitious and urgent” step.   

It took a little while to get there. So it’s frustrating that it took that amount of time. On the other hand, one should celebrate the fact that they did get to an agreement. It is sizable. It has some new components in it, which are different and potentially far reaching in terms of giving the European Commission the power to borrow by itself.

As always in these things, there's a big number. But what matters is what you do with it. That's why I'm saying it's too early to say.

Europe and Ireland need to be using the funds to invest in the productive capacity of the economy. There's a whole debate out there about debt sustainability, which is important. But I think what we in Europe should be thinking about is how we grow ourselves out of this.

I hope we have learned some of the policy lessons from the financial crisis of how to manage debt. Certainly, I think we're in a better situation now than we were in 2009. My view is that we need to be investing in the productive capacity of the economy, both to deal the immediate challenges but also to build what I like to describe as economic resilience for the future, for the long term.

So, the number is big enough, as long as it’s used wisely.

Joe Brennan: You mention the productive capacity of the economy. We’ve seen the Government come out with grant supports and the Credit Guarantee Scheme for SMEs as a result of the crisis. How difficult is it going to be for the banks to decide which companies have a viable future from those that don’t really have a long-term future?

Governor Makhlouf: I think it will be difficult. On the other hand, I think that banks, because it is their business, will certainly be better placed than many others to make that assessment. Because they should, in principle, understand their clients, their customers. They should understand the nature of their business, and they should be in a better position to make a judgment on the viability of the business.

On the other hand, one of the big conundrums that everybody is facing, including the lenders and businesses, is how long this current paradigm is going to continue for.

That’s the crucial thing for a number of these businesses. The more certainty that businesses can be given by the health authorities in terms of how things are going to be managed, the more clarity they're going to have as to what they can do and can't do. It also helps lenders make those judgments. But it is definitely hard.

If, say, you're in the international travel business, it must be particularly hard right now to be able to work out what it is that you're going to be able to do over the next year.

Your starting point will be quite an important factor in any lender’s decision about whether you’re viable or not. There’ll be some businesses who've been run badly – that, irrespective of the pandemic, are probably on their way out. 

There are other businesses that have been run extremely well, and what's impacting them is simply the pandemic. And then it's just a question of making the best possible calculation as to how long this will carry on for. 

And then there's a bunch of businesses – like, for example, those that rely on commuter traffic – that may have to reimagine themselves if companies actually go in for remote working in a big way. And some of them may not be viable. 

Part of what we’re seeing, but in a very dramatic way, is the ebb and flow of economic activity that leads some businesses to thrive but others have to reinvent themselves. But it’s being done in a very concentrated and a very focused way. But I think the [fiscal] actions that the Government has taken since the start have been absolutely warranted and necessary. Providing support to businesses through the early stages of the shock has been absolutely fundamental. 

We are facing unprecedented uncertainty. You’ve seen that the Central Bank has put [economic] scenarios out there as opposed to a central forecast. And businesses are in the same boat. My own view at the moment, an inexpert view, is we're going to live with this for quite some time. 

Joe Brennan: Are you talking years?

Governor Makhlouf: No, no, no. When it started in March and we said we were going to lock down, I think a lot of people thought, ‘Well, this is going to be short term’. Well, we’re at September 14^th. 

Realistically, 2021 is going to look a bit like where we are now. What I hope is that we're going to have learnt a lot more about the way to manage the virus. Whether it's wearing masks more often, whether it’s cleaning hands more often, or whether it's six people being allowed to come to your house – or developing the testing and tracking system, whether it's at airports, so you can travel but you quarantine a different way or be tested more often. Whatever it is, we're going to be living with this in some way. 

I think the return to school was an incredibly important moment. Because it it’s one of those critical landing points for normality for a lot of families. 

Joe Brennan: Do you think one of the long-term effects of Covid-19 is that it will spell the death of the office? 

Governor Makhlouf: I don't – probably because a little bit of me hates the idea that we'll see the end of the office. But I think, realistically, the nature of the work that this place does – and I think a lot of other places, too – requires people to come together.

Now, it might not require them to come together every day, for eight hours a day. But it does require them to come together. And at the moment the office is the place that provides that environment. And we haven't invented the technology that can replicate that properly.  

If you think of a spectrum where at one end everyone is in an office and on the other end, no one is ever in an office. The idea that we're going to be in that latter one, where we're never in an office, where we're all working from our own bubbles, is highly unlikely. 

Now, there may be businesses that can do a lot more of that, or professionals that can do a lot of that. Remember, it’s not so long ago that there was a bit of a revolution with call centres being created and set up in India. Ok, there are some functions that could happen in a particular place, but they needed to all be together for a variety of reasons, to be managed. 

So I think you'll find different functions will adapt in different ways. But to say that we've now arrived at the end of the office, I think is very premature. At the Central Bank, I think we're going to find that we're going to do more home-working or remote-working than we did in the past, but we're also going to bring people in.

Joe Brennan: It if continues with most people working from home for the foreseeable future, will productivity fall? 

Governor Makhlouf: I think in the period between March and the end of April, we were probably more productive. But that's because we were all working at 150 per cent. Adrenaline was driving everybody, not just in the central bank, but everywhere. So, we were probably more productive. 

But there's no way anyone could sustain that pace forever. So, if we recalibrate to a more normal [situation], will we be more productive? I don't know. I think it depends on the tasks, to be absolutely honest with you. And measuring productivity is always a bit of a challenge. 

The growth of digitalisation has not materialised into a growth in productivity. It's opaque. Now, I think it's all about measurement, to be honest with you, but so will we be more productive? I don't know.

If I'm writing a piece of research and I’ve got to think, I'm probably more productive if I lock myself away and just concentrate on that. And we've got people who whose life is economic research here. And I suspect they could be quite productive just working from home, because they’re not getting interrupted. 

On the other hand, there are other tasks where to develop an idea and a policy, it does require you to be actually chatting to people – and not over Zoom, because you're interacting with more than one person at the same time. You're picking up signals from people who don't speak. And I think we're more productive then actually all being together. 

Joe Brennan: Back to the banks, we're coming to the end of the second phase of Covid-19 loan payment breaks for households and businesses. There are many that will not be able to return to regular loan payments. Do you think that there should be a further payment breaks extension for certain groups that are particularly badly affected? Or do you think that banks need to knuckle down and offer more long-term restructuring solutions to these customers? 

Governor Makhlouf: What the EBA (European Banking Authority) have done is just set a framework to enable payment breaks to happen without having all sorts of other consequences. 

After the first lot of payment breaks, people started to go back to paying, going back to where they were. 

Lenders still have the discretion to extend payment breaks under their normal toolkit [for problem loans], but I think we're now probably getting to the point where it's starting to become more than a payment break – that, actually, you probably need to restructure and that's what your focus should be. Certainly, we want to avoid repeating the problems of the past.  

We're still dealing with the legacy of the financial crisis. It’s inevitable that there will be more people with distressed debt coming out of this most recent crisis. But we do want to get people to talk to their lenders early and address the problems that they may have with their borrowings and not put their heads in the sand and hope it's all going to go away.

I think there's a lot more awareness of that among everybody. We've been bringing a whole bunch of groups together – including lenders and civil society groups – just to talk about the issue of distressed debt. And I think everyone's on the same page that we want to avoid exacerbating some of the problems that we’ve already got. 

Joe Brennan: When you talk about the mistakes of the past, are you talking about borrowers putting their heads in the sand or lenders pretending and extending? Or a combination of both? 

Governor Makhlouf: A combination of both. It’s amazing, actually, but there are still people – albeit, in the grand scheme of things, their numbers are very small – who have not engaged with their lender from the previous crisis. That’s not the way to deal with your debt problem. The way to deal with your debt problem is to talk to your lender early.  

Joe Brennan: Do you think the currently system for dealing with mortgage arrears in Ireland enables some people not to engage but continue hold onto their home? 

Governor Makhlouf: It probably does need everybody to look again at where we are. Or what I mean is, the bankers, the regulator, the many civil society groups, and the Government. All stakeholders in this project need to look again at where we are. What are the rules? And do we think they're still fit for purpose? I wouldn't like to jump to the conclusion that they've gone too far in one way or the other.”

Joe Brennan: Do you have an instinctive view? 

Governor Makhlouf: Not about the rules. But my instinctive view is about the fact that there is a still a sizable legacy of debt. And, actually, I don't think that's good for anybody that it continues in the way…It needs to be resolved some way. 

It's not good for the borrower. It's not good for the lender. It's not good for the health of the financial system. So, whether that's the rules, whether that's the way the rules worked, I just think that the community as a whole probably needs to reflect again on where we are and, in the light of everything, just decide on the way forward. 

Joe Brennan: Maybe if I were to put it another way, do you think it's acceptable at this stage, so long after the last crisis, that there are certain groups of people who haven't been prepared to engage with their lender?

Governor Makhlouf: Acceptable is a strong word to use. Because either the rules are allowing them to do that, in which case, I wouldn’t like to say it's unacceptable. On the other hand, I do think that it is not in anybody's interests – that it's certainly not in the country's interest, ultimately – that the legacy of debt like this is left to continue for such a long time. It’s not good for the borrower. It's not good for the lender. It's not good for the reputation of the financial system. 

But, you know, if there was an easy answer, it would have been dealt with. So, I don't pretend that it's easy at all. But I do think that it needs to be addressed. 

Joe Brennan: Banks are still struggling with the legacy of the past, but also the Central Bank has been scarred by the past. How did you find the Central Bank when you arrived here first? 

Governor Makhlouf: I think my two predecessors’ – both Patrick [Honohan] and Philip [Lane]’s – main focus was to respond to the legacy of the past. My reflection is they’d done a pretty good job of that. Yeah, there are all sorts of issues that you’d have said, ‘I wish we’d done that sooner or I wish we’d done that a bit differently’. But, actually, the Central Bank that I inherited when I started had got a good reputation around Europe. 

I think they'd done a very good job to address a lot of those issues. The challenge for us now – and, to be fair, it started in Philip’s time – is moving the institution to be thinking about the challenges of the future, which, of course, notwithstanding the pandemic, are still with us. The challenges of an economy that's growing and changing, the challenges of what digital means to central banking – never mind the real economy. 

If there's a difference between Patrick’s and Philip’s time and what I see as my time is that I want us to be on the front foot of issues, whereas they were forced by events to be dealing with the legacy of what happened in the financial crisis.

I want us to be either anticipating what's happening in good time or shaping what's going to happen in good time.

Joe Brennan: One of the areas you highlighted from the outset has been “shadow banking” or non-bank finance. 

Governor Makhlouf: I’m a central banker and also an economist, and I'd like to see evidence. But when I first started to think about the issues here, and when I first saw the evidence that the team put in front of me, my gut told me, ‘Actually, there's an issue here that you just need to focus on and concentrate on – and make sure you understand’. 

I think, if you remember, back in December last year when we published the Financial Stability Report and we had a press briefing I talked about doing a deep dive on property funds. One of the points I kept making is that I just want to understand it better. 

Well, my understanding, which I don't claim has now been completed, has led me to conclude – and I gave a [virtual] speech in Bruegel in June on this – that we actually do need a macro-prudential framework for shadow banks. 

So, that is an example of me saying – and, to be fair, there are others in the bank saying it too – that this is an enormous sector, it's much bigger here relative to GDP or GNI*, or whatever you want to measure it against, than anywhere else. Why? And what does that mean for us? Now, you know, the answer could be that it's all fine. Or you need to make some changes to manage it and regulate it better. 

But it’s an example of me saying, ‘I want to be on the front foot of this. I don't want to find that something goes wrong – and something may go wrong – and we're not ready for it. 

I think we're moving from a period of trying to fix the issues of the past to anticipating. 

Joe Brennan: A large reason why shadow banking has become so large is that banking and capital rules brought in after the financial crisis has driven a lot of activity out of mainstream banks. Obviously, areas that are covered under the banner of shadow banking, such as investment funds and money market funds, are highly regulated, but special purpose vehicles, or SPVs, which are a big activity here, are not. Has anyone seriously looked at how this area could be regulated? 

Governor Makhouf: It’s an issue that’s being thought about and we’re involved in work at the FSB (Financial Stability Board) and have actually led some work at the ESRB (European Systemic Risk Board) on this. It’s a big issue and a complicated agenda. But, unfortunately, the reality is that we can't do this on our own. Because I'll tell you, we would have done it. 

Certainly, since I arrived, we would have done this. But you do need to do this internationally. It's a cross border thing. 

But my sense is that the mood amongst my colleagues is that something needs to be done.

Joe Brennan: At European level? 

Governor Makhlouf: And beyond. I think something needs to be done. I don't think we've reached the point where people are saying the answer is X. That’s the mood. I haven't been involved with my peers in a discussion where anyone said, ‘Oh, you know, of course we don't need to worry about that’.

Joe Brennan: Just to be clear, are we talking about the whole area of SPVs, or something beyond that? 

Governor Makhlouf: No, no, it's more than that. It's the interaction of everything. That's partly why it's so much more complicated. I mean, particular vehicles have got particular issues. But for me it's really making sure we understand the interconnections between these things.  

One of the interesting issues, or questions that I raised, was whether the big asset managers had too much influence in the way the markets worked around the world. So I was actually coming at it from a competition issue. 

The automatic reaction to that sort of proposition is, ‘Of course, there's lots of competition going on out there. It’s the market working’. But, actually, we've got some very, very big players. There are some very big players out there and you just wonder – it’s a question – whether they're influencing the market and the debate and the understanding all this in such a way that there’s a different sort of concentration risk going on. 

It is complicated. It's more than just SPVs – and I know SPVs are very interesting issue and are particularly relevant here. But so much of our non-bank sector is actually externally facing. It's not really impacting on the domestic economy. But I think this topic will run and run for a while. 

I think we're moving to a world where – partly because of what you said about one the consequences of all the post-2008 regulation is that non-banks have become bigger –regulators throughout the world are saying, ‘Well hang on a minute. You know, we've probably spent enough time focusing on banks. This thing has now grown and we've got to spend time focusing on that’.  So that is happening. 

I anticipate we will have a macro-prudential framework for non-banks. I don't know what it will look like, exactly. I just think there'll be a lot more light will be shone on all this and regulators and policymakers everywhere will then take action.

Joe Brennan: Will this happen at G20 level? 

Governor Makhouf: I think the G20 and, as a result the FSB, have got a particular focus and all this. So, I think a lot of it will be driven out of there. 

I want Ireland to be at the heart of that, too. The Vice President of the ECB [Luis de Guindos] has made a number of speeches on a similar on a similar vein, so some of us in Europe who aren’t part of the FSB absolutely want to be part of this. 

Joe Brennan: I know we’re up against it timewise. A few very short questions. On the tracker mortgage scandal, do you think we’ll see further bank fines this year? And, if there are, will the fact that the industry is now facing losses as a result of Covid-19 mean that likely fines will be lower than the Central Bank might ordinarily have levied? 

Governor Makhlouf: No to the latter question, and yes to the former question. 

Joe Brennan: How many fines do you think will be announced this year? 

Governor Makhlouf: I can’t say. 

Joe Brennan: Finally, what lessons have you learned from your experience just before you left New Zealand when you claimed that there were leaks of budget information (that was ultimately found to have been on the New Zealand Treasury’s website)? 

Governor Makhlouf: Well, I think there was a particular incident and the way I managed it, or the way I got involved in it, I could have done differently. That's the main thing. What was good was that there was an investigation and I was essentially cleared, but I could have done things better. I went to the media too quickly at the time.