The most senior civil servant in the country during a period of Fianna Fáil-led governments has said the alternative to the bank guarantee was “certain disaster”.

Dermot McCarthy, former secretary general at the Department of the Taoiseach and secretary general to the government from 2000 to 2011, has been giving evidence before the banking inquiry on Wednesday evening.

Mr McCarthy said the advice given to the government when introducing the guarantee in September 2008 was that it “had one opportunity to make a decisive intervention to stabilise liquidity and secure the Irish banking system”.

“It would have no certainty of success, but the alternative was certain disaster,” Mr McCarthy said.

“A guarantee to support the liquidity position of the banks was considered as the option most likely to stabilise the situation.”

He said the Cabinet met on Sunday, September 28th, 2008, to discuss the budget to be delivered that December, and was due to hold a regular meeting the following Tuesday.

Mr McCarthy attended a meeting on “banking matters” on Monday, September 29th, with a number of other people such as then-taoiseach Brian Cowen and then-minister for finance Brian Lenihan.

‘Substantial outflows’

“The meeting was advised of the very substantial outflows from Irish financial institutions, the critical position of Anglo in particular, and that unless measures were taken before the financial markets opened on Tuesday morning, irreversible damage could be done to the economy through a banking collapse.

“The expectation that no government would allow a bank to fail, especially in the aftermath of the Lehman’s example, was reinforced by the potential consequences outlined to the meeting.

“It was made clear that no European or European Central Bank (ECB) initiative was in prospect which would address the immediate crisis faced by Ireland. The depth of the international crisis was reinforced by news that the US Congress had rejected bank rescue proposals.”

Representatives of AIB and Bank of Ireland suggested a two year guarantee, and the possibility of both institutions providing support to Anglo Irish Bank was also discussed.

“The taoiseach and the minister resolved that a guarantee of two years’ duration with a broad scope would be recommended to the government,” Mr McCarthy said.

“The option of nationalisation of Anglo was considered, but it was concluded that such action could have more negative than positive effects on market confidence.

“It was also understood that a decision to nationalise Anglo could be taken at a later date, should it be appropriate.”

Deteriorating economy

Mr McCarthy said that by the middle of 2010, international concerns had arisen about the financial position of the State, including the deteriorating economy and the cost of bank recapitalisations.

The government considered what measures to take, and the European Commission and European Central Bank (ECB) favoured a €15 billion adjustment by 2014.

On November 12th, 2010, Mr Cowen received a call from then European Commission president Jose Manuel Barroso, who said concerns had been expressed at the G20 about the risk Ireland posed to the international financial system, Mr McCarthy said.

The ECB also told Mr Lenihan the State should apply for financial support.

“Department of Finance officials travelled to Brussels for exploratory discussions on the parameters of a possible programme of assistance if the government were to decide to apply,” Mr McCarthy said.

‘Unacceptable terms’

“The tentative nature of these discussions reflected concern that the conditionality of any such programme could include unacceptable terms, such as changes to the Irish corporation tax regime.”

Then-ECB president Jean Claude Trichet told Mr Cowen and Mr Lenihan that emergency liquidity funding for the banks could only be continued if Ireland applied for a bailout.

Mr McCarthy said efforts were made to impose haircuts on unguaranteed bondholders by the Fianna Fáil-led government and the current Coalition.

Such efforts in 2010 were strongly resisted by the ECB “because of their concern about its potential impact on wider financial stability”.

Mr McCarthy added: “In March 2011 the agreement of the ECB was sought but declined for the announcement by the Government of a statement of intent to impose burden-sharing on unguaranteed senior bondholders in Irish banking institutions in wind down.”