The Irish Economy

I’ve noted on a number of occasions that both Brian Lenihan and Brian Cowen are very fond of misleading analogies in which any proposals to nationalise the two main Irish banks are linked to events in Iceland. For example, I noted recently that in an interview with Business and Finance, Minister Lenihan linked Iceland’s banking system collapse to a decision to nationalise. Some of the Minister’s bigger fans on this site argued that he was merely citing the sequence of events rather than indicating any actual causation.

Well, on this evening’s edition of The Last Word on Today FM, Minister Lenihan was at it again (podcast here – the interview is during the first hour of the show). In addition, as is usually the case when Lenihan and Cowen discuss this issue, the principle point of the discussion appeared to be to link the Labour Party’s position on the banking crisis to that of the Icelandic government. About 53 minutes in, the Minister said:

We didn’t go off, again like Iceland, and nationalise the system overnight because that lead to a banking collapse in Iceland. That’s what some of the Labour Party people wanted us to do in the last year.

(Cue philosophical debates in the comments about the meaning of the word “because” or perhaps “lead”).

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As promised below, there is a story in today’s Irish Times that: “THE INTERNATIONAL Monetary Fund (IMF) told Minister for Finance Brian Lenihan last April that the National Asset Management Agency (Nama) would not lead to a significant increase in lending by the banks.” I dare say that this (NAMA not resulting in increased lending) does not come as a huge surprise to anyone??

Today’s Irish Times reports that the IMF had warned that NAMA would not significantly increase lending (separate thread). Increased lending is something businesses are looking for, but with public budgets being squeezed one area of investment that will also need to attract significant non-public funds is infrastructure.

A story by Louise McBride in the Sunday Independent argues that “Greece and Spain’s financial woes are making it tougher than ever for Governments to raise cash for vital state projects”. She argues that the €70 bn held by Irish pension funds is being targeted by Brian Lenihan.

While the key issue here is the level of government debt rather than the ability to raise cash, the article makes an important point that is being discussed in many countries – how do we fund our infrastructure in the current fiscally constrained environment?

Given that infrastructure is typically a fairly safe investment that can yield a certain inflation indexed return, pension funds should find it useful to invest in infrastructure. A range of possible projects is presented in an accompanying article, including Metro-North, Western Rail Corridor, Landsdowne Road and National Parks.

What the article does not properly consider is that of the €70bn only a fraction should be invested in infrastructure given the need to hold a balanced portfolio. The other point is that it is not obvious why Irish pension funds should necessarily invest in Irish infrastructure or indeed why we should not expect foreign pension funds to invest here.

The key issue in attracting private funding into projects is a revenue stream. Without a relatively certain income private funding will not materialise. That would seem to rule out national parks unless anyone is proposing to charge an entrance fee and the construction of very long fences. A certain and sufficiently large income or rather the likely absence of one would rule out private finance for the Western Rail Corridor. In other words the projects need to stack up as a business proposition, and those that are driven more by political or redistributive goals will have to be ditched (in the absence of other funding). Thus, private funding should have a significant positive impact in that there will be less ‘gold-plating’ and only likely winners will be get funded.

The issue of private finance for public infrastructure and services should also ignite a debate about what services should be provided publicly in the first place. Should public transport and water be provided publicly or could they be privatised? As was highlighted recently our water supply infrastructure (primarily the pipes) is in serious need of investment, which may not be forthcoming from public funds, yet to get private sector involvement the sector will need to consolidate significantly.  

I just spotted this - had to check I got the date right as this seems to much like a first of April story, but sure enough his former (???) colleagues at RTE, and the Irish Times have reports on this.  At the time George got elected a number of comments on this blog made the point that this would increase the economics know-how in the Dail.

Courtesy of Eurointelligence, here is a French take on what is happening.

Update: Tony Barber has a blog entry on Thursday’s summit here.

The FT Analysis page is today devoted to the Greek situation: you can read it here.

In addition, there are two opinion pieces  —-

Wolfgang Munchau advocates a eurozone solution here.

Charles Wyplosz cautions against a bailout here.

A couple of reminders:

• (Self Promotion) “A New Fiscal Framework for Ireland” by Philip Lane (SSISI event at Royal Irish Academy at 6pm; abstract of talk is here.)
• CSO Administrative Data Seminar on February 22nd at Dublin Castle: details here.

This new initiative was briefly mentioned in Saturday’s FT: its goal is to provide a mechanism for economists to provide expert advice to charitable organisations; its organisers are extremely good economists.

You can find the details here.

This story is the best explanation we’ve got so far as to how the higher civil servant pay U-turn occurred and the justification used.

THE GOVERNMENT’S controversial U-turn on pay cuts for top public servants followed strong lobbying by their staff association that any cuts should take account of money lost as a result of the abolition of a bonus scheme which averaged 10 per cent of salary.

Official Department of Finance files show the Association of Assistant Secretaries and Higher Grades said it had legal opinion that the performance-related bonus scheme, which the Government initially suspended for 2008 and later scrapped permanently, formed an integral part of members’ remuneration packages.

The key argument put forward:

The association had earlier argued in correspondence with the Department of Finance that “while receipt of the performance-related element of pay is obviously not guaranteed to any individual, the scheme is part of our members’ basic remuneration package and amounts to an arrangement whereby part of that remuneration is simply deferred pending an independent assessment of performance”.

I’m not sure what this is supposed to mean. The fact that the bonuses did not count as pensionable pay and were not eligible for PRSI suggests that they were not part of basic pay. If the legal opinion was an implicit threat that the civil servants could have sued to reverse their pay cuts, I find it pretty hard to imagine such a case being successful.

In any case, it’s still not clear why the U-turn occurred. Minister Lenihan announced the ending of bonuses in February, so he was well aware of what he was doing when he announced the pay cuts in the budget concluding with “These are permanent reductions which will be reflected in future pension entitlements.”

It would be interesting to have heard the speech that Brian Lenihan gave on this issue at the Fianna Fail parliamentary party on Tuesday night for which he reportedly received a round of applause from the faithful.

In relation to this, I appeared on the radio on Tuesday night just after this meeting (link here) and heard Fianna Fail TD Michael Mulcahy suggest that the U-turn came from following the recommendations of the Review Body report and that the U-turn occurred because the report wasn’t released until after the budget. In truth, the U-turn runs counter to the report’s recommendations and the Minister had access to the report before the budget (he mentioned it in his speech.) These didn’t seem to be very satisfactory talking points on this issue from someone who had just received a full explanation from the Minister.

If the government thinks that misleading spin is the way to make this issue go away, I suspect they’re wrong. The fact that the usually-supportive Stephen Collins has taken up the issue also suggests that the government isn’t winning people over on this one.

The news that Italian bank Unicredit is insisting that Ireland rather than Italy is the ‘I’ in PIGS should hardly come as a surprise. All the PIIGS are at it these days: thus Emilio Botin of Santander is quoted in the FT as saying that “Comparing Spain to Greece is like comparing Real Madrid to Alcoyano”. (Alcoyano is apparently a club in the Spanish second division.) And we have been busily distancing ourselves from everyone else as well.

All this is understandable. As Ken Rogoff puts it,

There is an old joke about two men who are trapped by a lion in the jungle after a plane crash. When the first of them starts putting on his sneakers, the other asks why. The first answers: “I am getting ready to make a run for it.” But you cannot outrun a lion, says the other man, to which the first replies: “I don’t have to outrun the lion. I just have to outrun you.”

However, one of the big lessons of history is that lions rarely make do with just one snack: when defaults come, they come in waves. The 1930s is a good case in point.

Europe needs solidarity, not finger pointing.

One of the major issues that I think needs to be addressed this year is the role played by tax expenditures in our budgetary system.  Reports such as this one by TASC have pointed to closing off tax expenditures as having an important role to play in closing the budget deficit.  Chapter 8 of the Commission on Taxation report does a pretty good job of listing many of these tax reliefs and recommends shutting many of them off.  There are serious discussions worth having in relation to many of these reliefs, such as those for pensions, but I don’t have the time to get into these issues now.

Interestingly, one particularly controversial type of relief that the Commission report does not examine is property incentive schemes; the report argued that since the decision had been taken to close off these schemes on their completion, they should not be examined. Information on the cost of these schemes was, however, reported to the Dail by Minister Lenihan last November in response to a parliamentary question from Joan Burton.  The link to this answer is here but I know not to trust links to the Oireachtas website so I’ve also put up the answer as a Word document here.

The total amount of tax revenue lost from these schemes in 2007 was €435 million. I suspect this is smaller than some people might have expected, given the widespread nature of claims that the very richest in society are managing to pay almost no tax through their extensive use of these schemes.

Still, it is a decent amount of money. It would be interesting to know what these schemes are expected to cost this year and next and whether they can legally be closed. I suspect they can. Another interesting question is whether many of the individuals that availed of these schemes are now bankrupt and wouldn’t be able to pay any tax.

The Economist carries an extensive article on this subject - you can read it here.

As posted earlier, Brian Lucey has a timely article in today’s Irish Times on the government’s plan to perhaps have a plan to help people who can’t pay their mortgage.

Brian makes a number of important points on this issue (moral hazard, fairness of helping those who took out excessive mortgage, limited capacity of these banks to take further losses leaving it back on the hard-pressed Irish taxpayer, bankruptcy reform).  I was going to post a comment on it but the thread’s already really long and I wrote too many words, so I’ll put this on the front page instead.

I’d like to add to Brian’s points by discussing a stylized example in which a mortgage modification plan could work in the sense of easing the difficulties of current owners without costing the bank or taxpayer anything. Then I’ll note how the conditions of the stylized example won’t necessarily hold in many cases.

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A busy day, with lots going on. But I think it’s worth flagging this story about new responsibilities for the NTMA.

The move is understood to be aimed at creating a sharper focus on the State’s financial interest in the banks, while leaving Mr Lenihan and the Government to address broader economic and social concerns.

It may also serve to alleviate European Commission concerns about political interference in day-to-day financial decisions being made by institutions receiving support from the State.

The main functions being delegated include discussions with the so-called covered institutions about their capital needs, as well as discussions in relation to “realignment or restructuring” within the banking sector.

The NTMA will also be delegated with the Minister’s powers in relation to the management of the State’s shareholdings in credit institutions, and some remaining functions under the State guarantee scheme.

It will also be delegated functions in relation to the giving of advice on banking matters generally, including issues relating to crisis prevention, management and resolution.

The distancing of the managing of the state’s control in banks that may soon be partly or fully nationalised is a good idea. The rest of the announcement I’m more puzzled by. I would have thought that the capital needs of the banks was an issue for the Central Bank to discuss with the covered institutions rather than the NTMA.

More generally, I can’t imagine there are too many countries that use their government bond issuance office for “advice on banking matters generally, including issues relating to crisis prevention, management and resolution” so I’m not sure why we are.

Constantin Gurdgiev discusses the annoucement here. He argues that there is a conflict of interest between obtaining the best return for NAMA and obtaining the best return on the government’s bank shares, presumably in relation to the pricing of the assets to be transferred.  Of course, if the government owns both the banks and NAMA, this conflict of interest would more of an ecumenical intra-NTMA matter.

You can read the newly-released documents here.

A few weeks ago I informed readers of the passing away of Terry baker, formerly of the ESRI.  Joe Durkan has asked me to post this personal tribute to Terry.

It was a great shock for me when I heard of Terry Baker’s death.  He was someone I had known for over 40 years, had worked with as his research assistant on the Quarterly Economic Commentary, and had also enjoyed a good friendship.  I met him first when I was interviewed for the job of Research Assistant in the ESRI in January 1969.  We had more points of contact than is probably usual in these circumstances, as we had a shared, but not overlapping  history, in Tanzania - Terry as a civil servant and me as a teacher.  For both of us the experience convinced us that we wanted to stay in economics, and that economics could make a difference.  We differed in approach, as Terry believed in calm persuasion offered over time, while I was ready to do battle.  In the end we were both disappointed to see the mess the country is in now.

 

Terry and the then ESRI Director (Michael Fogarty) encouraged me to go to Nigeria. His judgement about the merits of the move was, as with so much of what he did, inspired.  It was a tough physical environment, but the work was fantastic. When I returned he threw me into the Quarterly straight away.  When I took over the Quarterly finally, Terry could always be relied upon to talk about the forecasts, to offer a different perspective and simply to bounce ideas with.  Writing came easy to him and he would simply rewrite cumbersome sentences without comment.  When I, very reluctantly, decided to leave the Institute in 1983, I persuaded him to go back doing the Quarterly and I think this was a good move for him. 

 

Within the Institute Terry did an extraordinary amount of internal referring.  His comments were incisive, but always took a positive bent.  He also ran a team in the management game, which the ESRI won on many occasions.  Terry well knew the value of the game, as it forced people to put numbers on the usual waffle about company strategy.  This benefited generations of research assistants.  He was also very generous.  When I ran a team separately he kept a place for me on his when I finally bit the dust as he had well anticipated.  I suspect he enjoyed the experience, but he made me feel welcome.

 

We met about twice a year after I left the Institute, most recently last autumn, when we agreed to get together after Christmas.  His later years were sad, following the death of his wife, Pirjo, in 2007.  Sadly, when I returned from a short break after Christmas, I learned of his death.  His death, the more recent death of Mrs. Dempsey (the first ESRI Secretary), and now the death a colleague, Todor Gradev, just knocks the heart out of one.  Terry was a very nice person, and will be missed by those who knew him.  (Joe Durkan).

John Murray Brown writes in today’s FT on the Irish situation - you can read it here.

Nouriel Roubini and Arnab Das write on the Greek situation and the implications for the euro area: you can read it here.

Brian Lucey writes an op-ed on this topic in today’s Irish Times: you can read it here.

The ESRI has published “An Economic Approach to Municipal Waste Management Policy in Ireland“. The Report provides a roadmap for managing municipal waste in an efficient way that minimises the costs to society.

The Report states that Ireland is at an important junction in municipal waste management policy. Significant progress has been made in encouraging the use of recycling as an alternative to landfill. Ireland has to meet legally binding EU Landfill Directive targets that will become increasingly difficult to meet in 2013 and 2016.

The Report argues that markets do not always work well in waste management so government intervention is merited and should be directed at improving the way markets work. If successful, this will enhance Ireland’s economic development and competiveness. It suggests two ways in which waste markets do not work well:

- in handling greenhouse gas emissions such as methane and disamenities such as dust & noise; and,
- in addressing the potential for market power, particularly in household waste collection.

Since geographical markets for waste services such as collection are local or regional, policy making should allow for local variations as well as co-operation for where markets are wider.

The roadmap for municipal waste policy developed in the Report recommends:

(i) a cap and trade system be introduced to meet the EU Landfill Directive targets for 2013 and 2016;

(ii) the imposition of levies per tonne of municipal waste, depending on the method of waste disposal:

- Landfill: €44.24 to €54.89 per tonne
- Urban Incineration: €4.22 to €5.07 per tonne
- Rural Incineration: €0.42 to €0.50 per tonne
- Mechanical Biological Treatment (MBT): €0.92 to €1.45 per tonne.

The levies are based on the unpriced environmental and disamenity impact of the particular waste disposal method; and,

(iii) competitive tendering for household waste collection, which would address any market power problems.

The Department of the Environment, Heritage and Local Government is also proposing a new waste management policy. Two vital ingredients in that policy are:

- the proposed Section 60 policy direction to cap incineration and other matters; and,
- the international review of waste management policy, which contains twenty-five recommendations.

The Report questions whether these ingredients provide a coherent and feasible basis on which to develop waste policy. Arbitrary limits on incineration and consequent expansion of MBT have no place in waste management policy. The international review’s setting of residual waste levies is flawed, suffering from both double regulation and double counting, with the result that some of the proposed levies are much higher than is appropriate. It does not provide the basis for a waste management policy that will create jobs, enhance competitiveness, and meet the EU Landfill Directive targets.

Notes:

The Report was commissioned by Dublin City Council.

Municipal waste is defined as household waste as well as commercial and other waste which, because of its nature or composition, is similar to household waste. It excludes sludges and effluents.

Biodegradable municipal waste means the biodegradable component of municipal waste, which is typically composed of food and garden waste, wood, paper, cardboard and textiles.

A cap and trade system involves trading of allowances or rights to dispose of one tonne of waste into landfill, where the total allowance is strictly limited or ‘capped’. The overall cap would be set by the Landfill Directive targets.

The Minister for the Environment, Heritage and Local Government can issue a Policy Direction under Section 60 of the Waste Management Act 1996, to the Environmental Protection Agency and local authorities concerning the exercise of their relevant functions under the Act in relation to, for example, municipal waste incineration capacity.

Landfill Directive Council Directive1999/31/EC of 26 April 1999 on the landfill of waste. The aim of this directive is, by way of stringent operational and technical requirements on the waste and landfills, to provide for measures, procedures and guidance to prevent or reduce as far as possible negative effects on the environment, in particular the pollution of surface water, groundwater, soil and air, and on the global environment, including the greenhouse effect, as well as any resulting risk to human health, from landfilling of waste, during the whole life-cycle of the landfill.

The Federal Reserve has announced a new initiative: A website to explain banking to new bank directors. No, really, they have. From the press release:

“Many people who are asked to serve on bank boards have little training or experience to prepare them for their new roles,” said Patrick M. Parkinson, director of the Federal Reserve Board’s Division of Banking Supervision and Regulation. “This website has been developed with new directors in mind, but there is plenty of useful information for those who have already spent time on bank boards.”

In relation to the Irish banks, one can certainly argue that bank directors with little experience of banking, finance or economics played a role in their downfall. It will be interesting to see if this is an issue touched upon by Mr. Regling in his report to the banking enquiry.

This raises a more general question: Why are bank boards so commonly made up of people with little relevant experience? Is this an issue that needs to be addressed by regulators in the future? Or is it too much to expect bank directors to have technical expertise and these issues are best left to management, with boards simply overseeing corporate governance issues?

The news that the government has negotiated a 40% reduction in prices with the Irish Pharmaceutical Healthcare Association for 300 off-patent drugs (announcements here and here) got the warm fuzzy feel-good treatment on last night’s RTE News at 9 (the word patent did not make its way into the two-minute report). 

This is, of course, undoubtedly good news, particularly for those with regular prescriptions for these drugs. Being a dismal scientist, however, I’m always looking for the catch: Is asking nicely for price reductions the way to tackle our budget deficit or are these cuts just an indication that we’ve been paying too much for drugs all along?

The Irish Times newspaper piece by Eithne Donnellan reports about the negotiations between the Minister and the IPHA and then poses a pointed question:

Very quickly the IPHA – which represents all the major drug firms such as Pfizer, Roche, GlaxoSmithKline and Merck Sharp & Dohme – agreed to cut prices of its off patent drugs by 40 per cent if the State didn’t touch the cost of their proprietary or branded drugs for another 18 months. The new deal takes the IPHA up to March 2012, replacing the one due to expire this September.

But if prices could be reduced this much, were the manufacturers of 90 per cent of the drugs on the Irish market just ripping us off all along?

Indeed, this deal comes after another deal struck in 2006 to reduce the prices of these drugs by 35%.  So another version of this story is that these deals expose how much money the state has been losing over the years by paying high prices for branded off-patent drugs instead of purchasing generics.

I don’t claim to be an expert in this area, so I’d like to hear from those who know it better. Is this the best we can do or could the state find further savings in this area?

Jean Pisani-Ferry and Andre Sapir (two very influential economists from the Bruegel think tank) recommend the IMF option for Greece:  you can read their article here.

Jeff Frankel has a piece on what Chile can teach the rest of the world here. The Irish fiscal debate could usefully move in this direction. The piece is also relevant to the thread below on economic expertise, and to broader debates about whether technical expertise in general is useful to policy making, and is sufficiently appreciated and availed of in Ireland.

Novelist John Lanchester is giving a public lecture at the London School of Economics this coming Thursday linked to the launch of his new book, Whoops  - an anlysis of the financial crisis. The FT and the Sunday Times both carried extracts over the weekend. I was particularly struck by his comments on behavioural economics:

I have a confession to make about Kahneman and Tversky. I’d never heard of them until Kahneman won the Nobel, and when I first read about their work it seemed to me to consist of things that were surprising only to economists.

You can read the full extract here.

The current crisis is stimulating calls for reform of the overall governance structure for the euro area.  Wolfgang Munchau makes some proposals in his FT column today - you can read it here.

When the NAMA bill was being debated in the Dail last Autumn, the public was regularly told that the plan was to have the first tranche of loans transferred by the end of last year. Today’s Sunday Business Post reports that further delays are now expected due to delays in preparations at the banks and due to the absence of clearance from the European Commission. The story reports that a verdict from the Commission may not come until the end of February at the earliest.

Stories such as this and this from the today’s Sunday Tribune also make it clear that it is going to be very difficult to attract private funds to the banks. At this point, it is perhaps a legitimate question to ask whether events have not overtaken the whole NAMA-Long-Term-Economic-Value strategy to keep the banks out of some form of temporary nationalisation.

A report on Irish electricity and gas prices in the first half of 2009 was prepared by Martin Howley, Dr Brian Ó Gallachóir & Emer Dennehy for Sustainable Energy Ireland. For those readers interested in the topic they will find the report here.

The Irish Times and other media today carried a report on the publication of a new globalisation index produced by Ernst & Young which places Ireland third on the globalised states list. The EY index joins an increasingly crowded field, so what follows is a bluffer’s guide to globalisation indices. As always, a good starting point (but never more than that) is the relevant Wikipedia entry.
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In this new IIIS Discussion Paper, I discuss the potential role of fiscal policy in stabilising the external account.  The main focus is on the management of imbalances within the euro area; I pay particular attention to the Irish situation.

You can download the paper here.

Thanks to George Lee for passing on this material: A set of parliamentary answers to enquiries about the economics qualifications of civil servants in various Irish government departments.

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