Guest Post: International Credibility Does Not Need NAMA; It Needs Determination

Here is a guest post from Ciarán O’Hagan (fixed income strategy, Société Générale, Paris). Ciarán had submitted some of this material as a comment on an earlier post but we thought they were worth giving their own dedicated thread. Text below the fold.

Alan Ahearne brilliantly foresaw in 2007 the consequences  of the housing blow up, “You see, when housing markets go bad, lots of money is lost. Be it homeowners, property investors, developers, banks, and taxpayers, someone has to take the hit” (16 Sep 2007, Sunday Independent). We could of course add to Alan’s list, not just the different categories of bond holders, but also the social welfare recipients, etc.

I could see some wanting to portray the Gang of 46 as part of a kind of malicious anti-bank, anti investor conspiracy from the ivory towers. Yet I’m sure that all the signatories would love to see the investors get their monies back.

That would be far easier if the outlook for the public budget was comfortable. However cash in 2010 is likely to prove very scarce, and scarcer even than the government would like to admit.

Part of the concern about NAMA stems from the fear that, unfortunately, the outlook for the economy and public finances offers not the slightest room to show  generosity to any particular interest group. And least of all, to pamper the fortuned.

Trying to keep all parties happy is laudable. But this raises the risk of a sudden, forced and substantial macro and/or political adjustment in the future. That is worth avoiding. But it requires the government – this or the next one – taking far tougher decisions than envisaged to date. I am afraid that the penny has not quite dropped, neither for the government, the press nor the public, on this score.

The government it seems has a working hypothesis of a deficit of some €20bn next year, just like the figure planned for 2009. The Gang of 46 sees more €30bn. But let’s suppose it is “just” €20bn. The amount is not that large compared to the amount many bigger states borrow. Yet that does not mean it is sustainable. To the contrary. The government estimate of €20bn still works out at net borrowing of almost €10,000 per employee per annum. No country, ever, has achieved such a feat two years in a row.

And at the same time, this pro-rich, pro-saver government is adding heavily to the state’s future contingent liabilities, with NAMA. NAMA does have one advantage – little upfront cost However that comes at the price adding heavily to future contingent liabilities, and maybe unsustainably so. No one can be sure.

Yet as far as good policy making is concerned, most economists would agree that cancerous banks needs to be dealt with very quickly. Alan Ahearne in Sep 2007 put it eloquently, “Japan’s biggest problem was that they attempted to sweep the consequences of the housing bust under the carpet”, adding “The Japanese wasted a decade-and-a-half arguing over how to allocate the losses, and their economy stagnated in the meantime. Let’s hope we don’t do that.”

Ireland has lost a year now, almost. And looks like losing more time, unless there is a dramatic change in policy.

At the same time, the same government seems to shut the door on extensive and immediate hikes in taxes, even though Irish tax rates and the Irish tax base are all very low in relative terms (while sizeable cuts in spending are not being implemented with the urgency they deserve).

You’d want to be wildly optimistic to believe that this coup can be pulled off, without the forced-feeding of far tougher medicine at some stage.

Little surprise than to see Irish government bonds are still trading cheaper than A-rated Greece. And the further out the yield curve you go, the more Ireland cheapens to Greece. Yikes!

And the government wants us to believe that NAMA will help restore international investor confidence in Irish sovereign debt? If that were really the case, the medicine has not worked so far.

Of course, for banks and many bank investors, government policy has worked brilliantly so far. The performance of bank debt has been magnificent over the past few months (largely helped of course by optimism that the worst is over for the global economy).

For international sovereign investors, the story is different. NAMA will be seen to work well by when it deals effectively with the cost of bank liabilities – not over the next 10 or 20 years – but when the pain is taken on the chin.

That is when international credibility will be truly restored. At that point, we can look forward to Irish government bonds richening heavily, and trading once again in line with their ratings (and at richer levels than the likes of Greece or Italy too).

Foreign investors *in Irish sovereign debt* share much the same interest as the Irish taxpayer. They want to see the government extricate itself from liability for the banks, rapidly. At the same time, they need to see sharp cuts in the public deficit, and a banking system that works (even if that means, inter alia, flogging off the branch networks).

So if it is credibility of the sovereign you are talking about (the proponent of NAMA love to fudge this notion by the way) then we need more penny pinching policies. Policies more on the lines of what Fine Gael propose go in this direction.

If instead you want to be everybody’s best friend (the quintessential trait of the Irishman in foreign company), and you want to try to keep everybody happy (somewhat), at the risk of sinking the whole boat, … than sure, dole out money like there is no tomorrow (or as if on tap from the ECB ad vitam eternam).

These notions are hardly very difficult to understand, are they? Even for those outside the ivory tower? Even for non-economists?

And yet the press – mostly – assure the public there is no alternative.

20 replies on “Guest Post: International Credibility Does Not Need NAMA; It Needs Determination”

This is very good….but yet there it is again…’the same government seems to shut the door on extensive and immediate hikes in taxes, even though Irish tax rates and the Irish tax base are all very low in relative terms’ – mmm..OK so I imagined that 1,000 euro drop in my take home salary following the last two budgets, yes?. Without going into our very high indirect taxes let’s do a quick comparison. If you earn around 100K in Ireland today you will take home about 57K. That’s an effective rate of 43%. Now in the UK if you earn the sterling equivalent you will take home €66,000 when it’s converted to euro. That’s about 15-18% more. Then add in the fact that the Irish government has found a way to ensure that EVERYTHING it provides or has any hand in (ESB prices anyone?) is much more expensive because it is transferring money to the highest paid public workers in Europe…..why exactly do we need more tax increases?

Actually – I slightly over estimated the tax in Ireland….in fact you’d be taknig home around 60k but it’s still way higher than the UK…after years of Labour in power..

Comparing government borrowing requirements in terms of the amount borrowed per person employed in the economy is nonsensical. For two reasons:

(1) GDP per person employed in the economy is far higher in some countries than in others – would X thousand borrowed per person employed have the same significance in (a) California (b) Bulgaria (c) Zambia?

(2) X thousand borrowed in 2009 is not the same as X thousand borrowed in 1959 – global prices have quadrupled since then.

The only meaningful statistic is government borrowing as a percentage of GDP. The bottom line is that in 2009 government borrowing as a percentage of GDP in Ireland is roughly the same as in the U. Kingdom and the U. States. Actually, if Lenihan’s forecast for 2009 proves accurate (and who am I to know whether it will or not), it will be slightly lower in Ireland in 2009 than in the U. Kingdom and the U. States. The latest projection for the U. Kingdom deficit is 12.0%. Last week, Obama forecast a deficit of 11.2% of GDP for the U. States. Lenihan’s forecast for Ireland is 10.75%. All of them may or may not prove slightly over-optimistic.

In most continental EU countries, the projections are somewhat lower – around 6% to 7%. But, in nearly all of them the starting point for accumulated government debt at the start of the recession was far higher, typically 60% to over 100% of GDP (in Belgium, Italy and Greece), compared with 30% to 40% in Ireland, the U. Kingdom and U. States. Current projections are that government debt as a percentage of GDP in Ireland will peak at around 80% in 2013, about the same as in the U. Kingdom and U. States. Its allready above this in most continental EU countries and, despite the lower rate at which they are adding to government debt, projected to be above 100% by 2013. And, I haven’t mentioned Japan, where government debt as a percentage of GDP is soon to hit 200%.

is this an opinion piece or trading desk advice? if its from the desk how do you capitalise on the views held -please advise.

Why does it conflict so heavily with the head of ING who basically said NAMA had to go ahead or it would dent confidence? (was in one of the sunday papers)

No, not really. And its Ciaran your asking.
Im listening the Brian L on the intertubes. Apparently things are grand. We are near the trough (or maybe at it) ….


cheap shot but FF have had snouts, tails and trotters in trough for years so the fact that they are proxiamte to trough is of no surprise.

Sorry jl
I just couldnt walk past it!

One thing that could be included in the legislation is a stay on the excecution of all decisions of the Minister of Finance once an election is called.
That the stay be lifted when the subsequent MOF approves or previous decisions.
It would take away the twilight decision making that has become so famous


@Paul MacDonnell

“ESB prices . . . much more expensive because it is transferring money to the highest paid public workers in Europe”

Are you sure you don’t want to have another look at the cause of high electricity prices?

“And the government wants us to believe that NAMA will help restore international investor confidence in Irish sovereign debt? ”

The Government has never made any such claim.

NAMA is about removing uncertainty from the value of assets on the balance sheets of banks, in order that they can have greater confidence when lending money into the economy.

@ Paul MacDonnell
Yes fair point about the UK
I think you will find that Irish taxation and levies and far lower than in most of the eurozone (it is not the marginal tax bands, but additional levies of different kinds).

@ Karl
It is a private opinion piece. In terms of valuation, Irish government bonds are trading cheaper than where a range of fundamentals would suggest. If you think the global economy, equities and of course NAMA, will do well through 2010, they are a steal.

@ John
You’re right in that comparing government borrowing requirements in terms of the amount borrowed per person has its limitations, like all statistics. Nonsensical not quite. It is meant to be eye catching for a general public.
Borrowing as a % of GDP is a good one, as you suggest.
Debt as a % of GDP is often cited, but increasingly problematic, given that it is offset by assets of more or less reputable quality. This is about to explode for Ireland if NAMA passes.
You will find that rating agencies, the IMF, etc inevitably look at a broad set of measures.
The European Commission saw the Irish public deficit for 2010 (back in May) at 15.5% on an unchanged policy basis. Probably higher now.
The US and UK, while also in double digits, have fewer contingent liabilities, a lower debt rollover ratio, and especially their own currency.
15.5%, even 10%, is pushing the limits of what is possible within the eurozone. NAMA is also unique within the eurozone, I’d say, and also exploring the outer reaches of our galaxy.

Surely it can’t be left to me, a lay apostle on this website, to point out the inappropriateness as using GDP as a denominator in Ireland.

I am sure I read somewhere recently that the EU commission itself is now projecting a 13% (from memory) deficit for us in 2009.
No one, not even the Minister, will stand over his 10.75% April estimate now.

Thank you. It is useful to have the views of bond practitioners when we are variously being told that they are pro-NAMA and it will improve ‘confidence’ in Irish sovereign debt. This illogism really needs to be put to bed.

Deflation, deflation, deflation

No more debt! It was a sweet poison before the crack up. It is now a bitter one!

There will be no credit soon, but we should aim to increase taxes now rather than later. Why are people so keen to avoid the lessons of history? We know what happens in a depression.

Work for welfare is now an imperative. We have neglected our resources for lomg enough. The belief that a quick buck from developing land would make us all wealthy was false. Apparently we now have land enough for 1,000,000 houses and need at 50,000 pa means we have enough for 20 years.
What other way do we have of being able to afford everyone a decent life? Contraction all around the world. Bamboo: was it ever considered as a crop? The rain is a natural resource that can be harvested.

The penny has not dropped. Deflation will take care of competitiveness. How do we feed clothe and keep warm and dry those who are unable to do so themselves? The happiness quotient cannot be meglected.

@Pat Donnelly “Work for welfare is now an imperative”.

There’s a phrase I haven’t heard in a while.

Care to elaborate?

Most people usually say: “they should be put to work picking up rubbish and things,” but this is usually because most people have little imagination. I would hazard a guess that the 200k or so put out of work in the not too distant past are probably a bit more capable than that.

Of course, you may have Hemingway’s ‘To Have And To Have Not In Mind’. I believe that illustrates what ‘work for welfare’ is like in reality.
Worked like dogs and still starved while a rich and powerful elite led a wonderful life.

If ‘work for welfare’ is what passes for leading edge economic thinking these days then I pity us.

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