Krugman on Ireland

@PL

We have had fair comment on Swift’s Modest Proposal ……

“And you have to wonder what it will take for serious people to realize that punishing the populace for the bankers’ sins is worse than a crime; it’s a mistake.” Paul Krugman

… you have to wonder? Quite!

Although the US polity may not be working as well as it might (something he frequently bemoans – but which would require little to fix) I expect Prof. Krugman is bemused by the willingness of the powers-that-be (in Ireland and Europe) to impose private losses on taxpayers – and the apparent docility of the public in accepting this.

@Keith Cunneen

Krugmans seems to be distancing himself from the breaking windows increase demand old school Keynes towards a more nuanced neo – keynesian stance where he recognises there is limited resources and thus choices that have to be made.

And yet he’s till bemoaning Ireland’s austerity programme, which he sees as one of the causative factors of the crisis. One wonders just what amount of evidence would be required to get this dinosaur to confess that he just might be mistaken.

@Carolus

There is merit in spending – in this monetory system you have to spend to save – therefore the question is what do you spend it on.

I believe we are in a Minsky moment of debt implosion – he had vaguely Austrian views and even he relaised that certain drastic spending actions needed to be taken to prevent a return to equilibrium via a full scale collapse.
He advocated massive spending on high technology public works and the like to prevent collapse.
If they shelve metro north and other such projects with the justification of fiscal rectitude they will surely collapse the economy in a abyss.

We need to create credit to reduce the fiscal draw down that these wealth creating projects would accelerate.

@CG
If Krugman / Stiglitz / de Long et al (The Saltines !?) are dinosaurs could you point me in the direction of some less dismal scientists?
I’m somewhere between toddler and Phd in economics terms. A volunteer economist! (though I think we have too many of those) 🙂

I don’t think he’s ever claimed austerity as a causative, more a laxative for diarrhoea. I.e a cure for something else. I may ascribe to “better out than in” but death is a real risk. As I understand it the above names models would have suggested countercyclical fiscal action, not pro.

@ KC
Yes, Krugman has a long post up on Minsky. It’s pretty glum!

@Andrew S

If Krugman / Stiglitz / de Long et al (The Saltines !?) are dinosaurs could you point me in the direction of some less dismal scientists?

I can point to some scientists whose predictions were more accurate than those of Krugman and co — many of the ‘sectarian’ Austrian schoolmen, for example, or non-dogmatists such as Steve Keen, non-academics such as Mike Shedlock, Marc Faber, Peter Schiff ….

My mother-in-law wasn’t far off the mark either [personal communication].

@CG
Thanks will cast a cold eye.

@ Carolus
“One wonders just what amount of evidence would be required to get this dinosaur to confess that he just might be mistaken.”
US picking up and Ireland sinking??
Big debt is the hole in the bucket (economy) scenario – either you put less water (money) in so that less leaks out!? or you pour more water in so that you still have something left in the bucket.

So where are all the “serious people” (as Krugman puts it) on this site who said that senior bondholders could not be touched? Can we have a riposte to PKs column?

@Brian Woods
You can give credit without expecting interest – central banks could do it now – they just buy bonds to keep the illusion of debt as money.

The American CB buys bonds and gives most of the interest income back to the treasury – whats the difference really.
Also credit for consumption and credit for capital creation are two different things.
For instance you could give me credit to buy beer – this would enrich the farmer and brewery(and make me a happy consumer) but would not increase the underlying wealth of society as drinking and manufacturing beer is not a utility although some here might object.
However improving a utility such as transport connections is a common good.
Without effective utilities the beer consumer may have to drive to the pub or God forbid get the bus.
Anyhow do you seriously believe that the consumption sector via bank credit in the property and other sectors was efficient or effective.
They(the banks) tried to ramp up consumption in a artificial fashion without creating the underlying wealth first.
Think of the French economic model where they used fiscal means and also low cost loans to build railways.
If you could buy France in the morning and had the choice of France with railways are without what would you choose ?
France with railways is wealthier although it consumes less or more accuretly spends its surplus on other things rather then getting from A to B
We need to divorce ourselfs from the concept of consumption as wealth.
In America they consume more to get around and therefore by these metrics they are more wealthy.
Go figure as the Yanks might say.
PS those utilities the French built are still delivering revenue , the Yanks houses not so much and without a reserve currency to spend they would have no interest income period.

it is not appropriate for Irish civil servants, lawyers, politicians and the “protected” professions to continue to be Europe’s most highly paid (along with being among the most inefficient)

Maybe if you keep repeating this tired old canard about the civil service (not clear if you mean the public service in general, but I suspect you do, precision not being a speciality of yours, apparently) it will transmogrify from falsehood into truth.

Let’s have the post-pension levy, post-pay cut evidence please. And do be sure to use purchasing power parities.

Something strange with the RTE reporting, now they are saying 6.7

http://www.rte.ie/news/2010/1126/economy_bailout.html

@Frank
They probably took .3% off because we were good little boys who are considerate enough to bend over politely before we get a good buggering.

FOR GOD SAKE DEFAULT and do the state some service instead of servicing us.

Paul Krugman is right in that the key feature of the Irish debt crisis is that it is a massive public sector bail-out of private debt where the burden sharing seems to be only one direction i.e. on the Irish tax payer. While some 69% of those surveyed (Sunday Irish Independent of November 21st) say that they support the EU/IMF intervention, this is presumably on the basis that hard decisions will be taken. One holy cow is the question of private sector burden sharing which, according to today’s Irish Times, is on the table in the negotiations with the IMF/EU.

The complication to all of this is, of course, the blanket state guarantee of the banks, which lies at the root of the crisis as the scale of liabilities has called into question the sovereign’s financial standing itself. Assuming therefore that some cutting of the umbilical cord of the banking sector to the sovereign is not only morally justified but also now required by economic circumstances, the question is how and by what means.

Two facts stand-out. One is that existing senior bank debt is heavily under water given the rise in interest rates for Irish debt i.e. there is an effective economic loss already in place for the bond holders.

Second is the fact that while the markets dislike uncertainty and the flight from Irish bonds has been driven by the perceived black hole of bank losses, two recent reports from Goldman Sachs and Credit Suisse point to the further write-down potential of the bank’s as being not that great – EUR 13 billion according to Credit Suisse – and thus ‘manageable’ in the circumstances.

Putting these together, there is obviously some level at which further bank losses can be quantified and covered by capital and some future value of equity in any debt/equity conversion which gives value to any such restructuring. This means that if the trade off is between losses on bonds or something with alternative value/upside potential a deal could be made with bond holders.

A key step is to deal with the uncertainty on bank losses without prejudicing the state even further. As there is an urgent need for the Irish state to cap its liabilities, one approach could be to provide credit risk insurance, using say EU/IMF funds set aside, to cover losses up to a given cap but not beyond this – say an additional EUR 10 billion. On this basis and assuming that the investment bank estimates on further losses have some credence, there can be an effective floor also put on the value of a debt to equity swap.

What is crucial, however, is to disentangle the government bank guarantee, which implies letting this run out or otherwise putting compulsion on bond holders. While such pressure is one thing, the fact that bond-holders are sitting on losses and have an interest in greater clarity gives support to a process of re-negotiation i.e. ex-ante situation is not sustainable in any case. Assuming the guarantee issues can be dealt with and a cap put on the government’s commitments to the banks, a way forward is possible. The banks of course will have to shrink over time but this could be conducted in an orderly fashion based on the effective recapitalisation of the bank’s as (on)going concerns.

This would of course reduce the effective debt burden on the state and on the tax payers. As the problem of insufficient capitalisation of the banking sector and a sovereign underwriting of all banking sector liabilities does not apply to other peripheral EU economies, the potential negative market effect of such a move on other markets would be diminished. As a proverbial Irish solution to a specific Irish problem, it is therefore a particular response to a particular situation but where all stakeholders have a role to play.

would it be politically possible to give ireland a rate even slightly lower than greece?sounds like the can is going to get a good kick down the road.the bond vigilantes are winning,michael milken would be proud.

tell them to get back on the plane, they’ll be back next week. i cant believe it.

@Eric Ball
“it is not appropriate for Irish civil servants, lawyers, politicians and the “protected” professions to continue to be Europe’s most highly paid (along with being among the most inefficient))”

“Maybe if you keep repeating this tired old canard”.

I’ll help repeat what grampy said.

@ hoganmahew:

The extent of the combination of the two (the support for the financial sector *and* the Exchequer deficit) is indeed the possible reference point for the recent (pre-‘bailout announcement’) bond sales.

The Lagarde/Merkel announcement on Oct. 29th (that taxpayers
shouldn’t have to bear the full brunt of private lending losses) could also have played an important role as a catalyst though. One question to ask is what exactly changed over the last month (Oct. 29th onwards)? Nama turned a profit and won a court-case. Taxation revenues stabilised, and a firm commitment to a four-year austerity plan was announced.

On Nov. 8th, Morgan Kelly questioned the overall cost of the bank bailout, but he didn’t have access to information that others don’t. It was on Sep. 30th that the Govt. announced the final cost of bailing out the banks could rise to 50 bn euro, by their estimate. It may well be that Lagarde and Merkel started something on October 29th that heightened fears about the smallest country in the eurozone with the worst-performing banking-sector. And as the Guardian suggested on Nov. 21st, maybe we were told “take a bailout or risk starting a new crisis”.

One has to ask though: why then was the announcement on Nov.12th (that the EU’s proposed new bailout mechanism “does not apply to any outstanding debt”) not enough to bring Irish bond yields back down (and thereby reduce fears about our next bond auction)? The only answer I can think of is that Lagarde and Merkel triggered fears about lending losses in our banking-sector that simply didn’t go away.

In addition, there were two other factors at play in the last few weeks (which were also potentially spurred on by the Lagarde-Merkel announcement on Oct. 29th). It is possible that these were not reversed after Nov. 12th due to fears failing to dissipate; or simply because the fears became self-fulfilling:

(i) Rising yields on corporate bonds issued by the Irish banks; the banks have also been facing a debt market with rising costs, and may have needed to return to the market sooner than the Irish Govt. (Does anyone have the precise details on the timing of their borrowing needs?)

(ii) A flight of deposits from Irish banks. According to the Irish Independent recently (for what that’s worth): “Up to €40 billion of deposits could have been retained by Irish banks had the IMF bailout been accepted only two weeks ago”: http://www.independent.ie/national-news/governments-dithering-cost-euro40bn-in-withdrawn-deposits-2429253.html

It is also worth bearing in mind that the Irish banks have become holders of massive amounts of Irish Govt. debt, which we know has lost a lot of market value. According to the FT recently: “AIB’s holding of Irish bonds went from €165m in December 2007, the last figures before the bank bailouts began, to €4.1bn in July this year – a 25-fold increase… the State’s two biggest banks spent €5.8bn between them buying bonds…”

If I thought it was likely that a stimulus, or even resistance against austerity would, IN IRELAND do anything other than further polarise its society into “connected and protected” vs “weak or vulnerable” I would sign up to the campaign. But I know too much about the place and its political system.

Genuine reform and there would be a point. Its a mess and the vested interests will fight tooth and nail to hang on to their position with scant regard for anyone else.

C’mon Kruggie what do you reckon? (appart from 6.7% being bonkers).

@Martin Ryan
I agree with you those too are relevant issues. You may add the revelations about the size of ECB support, Irish Central Bank support and deposit outflows from the main banks. In effect, there has been a run on the country like there was in 2008 and like the one in 2008 it is happening slowly until the tipping point (which resulted in the guarantee in September 2008). The decline of bank shares during 2008 was evidence of ebbing confidence in the banks, confidence is ebbing away from the sovereign. In the same way that the banks did little right to address their problems in 2008, the sovereign has done nothing right to fix its problems (the banks and the deficit) since then.

There were also rumours spreading that the ECB would no longer provide liquidity. This would lead to a swift end both to the banks and the sovereign carry trade.

A final chunky issue – the size of the fiscal adjustment jumped from 7.5 bn to 15 bn.

It’ll be for the historians of the future to figure out the weighting of the factors (and to argue about it ever after…). I think we can finally put to bed the Morgan Kelly article. There were more fundamental factors at play.

http://www.albuquerquenews.net/story/712121

@Eureka

Please don’t mention the war. The British might withdraw the offer of 7bn!

@martin ryan

“One has to ask though: why then was the announcement on Nov.12th (that the EU’s proposed new bailout mechanism “does not apply to any outstanding debt”) not enough to bring Irish bond yields back down (and thereby reduce fears about our next bond auction)?”

First it served to undermine the consensus view in some investment houses that all politicians are in thrall to the bond market, and will just do what they are told. Second, there is a question of the law applying to each bond issue. As it stands each country generally has its law govern the bond – so if it wants to default it mainly has to dispute in its own legal system. A Euro-wide bond agreement might remove this local element – perversely making it actually harder to deault on the new bonds, so why should the new bonds inpractice be any less risky.

@eric ball

Civil servants, in fact the whole public sector signed up to an agreement which took the top off the costs – effectively reversing the last part of the inflation in return for no further cuts in pay or compulsory redundancies – ei totally insulated from reality so the rest of the country has to suffer disproportionately.

That agreement (Croke Park) was drawn up a long time ago when the MOF had convinced itself there was going to be a V in GDP. It had in it a clause that left it ineffective in the event of significant adverse financial or economic circumstances. Now, the state is effectively bust, IMF are in town, the is open speculation about the country exiting the Euro. So disingenuous and corrupt is the political system that even this apparently does not count as significant. You couldn’t make it up.

@Carolus
“You must be the first person resident in the Emerald isle to have heard of him. ”
I doubt it, the internetweb spreads ideas (good and bad) like nothing else. I think I first read about him on thepropertypin http://www.itulip.com/forums/showthread.php/4731-Debtwatch-No.-25-How-much-worse-can-%C2%93It%C2%94-get?p=42596#post42596

What struck me in particular was the “contribution of debt to final demand” aspect. Working out that for Ireland of the bubble is way beyond my intelligence grade, but my suspicion is that all the growth (and more) we’ve seen since 2001/2 can be attributed to debt. What we are seeing now is the result of that debt – final demand collapsing, ‘savings’ ratio climbing as debt is repaid, the weight of interest costs (on both private and public).

Ultimately, we have two choices – repay the debt or default on it. At the interest rates being quoted, we really only have one choice, as far as I can see. Without a kind interest rate, we aren’t going to be paying back all the capital.

Nothing to disagree with in Krugmans piece as far as I am concerned – socialisation of private debt onto the citizens (essentially those least able to pay) whilst those who are able to pay and those who incurred the debt are laughing – all the way to the bank if you excuse the pun.

@ Sarah Carey:

Pimco (as you probably know) is the biggest bond-fund in the world, so it is good news they are saying that:

“it is unreasonable to expect the Irish taxpayer to bear all the costs of the Irish bailout… Mr El-Erian’s comments were widely believed to have been prompted by… some bond investors (who) now recognise the need for compromise.”

http://www.albuquerquenews.net/story/712121

So, on the back of Mohamed El-Erian’s advice we would make some (how many? which?) bondholders take losses – which would conceivably push the IMF lending rate lower than 6.7% (how lower is a good question) – and we could be getting somewhere with this.

Some folk might argue that we need to hit whoever many (and whichever) bondholders it takes to bring the lending rate down to 4.5% – which is the average borrowing rate on funds raised by the NTMA over the past two years.

@Martin Ryan

I would not take Mr El-Erian’s comments at face value without knowing his trading positions in Government bonds.

Pimco hedges while its owners (Allianz) lose their shirts????

@ Grumpy
So you hate Ireland – big deal.
Every country has its problems of petty corruption and cronyism. Ours are no different
For all our faults we don’t deserve this!!!

Those 2nd and third world foreign governments you read about who systematically deceive their populations and who are run as oligarchies, whom you feel smugly sorry for? Well, that’s twenty first century Ireland.
The size of the bank bailout and the deficit, the lack of accountability, the token investigations, the rescue of the developers, the protection of the establishment’s remuneration, of vested interests etc are all indices of how corrupt the country is. All say the country is very corrupt. However, no matter how bad they are the public are nowhere near as bad as the establishment.
This is shown by the fact that the average mortgage holder is solvent but the banks, the developers, the state itself and many members of the establishment aren’t.

@ Hogan
Do we send our young men to die in wars nobody wants? No. Do we release terrorists for oil deals? No. Do we assasinate political rivals? No.
Do we do arms deals with dodgy dictators? No. Get a grip
We are a good people. We spent our money on schools, hospitals and roads. This self hatred has to stop

@Hogan
They all do it. The Americans elected Nixon twice. The Brits elected Thatcher. The Germans were fairly fond of your man. Every country gas done it. It’s bound to happen since most politicians in every country are self serving psychpaths.
Krugman talks about eating children – let’s not serve them up with a sauce of undeserved guilt

why are we looking at 9yr money? It’s time that the pigs try take control of the farm rather than follow the franco german alliance. You have to look at what we’ll look like in three/four years time. Will Ireland be able to access debt markets? Current plans would require 3% of gdp borrowing when our rating will be bbb at best. I’m not sure if Ireland can even afford 3/4%. The leaked rate may be to make the agreed rate sound acceptable. A load of tosh.

@ Hoganmayhew
“We are the same as everyone else, neither better nor worse.”
Agreed.
The lurch to self-praise was motivated to counteract the negative self-loathing that others like to indulge in. It gets us nowhere.
Isn’t it strange how dealing with the IMF would prove much less costly than dealing with Berlin! Is that deliberate? Do they really want us out?
Our natural home will always be in the Anglo American axis. It’s where our emigrants have gone and prospered. We have shared values.
Now I know they’re not perfect too but nobody is.

@Ernie Ball
“why the focus on the public sector alone taking the hit to initiate the deflation you find so desirable?”

I said:
“not just in the public sector, private sector pay ballooned with asset prices.”
I don’t think I could be much more even handed in that and have long railed with Paul Hunt against deadweight costs.

“investors should just ignore the inflation rate and only look at the interest rate on offer?”
No, what I am saying is that because we share a common currency, inflation here in Ireland above the rest of the eurozone reduces our competitiveness. Investors will of course look at local inflation rates. They have decided that private sector wage demands and state imposed costs (rates, power, national wage agreements) are too high.

Social partnership since the turn of the century has been a disaster, pushing both public and private pay rates beyond sustainable levels. Not because there is anything wrong with social partnership per se, but what was done here was to chase asset prices in a bubble with wage levels.

The knowledge economy is a bad joke, I know, I work in it. I can hire two experiened people in India for the price of one graduate in Ireland in the industry I work in. And I don’t particularly blame the graduate here, because the cost of living is still too high, as you point out.

I am deeply disappointed that there is no structural reform in the four year plan. The social solidarity levy, or whatever it is being called these days, is still not introduced despite a promise in the last budget. There has been no attempt to reform pensions, health provision, utility prices, rates, the legal (which in part accounts for the high cost of insurance) and accounting professions. These are costs that businesses have to bear and increase the cost of employing people.

“The cost of living here is high. That’s not due to excessive taxation to fund the public sector.”
No, but taxation levels are high. Yes, they can and will go higher, but still government spending will have to shrink. Why? Because the difference between income and expenditure is debt. And debt is expensive; interest costs are going to be an appalling drag. So debt will have to be repaid in future to reduce the interest burden.

Or debt will have to be defaulted on. If it is defaulted on, there will be no funding for a period, so the deficit will have to disappear and I don’t think a sudden stop is going to be pleasant for anyone.

@Eureka
Well, I believe you are missing the point. The eurosystem is set up with the Central Banks managing money supply in their own markets. The Irish Central Bank failed to do this as a result of determined policy from the government to feed asset inflation. An attempt was made to dampen this in 2001 with the implementation of the Bacon report reforms. It threatened a mild property bust and so the reforms were reversed and it was full speed ahead into the bubble.

I agree that cheap money did not help, but you mistake the power of the ECB to control interest rates. It largely follows the bond market and the bond market was flooded with cheap american, japanese and latterly chinese and middle eastern money.

To see what might have happened to us had we not had the euro, look at Iceland. They too had a Central Bank politically enthralled to their ‘entrepreneurs’. The viking capitalism model is not much different to the celtic cub model – borrow vast amounts of money, lever up every asset to the max (beyond if you can get away with it), lever your personal guarantees even further, and, er, profit…

The Galway tent bears far more responsibility for the situation we are in than the ECB. To say differently is to miss what happened and so risk repeating it. It “was the other older children that made me do it” is an abrogation of responsibility. It is the spin that ythe failed elite are pushing at the moment in an attempt to ensure their survival and you are falling for it.

@Ernie
First of all, not all social partnership is evil, only the recent pork filled one in Ireland.

Secondly, in a constant currency, your returns on investment are based on inflation in the market you sell into, less inflation of your costs. If inflation of your costs is greater than inflation of your prices, you go bust.

Finally, if you have a choice of countries to employ people in, cost of living for the people you employ is irrelevant except in so far as it influences their wage demands.

I don’t know why you keep banging on about the Public Service. As far as I know they don’t export anything.

I am not saying that prices chase wages (thanks again for another strawman). I am saying that wages chasing prices is the wrong method of maintaining living standards, because the root cause (which you partially identify above) is not addressed. In that situation, once wages have risen, prices will again rise. As one of our FF greats said about some overpriced piece of OPW work (Bertie’s office, was it?) “it’s not about value for money, it’s about affordability”.

It is always and everywhere about value for money.

@ Brian J Goggin
Is a house a luxury?

@Eureka:
Shelter is a necessity. A four-bed semi-D with en-suite master bedroom, lounge, kitchen-dining room, main bathroom and downstairs loo is not a necessity.
http://www.apolloduck.ie/display.phtml?aid=147829

bjg