Arguments for Front-Loading in EU-IMF Plan?

I did a short pre-budget presentation today at UCD. Here are the slides. One point I emphasised is whether the level of front-loading of adjustment in the four-year plan agreed with the EU and IMF makes sense.

Up until the past few weeks, it was reasonable to argue that a significant front-loading was necessary (if not sufficient) to regain access to the sovereign bond market. However, now that our banking problems and the ECB have caught up with us and access to the sovereign bond market is not an issue for the next few years, I’m struggling to understand the logic for the extent of front-loading in the current plan (€6 bilion in adjustments in 2011, €3.6 billion in 2012, €3.1 billion in 2013 and 2014).

The economy is still in poor shape, so I’m not sure what the current argument is for further undermining it with such a front-loaded adjustment. As I speculated in the talk, perhaps the EU wanted to lock in as much adjustment as possible with the current government because comittments beyond the 2011 budget were most likely going to be open to negotiations with the next government.

51 thoughts on “Arguments for Front-Loading in EU-IMF Plan?”

  1. Well I for one can think of a psychological reason for front-loading. The nation is sinking into depression thinking about the future cuts and we’re going to be miserable until we feel the worst is behind us. The sooner the better I say, I can’t stand all this waiting for it.

    The debt situation is another matter, but people really feel budget cuts in a very direct way.

    Frankly I can’t wait for the budget to be over so i know where I stand.

  2. We had talked ourselves into 6bn before there was any whiff of a bail out. It would have been pretty contradictory if after the IMF/EU ride into town we were to come out with a relaxation of what we ourselves thought was the necessary medicine. Usually works the other way round, the IMF guys say we’re not doing enough.

    Those graphs make Mexico look the place to be if this gets outa hand.

  3. Agree. We can’t turn back from it now. We’re like Macbeth at this stage.

    “I am in blood / Stepp’d in so far, that, should I wade no more, / Returning
    were as tedious as go o’er.”

  4. I can’t understand what you’re up to here. The €6 bn is a specific condition in the MOU with the Troika. I can’t see how this can be a matter for continued debate; though its composition certainly is. Are you still fingering the pin on the grenade?

    I know. Everyone’s heard it all before too many times, but why can’t we focus a bit more on the deadweight costs in the state, semi-state and private sheltered sectors? The MOU is tepid in the extreme in this area, but there are significant economic benefits that would ameliorate the impact of the necessary fiscal adjustment and boost consumption and investment in the domestic economy. Is this board too male-dominated to contemplate a bit of multi-tasking?

  5. As Paul Hunt said…plus, we really need to move our cognitive anchor on this a little.

    We’re not making an aggressive adjustment of €6billion euro, or taking €6billion out of the economy. That’s not what we’re doing.

    What we’re doing is only putting approx €16billion of borrowed money into the economy instead of €20 billion…or whatever the exact number is at the moment.

    This is as important as making people understand that without those “nasty foreigners” and their bailout, the govt would be “taking €20 billion out of the economy” tomorrow.

  6. Likewise Paul I don’t understand your point. Let’s not discuss budgetary policy on the day before the budget because we need to be talking about the ESB?

    With all due respect, I don’t agree.

  7. Karl

    I would have thought the logic is fairly obvious. Front loading the adjustment is the best chance we have of returning early to the private bond markets and accessing cheaper money than what’s on offer from the EU/IMF.

    Andrew

  8. @Paul Hunt,

    “but why can’t we focus a bit more on the deadweight costs in the state, semi-state and private sheltered sectors?”

    I think FF wanted to leave office before this is tackled. There’s a lot of votes here and sticking it to the next government will work out well for them. I’d expect the IMF will have plenty of time next year to put some ‘slides’ together on the need to benchmark against European peers.

  9. @Karl,

    Again no supression of debate intended. If you think shifting from the €6 bn specified in the MOU is fine, then on you go. And, of course, all feasible combinations of expenditure cuts and revenue raising should be on the table. But budgetary policy shouldn’t be considered in isolation – and it involves more than the ESB.

  10. @ Karl

    i assume the NTMA holds very real hopes of returning to the markets before the IMF/EFSF plan actually ends. In fact, i’d wager a small amount of money that they’ll try to tap the market by the end next year/early 2012 in fact, even if only in a moderate fashion. A large front loading will be required for that to happen.

  11. @Andrew McDowell

    ‘Front loading the adjustment is the best chance we have of returning early to the private bond markets and accessing cheaper money than what’s on offer from the EU/IMF.’

    I am afraid that we have not got a hope of returning to the bond markets any time soon. We are out for at least three years in any event so the front loading won’t influence anyone other than the European mandarins.

  12. @Andrew McDowell:

    Front loading the adjustment is the best chance we have of returning early to the private bond markets and accessing cheaper money than what’s on offer from the EU/IMF

    .

    It is arguable that the country is now so indebted that there may be no hope whatsoever of ‘returning early to the private bond markets’. What if Ireland’s total debt burden already exceeds what it will ever be able to repay — that it has, so to speak, already arrived at its repayment frontier?

    Scenario:
    total repayable debt: x billion euro
    total current debt: y billion euro, whereby y > x.

    If this is the case, the rational debtor will maximise y by borrowing as long as creditors are willing to lend — in other words ‘max out’. From this perspective the ‘pro’ of frontloading is that it may help dupe the creditors into underestimating the total repayable debt (“Look! These Irish guys mean business, they’ve frontloaded.”). The ‘contra’ of frontloading is that the creditors may not after all be duped (“Not that old frontloading trick again! We weren’t born yesterday.”) and the country will ‘max out’ at a couple of billion euro less than would have been the case had it ‘backloaded’.

  13. A couple of points

    1. Perhaps an early return to the bond market is the goal here. If so, I haven’t seen much discussion of this issue before now. I would be with CP on this one, in that I don’t think an early return is likely, but I also think it’s worth thinking about the cost-benefit analysis here — weighing up the benefits that an additional billion in cuts in 2011 gets us in (possible) reduced interest costs from bond market lending versus the harm an overly-frontloaded adjustment does to the economy.

    2. “The €6 bn is a specific condition in the MOU with the Troika. I can’t see how this can be a matter for continued debate.” In relation to this, I would point out that

    (a) The IMF-EU deal may be renegotiated by the next government. While it would be unlikely that tax measures enacted prior to the election would be undone, there may be room to change in expenditure patterns.

    (b) Even if the pattern of underlying tax and expenditure changes remain as in the EU-IMF plan, as far as I can see there is nothing preventing the government using remaining funds in the NPRF or exchequer balances to fund, for example, a once-off capital spending or “jobs” package. Now, this has never been my favourite type of fiscal policy, for various reasons. However, if one decided that the €6 billion figure represented too much of an adjustment for one year, then such an approach could be warranted.

    All of that makes the question of whether the €6 billion adjustment package is too big a legitimate and appropriate point for discussion.

  14. I haven’t seen anyone raise this issue in this manner Karl and it is a valid one to raise IMO. One piece of information one might like to know (but one doesn’t know it since life is uncertain) is what is going to be the state of the world economy in 2011 vs 2012, 2013 etc. The IMF thinks the world economy is going to slow down in 2011, suggesting that austerity in 2011 will be particularly damaging.

  15. Nice presentation Karl. Although it is a done deal, I think there is another reason for doing less front loading given the EU-IMF deal that I think holds even if we hope to return to the market as Eoin says. A big part of the original argument for front-loading, made most convincingly by yourself, was that promises of back-loaded adjustment were not credible. Although not perfect due to the possibility of ex post softening of conditions, IMF-style conditionality is a powerful commitment device — something I think has been under-appreciated in the debate. It should allow for an more optimally back-loaded plan, recognising the trade-off between creditworthiness and demand.

  16. The economy is still in poor shape, so I’m not sure what the current argument is for further undermining it with such a front-loaded adjustment.

    I’m not sure either, but I suspect that what Paul Krugman calls Dark Age Macro has more influence than you think. All that guff about expansionary fiscal contractions has taken root and it won’t be pulled up by anything as feeble as empirical evidence.

  17. @ Karl

    Using the NPRF to sugar the pill? Is that not like an alcoholic undertaking to to cut his daily spend in the pub from 6 pints to 4 pints, but just so as to help make the adjustment he will dip into the wine he had stored up in the cellar? Would you believe that this guy is really on course to be a “responsible” drinker?

  18. if you listen to niall ferguson it may be moot.on cnn last night he claimed it will fall to the usa or the chinese to sort the mess out.

  19. Ye gods. Only minutes after I mention Dark Age Macro we get one comment invoking the hangover theory of the business cycle and another referencing the wretched Ferguson. I need a drink.

  20. @Paul Hunt
    Agreed that the MOU provisions on Semi-States and sheltered private sectors were not mind-blowing. But they have identified the worst cases (Legal profession, GPs, ESB), and action here will be welcome. Especially as inclusion in the MOU seems to make action politically locked in.

  21. I have no probems with drawing down the NPRF or cash balances to finance capex (or other activities to ameliorate the impact of the fiscal adjustment), but there should be a rock-solid commitment to repay it. I don’t think we have a full appreciation of the extent to which Ireland’s reputation and credibility has been blown and any perceived ducking and diving with the basic parameters of the Troika deal is likely to have repercussions.

    In addition, it’s disappointing that it hasn’t proved possible to bring froward the results of the work of the Review Group on State Assets and Liabilities. We still seem to be locked into the wonderful ‘tennis club’ accounts produced by the DoF for budgetary purposes. Anything that came close to pro forma income and fund flow statements and balance sheets would place the whole process in a more sensible context.

  22. @John McHale
    ‘IMF-style conditionality is a powerful commitment device — something I think has been under-appreciated in the debate.’
    Indeed.
    As I understand it they drip feed the loans and turn the feed off if we do not meet conditions. Was it Hungary or Latvia or both where they stopped the funding.
    @Karl
    If we exhaust our own funds in the NPRF by spending it on the banks will we have sufficient funds left in the national piggy bank to do as you suggest and create a meaningful jobs strategy.

  23. Compound interest and arresting momentum on the slippery slope are the reasons for front loading. It is a bit like dealing with gangrene better to amputate the toe and not wait to amputate the foot.

  24. Why more or less than €6bn?
    – as the slides acknowledge default is already in the frame
    – growth is likely to be slow due to balance sheet recession for foreseable future, gov income unlikely to rise much, so must spend less
    – govs, by nature can never spend enough, curtailment is good
    – if current economy relies on 10% of GDP subsidy, that’s not a real economy
    – time would be better spent exploring how gov can save €20bn without damaging real economy

  25. J****us that NPRF must be great…. how many times can we spend it again…. I was sure it has been earmarked for the banks (if not already spent on them)

    Heres a suggestion…. Make investment of the public pension fund in any bank conditional on first having the banks pension funds invested…. statutory redundancy for all objectors….. Let the bank employees have their pensions risked in the same way they have risked everyone elses.

  26. @Garry

    J****us that NPRF must be great…. how many times can we spend it again….

    (eyes still watering)

    No doubt it comes with a multiplier

    🙂

  27. Europe has “no credibility” in ruling out debt restructurings, Kenneth Rogoff, a Harvard University professor and former International Monetary Fund chief economist, said in a Bloomberg Television interview broadcast today. “Greece will be very lucky to avoid restructuring, Ireland, Portugal — they’re just in denial, saying it can’t happen. They really haven’t drawn clear lines, they haven’t really said what they wanted to do, they haven’t really made choices.”

  28. @seafoid

    “When did this front loading word enter the language?”

    Don’t know when it entered the language but it first entered The Irish Times on 25 February 1963:

    “Back to the Swanmaid, though, which has as its much-publicised attraction the fact that it is frontloaded. The doors drop down and the rack slides forward …”

    Elizabeth Leslie in Fittings for the Kitchen

    From dishwasher to the Troika. Quite a success story.

  29. ‘The two-day Brussels meetings conclude tomorrow when ministers from all 27 EU countries give formal approval to the Irish aid package announced Nov. 28, designed to stabilize the banking system and push down the deficit.

    “We’ve come here to decide what we prepared Sunday a week ago,” German Finance Minister Wolfgang Schaeuble said. “We don’t need to have new debates every week. I think we’ve prepared the necessary decisions.” ‘

    welcher Teil nicht verstehen Sie nicht

  30. @ Carolus

    I heard of frontloading washing machines but never frontloading ADJUSTMENTS. They used to be called SAVAGE CUTS.

  31. There’s more to the bondmarket than ten year bonds. I suspect the NTMA will be testing the commercial paper waters the day after the budget is passed (if it is passed). I also suspect that the first formal auctions will be for treasury bills.

    Why 6 bn? You argue for lower, Mr. Whelan, I’d argue for higher. We are in a position where we have funding so growth doesn’t matter a whit. It is better for us to paste growth and get the funding gap closed more quickly. We no longer have a bond market that we need to impress with GDP + this% and exports + that%

    We are, in effect, immune to the vagaries of the bond market for the next three years. Let us make the least of it…

  32. @Garry.

    re:
    Heres a suggestion…. Make investment of the public pension fund in any bank conditional on first having the banks pension funds invested…. statutory redundancy for all objectors….. Let the bank employees have their pensions risked in the same way they have risked everyone elses.

    And what a suggestion!–
    You should have been on the Irish negotiating team. In fact you should be co-opted onto the both main bank boards.
    “you want to burn my, try why not burn some of your money first”.
    On second thoughts (some mortals do have second thoughts) maybe that is why the Europeans wanted the NPRF put into the banks first.

  33. I’d suggest that frontloading makes sense whatever the bond markets think.

    1) The faster we get the public finances in order, the less the debt we will have to default on.
    2) The main motors of the economy are export industries, which are largely unaffected by domestic demand conditions. In contrast to a larger, more self sufficient economy, in which money actually sticks in the economy instead of flowing in and out, no matter how hard we cut, the amount of lasting damage that reduced domestic demand can do is very limited.
    3) A well designed adjustment will cut industry costs and improve competitiveness. The faster this happens the better.

  34. @ BeeCeeTee

    ‘no matter how hard we cut, the amount of lasting damage that reduced domestic demand can do is very limited’

    Insolvencies…. Redundancies…. Mortgage defaults….Family breakdowns….Suicides……it happens

  35. Perhaps the view of someone in “the markets” is relevant.

    http://www.sbpost.ie/themarket/more-austerity-needed-in-ireland-says-soc-gen-53227.html

    Now, his term “hysterity” isn’t terribly elegant but it does match what people like Colm Mc have been saying domestically….that our “austerity” plan involves borrowing a lot more money.

    Again, the budget isn’t taking money out of the economy, it’s slowing down the rate at which we’re putting borrowed money into the economy.

  36. 20billion front loading required

    50% cut in PS Payroll 50% cut in SW Budget A Once off wealth tax on on 100,000 irish people with assets in excess of 2 million of 30% will result in 75billion adjustment and a tax of 60% of people earning in excess of 150k(trickle down is trickling down to the french riviera , amalfi coast and southern spain and newry by all accounts) including the professions farming community johnny ronan and his ilk and leave the PAYE sector alone under 80K

    A Deficit is now a surplus , the wealth tax provides 50billion and Ireland becomes a community or decent society rather than its current i am alright jack state it is in , sack the incompetents who got the country into this mess , senior civil servants , ex civil servants to have their golden handshakes taken back rody neary etc , bank executives sacked etc only when this happens will ireland regain its pride and not its current grovelling shame to IMFEUAND THE RICH ETC

  37. I think there is one good reason for a 6 billion adjustment.
    If we are lucky it will result in a 4.5 billion adjustment.

    If we go for a 4.5 billion adjustment it would end up around 3.5

  38. @Joseph I just lifted the idea from the IMF….. I like their style….. want some of my money…. put yours in first under the same conditions… so at least I know if you default, it will hurt you more than me.

    If a mug like me can see this, then its pretty obvious…

    I understand that burning the bank employees pensions is not a very ‘nice’ thing to do, there are laws preventing seizing of pension funds, even of companies that have cost the state billions….
    And its not best practice to have employee pension funds tied up in company stock… But as the IMF have shown, in an emergency situation, pressure can be employed to get the desired result…. you want to get paid this week…..

    Where are the public interest directors and the politicians?

  39. Is there not the need here for a simple model showing the interaction between cuts, growth and debt servicing costs ? Forget about the banks for a few heavenly minutes. The bond markets only care about growth in the end and if the cuts take too much out of the economy there won’t be any growth.

  40. Of course it would be better to have a more balanced approach but political will fades fast and the biggest area of uncertainty is the public sector.

    It is good that the IMF has put a deadline for results; at present, it’s hard to know what’s going on.

    Seven hundred HSE workers withdrew their applications for early retirement and the commitment to no compulsory redundancy will inevitably make the issue of reform a very uncertain one.

    The good workers usually leave in these situations and what can be done as regards transfers where individuals stay and have have no motivation to begin retraining?

    Who seriously expects “transformational reform”?

    What are the health authority managerial surplus retreads at the HSE going to be retrained to do? Give FÁS courses?

    The managers who are leading refirm are insiders who climbed the ladder during the bubble years.

    What well-run company would have people like that in charge of change?; the same applies at the Irish banks.

  41. Karl,
    As I understood it – and correct me if I’m wrong as my understanding is purely a layman’s – the 6bn adjustment in this budget arises from the commitment to reach the magical 3% target by 2014. Without an adjustment of this magnitude , or higher, it simply won’t be possible to achieve this.

    Last summer, when the overall adjustment was projected at 7.5bn euro and the government was looking at a 3.5bn cuts/tax increases for budget 2011 there were three different sets of figures doing the rounds. The ESRI predicted that under a ‘high growth’ scenario the 3% could be easily achieved by 2014, but under a ‘low growth’ scenario the deficit would be 4.5% at the end of 2014 and therefore in the meantime more severe cuts than envisaged might be required to stay on track. The Department of Finance projections were for 11.6% in 2010, 10% in 2011, 7.2% in 2012, 4.9% in 2013 and 3% in 2014. The IMF disagreed and estimated 11.9% in 2010, 11.1% in 2012, 7.3% in 2013 and 5.9% in 2014, suggesting that far more stringent austerity policies would be required to reach the 3% target.

    Fast forward to the present. The overall hole to be filled in has doubled in size to 15bn euro. The White Paper on Receipts and Expenditures, published last Friday, (http://www.finance.gov.ie/viewdoc.asp?DocID=6608) projects that without the measures in the National Recovery Plan the figure next year would be 12.2%, a much higher figure than the DoF, IMF and ESRI contemplated in their projections last summer. The 2014 3% target remains however. Logically, this suggests that an adjustment of 4.5bn euro in this Budget would be far too low and merely make for more difficult adjustments in 2012 and 2013, and in 2014 as well.

    Secondly, I don’t get the argument that the four year plan with the 6bn euro adjustment in year one was devised solely to impress the markets and since Ireland will not be looking to the markets for the next two to three years then the government can ease back on the 6bn to some less stringent figure and, moreover, renegotiate a loans agreement with IMF/EU based on an initial 6bn adjustment figure.

    So to some questions. Surely Ireland still needs to impress the bond markets, irrespective of whether we’re in or out for the medium term, because the objective has to be to get back into the markets at a lower rate of interest than what’s on offer from the IMF/EU package as soon as possible? Second, it’s hardly credible to claim the 3% by 2014 target can be reached if the deficit figure is allowed to increase in 2011 over 2010? And third, leaving aside the bond markets and our EU obligations, getting the public finances back under control is , or should be , a national priority anyway because if that isn’t achieved by whatever means open to us and under our control as matters stand, then we’re simply recreating the zombie economy conditions of the 1980s all over again?

    Many thanks for posting your presentations, which, as ever, are wonderfully lucid and accessible.

  42. With our capital requirements satisfied for 3-4 years (maybe), you are right, it doesn’t make a lot of sense to scorch the earth next year.

    If anything, “front loading” the adjustment could in fact make the total required fiscal adjustment less tenable, especially politically.

  43. Having read the Guardian article regarding the wage rates in the upper echelons of our PS (Paul Hunt posted a link on another thread), I think its probably safe to say the negotiations with the IMF/ECB were pretty one sided. To say Ireland doesnt have a leg to stand on is putting it mildly. Any hope that they might have talked the IMF into a less severe frontloading of cuts must have gone straight out the window when Chopra had a look down through those numbers…..
    “mmm, so i see you pay the guy who runs your post office 500,000 a year??..interesting…and your prime minister gets 230,000..not much value for money there i think…and whats this, the guy who looks after your trees gets 417,000 a year??!…ok, i think i’ve seen enough, shut up now, here’s what you’re going to do…”

    We’re a ridiculous country, there’s no escaping it.

    And for what its worth, the cynic in me thinks Minister Lenihan might have done some negotiating on behalf of his party rather than his country, something along the lines of, look we’ll cut those big salaries back ourselves in the budget, but please dont make us tackle public sector wages as a whole….come back in a few months and make the next government do that….we’ll sign whatever you want now, just leave our last few voters alone…

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