The Irish Economy

Prior to today’s announcements, the Irish Times were flagging the following:

Mr Noonan will make a “watershed” argument for a EU-wide solution around passing bank losses on to bondholders in response to the tests on Bank of Ireland, AIB, Irish Life and Permanent and EBS building society. Government colleagues last night described it as the first radical policy departure from the previous Fianna Fail-led government.

A few months ago, just prior to the announcement of the EU-IMF agreement, the Times had reported:

The source said there was a “common understanding” between delegations from the EU Commission, the European Central Bank and the IMF that senior and junior bondholders should each pay a share of the rescue costs.

Two conclusions to draw from this. First, people shouldn’t pay much attention to the Irish Times reports on these matters. Second, the Times need better sources.

Oh, and by the way, Anglo Irish Bank released their annual report for 2010 today. Apparently, they lost €17.7 billion. Don’t worry though, it’s manageable.

No announcement today of any new ECB facility for the banks. Three different press statements however, this one and this one welcoming the announcement, and this one possibly a preparation for a more substantive movement in ECB policy.

Some of the economic and fiscal implications of today’s announcements are covered in this presentation.

The 2013 peak in public debt is upwardly revised from 103 percent to 111 percent of GDP  (€10 billion of the €24 billion is funded from NPRF), in the scenario in which all of the extra capital comes from the State.

The Central Bank’s stress test announcements will be available on this webpage at 4.30.  A webcast of the press conference will be available here. The Minister for Finance’s statement is here.

INVITATION
Discussion Forum
Wednesday, 6th April 2011
6.00pm for 6.30pm start – 8.30pm

VENUE

Cass Business School
106 Bunhill Row
London, EC1Y 8TZ

Banks, bondholders and risk- Ireland’s call

Can restructuring/burden-sharing lead to growth, investment, jobs?

Debt looms over every discussion about Ireland. Is public and private debt sustainable? Is it fair? Who pays? Who decides?

The practical question comes down to how to deal with debt so that the real economy – real businesses, real jobs, real livelihoods - have the best outcome, soonest.

No course of action is easy. Timing is critical, too. There are risks in every direction. Which is the best course? What is do-able, what will work?

Business for Ireland is hosting an open discussion forum focused on these practical questions. Key speakers to lead the discussion and stimulate participation will include:

Dermot O’Leary, Goodbody Stockbrokers, author of the influential analysis ‘Irish Debt Dynamics’ February 2011
Donal Donovan, former Deputy Director at the IMF, adjunct professor at the University of Limerick, visiting lecturer at Trinity College Dublin.
Brendan Keenan, Economics Editor, Independent Newspapers, Ireland’s leading economic journalist
The event will be chaired by Margaret Doyle, Columnist, Reuters BreakingViews.

Places are limited. Please RSVP to businessforireland@sky.com

Business For Ireland is a London-based group supporting economic growth in Ireland, bringing together business leaders and opinion shapers doing business in and with Ireland to discuss the prospects for the real economy in Ireland.

Following on Kevin’s post, here are a few more thoughts for possible discussion in advance of the stress test results.

1.   I think the criticism of the insufficiently adverse assumptions for 2010 has been overdone.   While it does raise questions about our ability to forecast the future when we have such a hard time estimating the past, getting 2010 wrong really shouldn’t matter.   If BlackRock are taking as hard a look at the balance sheets as we are led to believe, current conditions should already be incorporated in the loan loss estimates.  The value of the baseline and adverse scenarios is in understanding how things might evolve from here.   In other words, it is the delta from 2010 that matters.

2.  A related criticism is that the ESRI/TSB house price index is underestimating the true decline in house prices (the index has house prices down by 38 percent from peak by Q4 of 2010).    But again the current state of the housing market should be reflected in the current state of the loan book.   If house prices are really down 50 to 60 percent, then the declines under the adverse — or even the baseline — scenario truly get us into Morgan country.

3.   There appears to be a “my (preferred) stress tests are more stressful than yours” attitude to the choice of the adverse scenario in the stress-testing exercise.   But I think this sometimes reflects a misplaced view of the purpose of the adverse scenario.   In addition to seeing what bank losses would be under an adverse (but somewhat arbitrary) scenario, the adverse scenario plays an important role in triggering recapitalisation.   In the current exercise, my understanding is that recapitalisation will be triggered if the Core Tier 1 falls below 10.5 percent (please do correct me if this is not correct as the documentation is not that clear).  Thus the toughness of the test must be judged by looking at the combination of the adverse scenario and the target ratio under that scenario.   A 10.5 percent target is an extremely tough target by any measure.    Under the last round of tests, the baseline target was 8 percent and the stress (adverse) scenario was 4 percent.   The former has been raised by 4 percentage points to 12 percent; the latter has been raised by 6.5 percentage points to 10.5 percent.   

It is noteworthy that IL&P was the only one of the tested banks to fall foul of the 4 percent stress scenario last time round (see here).   It is not really surprising that they are in deep trouble with a stressed target of 10.5 percent.   This sensitivity to the stress scenario must reflect the importance of mortgages (and in particular buy-to-let mortgages) on the balance sheet of IL&P, and also the large additional assumed declines in house prices under this scenario. 

Ross Levine advocates the creation of an independent agency (’The Sentinel’) to monitor the conduct of financial regulation in this paper.

The assessment of portfolio risk is on everyone’s mind at the moment.

In timely fashion, UCD host a seminar tomorrow on this topic.   The details are below:

The next seminar hosted by the Centre for Financial Markets (CFM) will take place tomorow, March 31 between 2-3.15pm at the Smurfit School of Business, Carysfort Avenue, UCD. The venue for the paper is Room C302.

The paper is to be given by Christophe Perignon (HEC) (www.hec.fr/perignon):
The Risk Map: A new Tool for Backtesting Value-at-Risk Models

Details of the seminar series and the paper are available here.

The Live Register figures for March are out.

The standardised unemployment rate in March was 14.7%, unchanged from February. This compares with the latest seasonally adjusted unemployment rate of 14.7% from the Quarterly National Household Survey in the fourth quarter of 2010, and an annual average of 13.6% for 2010.

By way of comparison, the baseline forecast for 2011 unemployment in the Central Bank’s PCAR macroeconomic scenario is 13.4%. In the adverse scenario, this rises to 14.9%. We are almost there, and it is only March.

At least the Central Bank scenarios got the 2010 unemployment numbers right! This contrasts with their 2010 GDP numbers, as Dan O’Brien pointed out earlier in the week.

(And I admit that I am baffled by an adverse house price scenario that is not robust to the ‘What if Morgan Kelly is right?’ objection.)