Six months ago on this blog I made a quasi-prediction that the number of new residential mortgages in Ireland might shrink to zero-plus-noise. Arguably this has now happened. I claim no great insight and concede that it might have been dumb luck. My quasi-prediction was based on some informal liquidity-risk analysis of the Irish banks. The banks are in a corner solution with respect to long-term illiquid assets. There is little good reason for an Irish-domiciled bank to issue a new residential mortgage, rather, they might be keen to sell any of their existing long-term illiquid assets at a loss. This has only second-order policy importance relative to Greece, etc., but is worth documenting.
Author: Gregory Connor
In announcing its 80/20 negative equity insurance scheme, Nama management could have, but did not, provide estimates of the implicit cost of the insurance component of the package product. The cost is hidden in the package sales prices, which Nama management describe as “fair value prices” for the property. With a bit of work, it is possible to reverse-engineer the insurance-component cost from the scanty information provided by Nama.
I have written about this before, twice, but now some more details have emerged and the Nama scheme has gone live. Nama has announced that it will providing “free” insurance against price falls for selected properties, in order to help sell its Irish residential property portfolio.
From the information provided, it seems Nama will hide the insurance premium in the recorded property sales price, thereby simultaneously distorting Nama’s published accounts, CSO property sales price statistics, and the soon-to-be-released property price sales registry.
Wonkish paragraph: Hiding the insurance premium in this way also has a knock-on effect on the “moneyness” of the embedded option. Since the actual sales price includes a hidden insurance premium, and the eventual valuation of the property (used to determine the insurance pay-out) does not include any insurance premium, the insurance scheme is immediately “in the red” as soon as the property is sold. Nama has to hope for price increases, not just the absence of decreases, in order to claw back the embedded insurance premium which is hidden in the distorted sales price. This knock-on effect can be quite substantial.
Krugman has a very strongly-worded op-ed piece in The New York Times today, arguing against the fiscal austerity strategy of the Eurozone. The article is inside a paywall (you are allowed ten visits per month without paying) but here is a fair-use quote that gives a sense of his views:
“When the bubble burst, the Spanish economy was left high and dry; Spain’s fiscal problems are a consequence of its depression, not its cause. Nonetheless, the prescription coming from Berlin and Frankfurt is, you guessed it, even more fiscal austerity. This is, not to mince words, just insane. …… Rather than admit that they’ve been wrong, European leaders seem determined to drive their economy — and their society — off a cliff. And the whole world will pay the price. “
Pretty scary stuff to read. I am not sure what alternative he is offering for countries running out (or run out) of fiscal space, like Ireland. He seems to think that Germany should come to our rescue — good luck with that. It is quite pessimistic in tone so perhaps he knows that his alternative non-austerity strategy is also not a politically feasible outcome.
John McHale has a recent thread on the probability of a Greek default. In this thread I want to consider a different but related question. Only some of the promised Greek bailout funds are intended for funding Greek government expenditures; the rest of the funds are intended to pay back outstanding Greek sovereign bonds. Conditional upon a Greek default, how should the bond-payback-earmarked Greek bailout funds be spent by the Eurozone? Let X denote the total sum of Eurozone bailout funds intended for Greece, Y the amount earmarked for Greek government expenditures, and Z the funds available to pay back Greek bondholders. Define a disorderly Greek default as one in which a private sector involvement (PSI) agreement is not in place or is inoperative. My question is:
In the event of a disorderly Greek default, how should the EU spend Z?
There is a historical precedent for massive wastage of taxpayer funds in analogous situations. Bulow and Rogoff call it the “buyback boondoggle.” The buyback boondoggle refers to the tendency of fiscally-distressed states to demonstrate their newfound fiscal discipline by handing over large quantities of taxpayer funds to outstanding bondholders, even when there is no fiscal benefit in doing so. In reality, the payment of funds to existing bondholders by states in fiscal distress can actually lower rather than raise the future borrowing prospects of the state (see the paper above and this related paper).