Author: John McHale

In today’s Irish Times Derek Scally reports on an interesting interview with German Finance Minister, Wolgang Schäuble.   (Edited transcript available here.)     Overall, Mr. Schäuble comes across as thoughtful and strongly committed to finding a way through the crisis that preserves the euro zone.    But the claim that further official assistance in the form of relieving some of the burden of banking-related debt could worsen Irish prospects is not convincing.  

Put yourself in the shoes of a potential investor in Irish debt.   On hearing of a reduced burden on official debt, would you: (a) upgrade your view on the ability of the Irish State to avoid default on private debt based on its improved financial position; or (b) panic because the situation must be worse than previously believed, or else the increased official support would not be forthcoming?   I would think that potential investors are well aware of the objective facts of Ireland’s situation.  One of these facts is the extent of available official assistance.  

Of course, the German government can choose not to support actions aimed at “further improving the sustainability of the well-performing adjustment programme” (July 29^th communiqué).   But this argument for withholding such support should be strongly challenged.  

(It is noteworthy that Jörg Asmussen, a member of the Executive Board of the ECB, made a similar argument in his IIEA speech in April – see here.) 

Details of the today’s sale of “amortising bonds” by the NTMA are available here.   See here for the “information memorandum”.  The NTMA statement announcing the intention to sell the bonds in response to demands following the annoucement of the revised Pensions Board funding standard is here.

The new bonds will facilitate the development of “sovereign annuities”.   While there is no easy answer to the funding crisis in defined-benefit pension schemes, risks placed on pensioners through default risk on sovereign bonds should not be neglected. 

A briefing statement on sovereign annuities from the The Society of Actuaries in Ireland is available here.   Guidance to trustees and providers of sovereign of annuities is available from this Pensions Board link (see Related Documents).  A FAQ on the revised funding standard is available here.

I reflect on achievements and remaining challenges in a piece for today’s Irish Independent.

Charles Wyplosz issues a stark warning here – a warning well worth heeding.  

But is he too pessimistic?    The fact is that the ECB has the power to cap bond yields.   With bond yields capped at a reasonably low level – say 4.5 percent – the Italian government should be able to avoid default, even with a formal adjustment programme of structural reforms and fiscal adjustments.   I doubt the programme would have to involve much beyond what the country is already doing.   Mario Draghi has held out the promise – albeit maybe a bit too vaguely – of such support in return for conditionality.   All sides have to move.

Simon has an interesting post that challenges arguments against unconditional bond-buying (QE) by the ECB.   He makes a convincing case that such bond-buying for specific countries to avoid a “bad equilibrium” would not violate the ECB’s price stability mandate.   

But I think his analysis misses another key (if implicit) aspect of the ECB’s mandate: in a highly incomplete political union, the ECB must minimise the risk of redistributions between members through its monetary policy (see this earlier post).   Losses on bonds will be shared across the monetary union.   Concerns that monetary union is a vehicle for such redistributions could doom the entire project.   Of course, there is risk of such losses even on normal monetary policy operations.   But this is why these operations take place within a strict risk control framework.   For bond-buying, fiscal conditionality can be viewed as an effort to reduce the risk of losses, and ultimately redistributions between monetary union members.  

Now it could be argued that fiscal conditionality actually increases the risk of losses.   This would be the case if fiscal conditionality is self-defeating — that is, slows the economy so much that the fiscal situation actually deteriorates.   Opinions differ on whether this is the case.   However, if influential members believe that the ECB’s actions would unacceptably increase the risks of losses without conditionality, then the ECB would find it difficult to proceed with bond-buying, and find it particularly difficult to make the strong commitment necessary to keep yields low enough to credibly remove the danger of the bad equilibrium (see here).

The bottom line that redistributive politics within the monetary union mean that the kind of strong commitment needed to keep yields low is near impossible without conditionality.   The choice may be for the ECB to act with conditionality or not to act at all.