Author: Karl Whelan

IMF-EU Deal with Greece

Greece has agreed a deal with the IMF and the EU involving the provision of funds of €110 billion over the next three years. This IMF website has links to the various statements. It summarises the deal as follows:

Negotiators over the weekend wrapped up details of the package, involving budget cuts, a freeze in wages and pensions for three years, and tax increases to address Greece’s fiscal and debt problems, along with deep reforms designed to strengthen Greece’s competitiveness and revive stalled economic growth.

Whether this deal really avoids a Greek default will ultimately depend on whether the fiscal adjustments that are undertaken can, in fact, alter the underlying arithmetic to the point where the Greek debt burden becomes sustainable. Whether the existence of this deal eases further pressure on other European countries with debt problems is, as of yet, unclear.

Solidarnosc

The government have finally announced the details of their National Solidarity Bond mentioned in the last budget and previously recommended by ICTU and Fine Gael. The brochure is here. The bonds will pay an interest coupon subject to DIRT of 1% per year and then have a final tax-free balloon payment of 40% when the bond matures at ten years. You can get your money out at any time with seven days notice but the tax free lump sum element is much smaller in this case. Held to maturity, the bond has an after tax Annual Equivalent Return of 3.96%.

On the face of it, the initiative is a bit puzzling. This after-tax rate of interest is lower than the current yield on ten-year government bonds, which is now at 5.2%. However, this scheme will most likely move money out of domestic bank savings accounts (at a time when they really need them) and the government will then be forgoing the DIRT tax that these funds would have paid on the interest payments from those accounts.

For example, if the alternative investment strategy was to obtain a 4% rate for a similar long term savings account, then with DIRT at 25%, the government would be foregoing 1% per year in tax payments. This would bring the real net cost of this scheme to 4.96% per year. Add in the additional administrative cost of dealing with lots of small investors and this doesn’t seem to be a particularly cheap source of borrowing.

In addition, the NTMA already offers a range of products aimed at small investors that carry slightly lower rates with maturities of three or five years. The Solidarnosc bond offers a higher AER in return for tying up your money for a longer period. It seems more like a term premium than national solidarity.

I suspect, however, that my behavioural friends out there will tell me that the existence of a bond with a catchy name like this will uncover a large previously untapped source of funds for the government. Perhaps. I guess we’ll find out. Alternatively, a simple advertising campaign to inform the public about the existence of state savings schemes may have worked just as well.

Finally, I’d note that I don’t agree with Fine Gael’s Simon Coveney that the proceeds from this bond should be ring-fenced for infrastructural projects. Money is fungible. The fact that some money is raised from a new source with a catchy name shouldn’t in any way change the processes used to assess which types of public spending should be prioritised.

Promissory Notes and Deficits

After the announcement that the €4 billion used to recapitalise Anglo Irish Bank last year has to be included in the General Government Deficit, I was surprised to see speculation on this blog and elsewhere that the €8.3 billion in promissory notes issued this year might not count towards the deficit. Yesterday in the Dail, Brian Lenihan made it clear that this full amount was being added to the general government debt:

The recapitalisation of €8.3 billion by issuing a promissory note has been recorded as increasing Ireland’s general Government debt by that full amount in 2010 and, pending the agreement of the restructuring plan, it is appropriate not to include it in the deficit measurement until the matter can be reviewed on foot of any decision made by the European Commission on the plan.

So, the full amount has been added to the stock of debt but we are awaiting a decision on whether it adds to the deficit.

Personally, I like my stock-flow identities to add up, so I can’t see any reason why the full amount wouldn’t be added to the deficit. Perhaps others who understand the statistical issues better than me could explain how these additions to the debt—which are clearly “non-financial transactions” as defined by Eurostat—will not be counted as part of the general government deficit.

Harney on Health Funding

With so many major macro and financial stories filling the headlines, it can be easy to forget about the major microeconomic issues that need to be considered when thinking about how to deliver as high a level of public services as is possible with less resources.

Minister for Health, Mary Harney’s op-ed discussing various proposals for reform of funding and delivery of health services (such as this proposal from the Adelaide Hospital Society and Fine Gael’s Fair Care proposal) is worth reading carefully to understand the government’s position on this key area of public spending.

Ireland’s Exposure to Greek Debt

On today’s RTE radio News at One, Sean Whelan reported that Irish banks have exposure of about €7 billion to Greek debt, that restructuring of Greek sovereign debt could lead to a fifty percent write-down of Greek debt and that because the Irish government are supporting the banks, the contribution of €450 million by the Irish government to the Greek bailout needed to be placed against the possibility of a potential loss of €3.5 billion for the banks.

Much of this is correct but it is perhaps worth clarifying what we know about Irish bank holdings of Greek debt. First, I’m guessing that Sean Whelan is quoting from figures released from the BIS which show that Irish banks hold $8.6 billion in Greek debt.  At an exchange rate of €1 = $1.31, this translates into €6.6 billion, so Sean Whelan’s figure is about right.

However, a few caveats about this are required. First, it appears that these figures relate to all Greek debt not just government debt.

Second, I believe the definition of Irish banks here include Irish outlets of non-Irish banks (such as various IFSC institutions) which are not receiving assistance from the Irish government.

Third, the figures available for the major Irish bank holdings of government bonds show that it is essentially impossible that these banks are holding such large quantities of Greek government debt. Greece’s rating was downgraded to BBB+ on December 16, this rules out AIB holding much Greek debt. The banks report their holdings of government bonds by ratings and they hold almost no government bonds with low rating (e.g. AIB only €109 million of these holdings were below A rating, Anglo have only €132 million).

So, to conclude, financial institutions in Ireland hold about €7 billion in Greek debt but we don’t know how much of this is Greek sovereign debt. We do know that the banks that are receiving assistance from the Irish government do not hold much Greek sovereign debt. For these reasons, the direct cost to the banks receiving assistance of a Greek restructuring would be a lot less than the €450 million figure cited for our direct contribution.

Keeping in mind that the caveats above are not accounted for, this post from the Peterson Institute is still worth reading.

Update: The Minister for Finance has now confirmed that Irish bank exposure to Greek sovereign debt is negligible relative to the size of their balance sheets–less than €40 million apparently.