Banking Crises: An Equal Opportunity Menace

Carmen Reinhart and Ken Rogoff have released a new cross-country empirical study “Banking Crises: An Equal Opportunity Menace“.   Their analysis shows that the average fiscal impact of a banking crisis is to increase the level of public debt by 86 percent, such that the public debt nearly doubles.  They also show that the typical duration of a housing bust is 4-6 years.

Such cross-country averages are useful benchmarks and it is useful to think about the reasons why the current Irish crisis might deviate from such patterns.

Update: Reinhart and Rogoff have also just released a much shorter companion paper “The Aftermath of Financial Crises”  [to be presented at the January AEA meetings in San Francisco].

Building Ireland’s Smart Economy

The Irish government’s economic recovery plan can be found here. This report has a wide-ranging agenda.

For university-based economists, the following section is especially interesting, since it may represent an important shift in the government’s approach to funding research:

“The creation of more concentrated research-intensive excellence will enhance the country’s reputation internationally and its ability to attract top-level researchers and will underline Ireland’s intentions in terms of the development of the Smart Economy.  It will also enhance the international exposure of Irish
universities and institutes of technology.”
(page 75)

New Irish data releases

A busy day for CSO releases.   The quarterly national accounts are published here, while the BOP data are here. In addition, the CSO released the 2006-2007 data for services trade, which can found here.

A striking feature of the data is the wide divergence between GNP and GDP for Ireland, with the most worrying data point being the 0.9 percent decline in GNP during the 3rd quarter (corresponding to an approximately 3.6 percent contraction at an annualised rate).   The widening of the current account deficit, despite the slowdown, signals the external competitiveness problem.

Fiscal Policy and International Competitiveness

Two current policy problems for Ireland are to tackle the loss of external competitiveness and to determine the appropriate level and composition of government spending.  These issues are linked, since government spending affects the real exchange rate for Ireland, through its impact on the relative price of nontraded goods in terms of traded goods.

In a new paper  Fiscal Policy and International Competitiveness: Evidence from Ireland(joint with my TCD colleague Vahagn Galstyan), we show that the long-run behaviour of the real exchange rate and the relative price of nontradables is increasing in the long-run level of government consumption but decreasing in the long-run level of government investment.

The intuition is that government consumption tends to drive up economy-wide wages and nontraded prices (since the public sector competes for scarce labour and non-traded inputs), while government investment in the long run improves productivity (especially in the non-traded sector) which is associated with a reduction in the relative price level.

The appropriate levels of government consumption and government investment depend on a range of socio-political factors, but these results are worth noting in any debate about the connections between fiscal policy and external competitiveness.

ECB Financial Stability Review: Property Decline worst in Ireland

The ECB has released its latest Financial Stability Review.  From a domestic perspective, the report highlights that Ireland has seen the sharpest decline in commercial property values, from the fastest-growing market in early 2007 to the greatest contraction in 2008, with the gap growing over the course of the last few months. Similarly, the Irish residential property market is the worst performing in the euro area.

Spanish Banks: Well Regulated but Still Suffering

Tuesday’s FT has a long piece on the Spanish banking system: you can read it here.   An interesting difference relative to Ireland is that the Bank of Spain insisted on banks building up reserves against general future risks. However, these provisions are not formally counted as part of its capital base and the general push towards higher measured capital ratios means that the Spanish banks are also looking to raise capital.  This may reduce the chances of these banks getting involved in acquisitions in Ireland, at least in the near term.

Adjusting to the End of a Housing Bubble: Lessons from Spain

Ireland is not the only country undergoing a sharp contraction in housing and it is interesting to learn about the policy debate in other countries (especially fellow members of the euro area). This new article on VoxEU gives a good overview of the current debate in Spain:

The Spanish trade-off: Bricks vs. brains

On Deficits and Debt

Colm McCarthy provides an interesting analysis in the Irish Times today (December 3rd 2008) about the poor November tax returns.  A key issue raised by Colm is the market’s appetite for sovereign bonds, in view of the projected rapid increase in issuance across the advanced economies. Since there is a general increase in risk aversion, it will be important to ensure that Ireland is perceived as a low-risk sovereign. To this end, it is important for the government to establish a new multi-year fiscal programme that shows how the growth in public debt will be managed, with a clear plan to return the debt to a sustainable path once economic recovery takes hold.

Fiscal Policy for a Slowing Economy

The general budget balance for Ireland has sharply declined, with a surplus in 2007 being transformed into a deficit of at least 5.5 percent of GDP in 2008 and a target deficit of 6.5 percent of GDP in 2009.

The appropriate fiscal balance for Ireland was the subject of a panel discussion at the ESRI Budget Perspectives 2009 Seminar in October 2008.  Papers and/or presentations by Ray Barrell, Joe Durkan, Patrick Honohan and Philip Lane are available here.

There is also a relevant paper by Philip Lane from the ESRI Budget Perspectives 2008 Seminar, held in October 2007:  ”Fiscal Policy for a Slowing Economy” .

More generally, the appropriate fiscal policy for a small open economy that is a member of EMU is the subject of an IRCHSS-funded research project that is led by Philip Lane. You can learn more about this project here.

A New Policy Angle on Resolving the Financial Crisis

The Wall Street Journal (December 1st 2008) has an interesting article on how Latvia is dealing with pessimistic economic commentators. Click here for the article.

How to Combat a Banking Crisis: First, Round Up the Pessimists
Latvian Agents Detain a Gloomy Economist; ‘It Is a Form of Deterrence’

RIGA, Latvia — Hammered by economic woe, this former Soviet republic recently took a novel step to contain the crisis. Its counterespionage agency busted an economist for being too downbeat.

“All I did was say what everyone knows,” says Dmitrijs Smirnovs, a 32-year-old university lecturer detained by Latvia’s Security Police. The force is responsible for hunting down spies, terrorists and other threats to this Baltic nation of 2.3 million people and 26 banks.

Now free after two days of questioning, Mr. Smirnovs hasn’t been charged. But he is still under investigation for bad-mouthing the stability of Latvia’s banks and the national currency, the lat. Investigators suspect him of spreading “untruthful information.” They’ve ordered him not to leave the country and seized his computer.