No new ground in this Reuters report, but it’s a worthy summary of the current situation in Ireland, and perhaps a guide to the debates to come.
This Irish Times article reports Morgan Kelly’s keynote ISNE lecture where he discussed debt forgiveness and, in particular, mortgage debt relief. From the piece:
“We are talking sums in the region of €5 billion to €6 billion which would be necessary to spend on mortgage forgiveness, which by our standards are not very large,” he said.
“This sum to sort out tens of thousands of people with big problems does not seem enormous.”
Seamus Coffey has some thoughts on Prof Kelly’s argument here.
Readers should know I’m in favour of debt forgiveness for households, and have been for some time. It may be worth discussing the pros and cons of such a policy again.
Update: Jagdip has some thoughts on this debate on NamaWineLake.
If a picture is worth a 1000 words, what’s the value of a video? Google has put some effort into data visualization. This example works in 5 dimensions at once. It’s on government debt in Europe. The kinetics of Turkey and Ireland are astounding.
A little bit more detail has emerged (via press interviews rather than detailed technical documents) about the Nama property price insurance scheme as it is currently proposed. The basic design was leaked to the press in early July, and was discussed in my earlier thread. The emerging details of the scheme as announced so far are not reassuring. The scheme has considerable potential to manipulate recorded property sales prices, to damage confidence in Irish property market openness, and to build up a hidden future cash flow liability for Irish taxpayers. The motivation given by Nama for implementing the scheme is not entirely convincing.
In his Sunday Independent column today, Colm McCarthy again makes the argument the Government is protecting – or being forced to protect – senior bondholders in order to protect European banks.
It is entirely fair for our European partners to observe that we have brought this on ourselves but it is equally fair to note that in picking up the tab, the Irish are ‘taking one for the team’, in the phrase of Sharon Bowles, the British MEP who chairs the Economic and Monetary Affairs Committee. The team, in the form of the EU Commission, the European Central Bank and the Franco-German political leadership, persist in the pretence that the protection of creditors of the bust Irish banks, at the expense of the Irish Exchequer, represents some form of generosity to Irish citizens and taxpayers.
Fortunately, the existing deal with our European partners is impractical as well as unfair. It has not worked, it will not work and there will be further rounds of modifications as Europe gropes towards a resolution of the banking and sovereign debt crises. It will not be enough, in regaining solvency, for the Irish Government to avoid further pay-offs to bondholders in Anglo and Irish Nationwide. The Irish Exchequer’s contributions to bank rescue have already destroyed the sovereign’s capacity to borrow. There is still an opportunity to avoid default on the sovereign debt of the state, but the ability to avoid this outcome is being undermined by the obligations undertaken to investors in bonds issued by insolvent banks.
The restoration of that ability requires, in addition to vigorous reductions in the budget deficit, that the remaining costs of rescuing the Irish banks be shared with their creditors and with the European institutions whose defence of bank bondholders has helped to create the current untenable situation.
Putting aside the relative costs to Ireland’s creditworthiness of defaulting on sovereign bonds compared to sovereign guarantees, oversimplified claims that senior bondholders are being protected to protect foreign banks are undermining support for necessary fiscal adjustments.
The concerns of the ECB about balance sheet/precedent-related contagion does explain the absence of loss sharing for the roughly €3.5 billion of unguarnateed seniors in the defunct and depositor-less Anglo and INBS. The constraints on loss sharing in the pillar banks are quite different.
There is an effective instrument to impose losses on pillar-bank bondholders – bankruptcy. Although we know the credit system is already impaired, making the pillar banks bankrupt would impair the credit (and payments) system to a significantly greater degree. Also, it is conveniently ignored that depositors rank equally with senior bondholders under current law. It might have been possible for the State to make depositors whole when the State was creditworthy. That ship has sailed.
Now I do think more should have been done early on to put in place a resolution regime to increase loss-sharing options. However, the legal avenues appear to be quite proscribed. While I am not saying this is the end of the argument, given the damage done to public support for tough fiscal measures, anyone who pushes the line that losses should be imposed on broader bondholders has an obligation to explain how the legal obstacles could be overcome while protecting the credit system and protecting depositors. It is emotionally satisfying to heap blame on a requirement to protect foreign banks. The reality is more complex.
Now that we’ve had a bit more time to digest the implications of the EU summit, I would be interested to hear more views on how the measures have strengthened or weakened the “ring-fence” beyond Greece, especially as it applies to Ireland. The idea of a ring-fence is that measures to improve debt sustainability and the reliability of a lender of last resort attenuate potentially self-fulfilling expectations of default; that is, expectations of default that lead to higher interest rates, thereby increasing the probability of default (in part because countries get pulled into European crisis resolution mechanisms that threaten debt restructuring as part of subsequent financing packages and also because of worsening debt dynamics).
I think it is fair to say there is general agreement that the interest rate reductions / maturity extensions strengthen the ring-fence given that they improve the chances of debt sustainability. However, there also seems to be a view that the private-sector involvement (PSI) that is being applied to Greece weakens the ring-fence, as it increases the threat of that PSI being applied to other countries at a later stage. The latter does not seem right to me. It is widely recognised that Greece’s debt to GDP ratio makes debt restructuring inevitable. From the point of view of the ring-fence beyond Greece, it would have been best to have decisive action on Greece’s debt, so that it is unlikely that the necessary PSI would have to be revisited in their case. As it is, it is likely that further restructuring of Greece’s debt will have to take place, creating ongoing uncertainty about what the PSI element of the Eurozone crisis-resolution mechanisms is going to look like down the road, increasing the uncertainty facing other countries. In other words, the problem (from the perspective of the ring-fence) is that too little PSI is being applied to Greece, not too much.
The most recent Financial Stability Report from the Bank of England warns about the danger to U.K. economic stability from excessive debt forbearance by U.K. domestic banks. The governor of the Bank of England, Mervyn King, put stress on this risk in his speech introducing the report (although he also noted that this does not mean that forbearance is always a bad thing). In the report, only the potential UK fallout from the Euro crisis ranks more highly than excessive debt forbearance on the list of risks to the UK banking system. This should ring alarm bells in Ireland, since the level of debt forbearance in Ireland at present is much higher than in the U.K. Encouraging debt forbearance is a deliberate Irish government policy, and the extreme level of forbearance by domestic Irish institutions is storing up potential problems for the future.
There is a considerable overhang of unwanted or distressed (in some cases unfinished) property assets in Ireland (see Ronan Lyons and Namawinelake for discussion). The smart-money players (foreign-owned banks with Irish property assets) might front-run the slower-footed players (domestic, taxpayer-owned banks and Nama) by selling relatively quickly, leaving the Irish taxpayer to fund any eventual shortfall. (I am including the IBRC, the vestiges of Anglo Irish and Irish Nationwide, in my definition of domestic banks.) So loan forbearance and front-running in Irish property markets could interact to the detriment of taxpayers.
I had missed last week that NTMA had released an information note on Ireland’s financing situation. The note clarifies that funds from the EU and IMF that had been earmarked for bank recapitalisation can be used to fund fiscal deficits if, as the government is currently assuming, there are no further recapitalisation costs. Based on these assumptions, and projecting that fiscal deficits come in on target, they note that Ireland can get to the end of 2013 with minimal new funding.
Worth noting, however, is that there is an €11.8 billion bond maturing in January 2014. So, it would seem likely that if market funding is not accessed at some time before summer 2013 (or perhaps earlier), then the government will have to open negotiations on a new funding deal from the EU and IMF. I doubt if letting the clock tick all the way down to December 2013 would be a good strategy.
Here‘s a link to the Eurogroup statement from last night. This is promising
To this end, Ministers stand ready to adopt further measures that will improve the euro area’s systemic capacity to resist contagion risk, including enhancing the flexibility and the scope of the EFSF, lengthening the maturities of the loans and lowering the interest rates, including through a collateral arrangement where appropriate. Proposals to this effect will be presented to Ministers shortly.
But I’m not holding my breath waiting for an impressive intervention.
The topic of the interest rate on Ireland’s EU loans has attracted a lot of attention. Unfortunately, however, hard information on the loans and comparisons with the loans being offered to Portugal is not always easy to come by. The purpose of this post is to provide the information that is publicly available on this issue and to present new calculations of the likely interest rates on Ireland’s loans.
The most common media reference point for the cost of Ireland’s loans is this information note released by the NTMA in November. That document projected the cost of Ireland’s loans from the European Financial Stability Mechanism (EFSM) at 5.7 percent and the cost of Ireland’s loans from the European Financial Stability Facility (EFSF) at 6.05 percent.
With €22.5 billion being provided to Ireland by the EFSM, €17.7 billion by the EFSF and €4.8 billion coming from bilateral loans, the NTMA note assumed the interest rate on the bilateral loans would be the same as the EFSF rate. Thus, the estimated average cost of the EU loans was 5.875 percent. (I am leaving aside in this note the question of the cost of funding from the IMF, which is determined according to standard, if somewhat complex, IMF procedures.)
In a briefing note for the Oireachtas Committee on European Affairs, I noted that market interest rates had risen since the November briefing and the pricing of the first EFSM bond had not gone as well as anticipated. Based on those considerations, I suggested that the cost of EFSM funding was likely to be 6.09 percent while the cost of EFSF loans would be 6.44 percent.
The period since that briefing note was written has seen a number of EFSF and EFSM bonds issued to Ireland and Portugal, so now seems like a good time to attempt to get a more accurate picture.
Here’s a link to a spreadsheet that describes each of the bonds issued by EFSF and EFSM as well as the conditions on which they were disbursed to Ireland and Portugal. I have made estimates of what the interest rates will be on funds that are not yet drawn down by assessing their likely average maturity (to match the planned 7.5 year average maturity for Ireland and Portugal), calculating current market interest rates for those maturities (based on the mid-swaps benchmark used by the EFSF and EFSM) and then adding in the estimated margins.
A quick summary:
1. The average interest rate on EFSM loans for Ireland is projected to be 6.13 percent.
2. For Portugal, the EFSM loans project to have an average interest rate of 5.34 percent. The lower rate than for Ireland is because the EFSM’s profit margin on Portuguese loans is 77 basis points lower than for Ireland.
3. The average cost of EFSF loans for Ireland is projected to be 6.29 percent. This is lower than I had estimated in January because I had used the assumption underlying the NTMA’s November document that the margin over funding cost that would determine the effective borrowing cost for Ireland would be 317 basis points. Based on the one EFSF bond issue for Ireland so far, I now estimate that this average margin will be 305 basis points.
4. The average cost of EFSF loans for Portugal is projected to be 5.76 percent.
5. Based on the assumption that Ireland’s bilateral loans (not yet drawn down) will carry the same average interest rate as the EFSF, the average interest rate on Ireland’s EU loans will be 6.21 percent, 33.5 basis points higher than estimated last November. The average interest rate on Portugal’s EU loans is projected to be 5.55 percent, 66 basis points lower than the projected rate for Ireland.
6. The current terms on Greece’s EU-IMF loans have been widely reported to be 4.2 percent for a 7.5 year average maturity after Greece was granted a 100 basis point reduction at the March 11 meeting of the Heads of Government of the Euro Area member states.
For those interested, here’s a rough description of how the calculations were done.
If the objective is restored market access, the limits of exisitng crisis resolution arrangements were further exposed by Moody’s four-notch downgrade of Portugal. The FT has the story here. This bit is particularly important:
Moody’s cited the tortuous negotiations over Greece in its note, warning that although the likelihood of a restructuring in Portugal was lower than in Greece, the European Union’s “evolving” approach to providing further support “implies a rising risk that private sector participation could become a precondition for additional rounds of official lending to Portugal in the future as well.”
The full Moody’s statement is available via ft.com/alphaville.
The Commission’s proposals for the EU budget’s next Financial Framework (MFF) for 2014-2020 can be found here. Judged against the parameters I proposed to evaluate the MFF proposal from an Irish perspective, then the proposal is as good as we could have hoped for. RTE reported that “The Government has given a cautious response to the European Commission’s proposed 2014 to 2020 budget” which, given that this is the start of a difficult set of negotiations, is about as close to saying “we are delighted” as you are likely to get.
Given the recent discussions of the views of Professor H-W Sinn on this site it seems only right to point out that there are also other opinions in Germany. A number of current and former German politicians (Helmut Schmidt, Joschka Fischer) have been critical of the leadership provided by key politicians. Now the former finance minister Peer Steinbrück (still an active opposition politician) has found some clear words: “Greek default is inevitable – lets call a debtors conference.”
News organisations are reporting the European Stability Mechanism will not have IMF-style preferred creditor status for countries already in a bailout after all, which is a significant change from the draft treaty setting out the planned design of the fund. Some reports here: FT; Irish Times; Reuters.
It has been apparent from the timing of spikes in bond yields, as well as from investor/rating-agency reactions, that features of the ESM’s design are considered impediments to Ireland regaining its creditworthiness. The annoucement is therefore welcome news, though the limited initial falls in bond yields suggest it is not a panacea (see here). Greater clarity about future debt-sustainability tests and also the form of future private sector involvement are important additional steps. Greece-related developments are likely to be the main market movers for the time being.
Hans-Werner Sinn replies to his critics in relation to Target 2 balances here. Readers of this blog will undoubtedly draw their own conclusions. At the heart of his fallacy is the conceptual absurdity of separate regional credit policies in a monetary union with perfect capital mobility.
The FT reports on Minister Noonan’s IMF initiative here. I would be interested in reactions to the Minister’s tactics.
Wolfgang Münchau concludes his two-part series on the end game for the eurozone crisis: see here.
Update — A couple of complementary articles from the Irish Times: John McManus argues perceptively that Europe is already well on the way to a transfer union (see here); Dan O’Brien does not pull his punches in an assessment of Greece’s structural problems (see here).
Thanks to grumpy for drawing our attention to a fascinating segment with Patrick Honohan on last night’s Tonight with Vincent Browne show. (The segment runs from minute 17:40 to minute 36:12; you can read grumpy’s comment here.) Governor Honohan made an unfortunate reference to “the people” in relation to the blocking of attempts to impose losses on senior bondholders, giving fodder for conspiracy theories. But I don’t think there is much of a mystery about the people in question. The ECB clearly worried — and continues to worry — about balance-sheet contagion across the European banking system, and (I would suppose even more importantly) the implications of the precedent of withdrawing the implicit guarantee for senior debt for the funding of a system that continues to be fragile.
On the Irish side, given the existence of the ELG guarantee on post-December 2009 bank funding, the equal ranking of depositors and senior bondholders, and the systemic importance of AIB and Bank of Ireland to Ireland’s credit and payment systems, a pragmatic decision was made that the fiscal savings from feasible loss imposition (most likely the remaining unguaranteed senior debt in Anglo and INBS) would not be worth risking the reliability of large-scale funding from the eurosystem.
(It is worth noting that a special resolution regime was not in place, and even if it was the U.K. example shows U.S.-style depositor preference is considered incompatible with European law. In principle it would have been possible for losses to be shared between depositors and senior bondholders, with the State making depositors whole. But at that stage the State had lost its creditworthiness, making it hard to see how such depositor protection could have been implemented without significant outside support. Lastly, both Anglo and INBS still had depositors back in November. The Credit Institutions (Stabilisation) Act later facilitated the movement of depositors out of those banks, but that piece of legislation – which made it possible to impose proper losses on subordinated bond holders – is unlikely to be costless in terms of the longer-term reputation of the stability of Ireland’s investment environment.)
I think reasonable people can disagree about whether more should have been done to force the issue back in November with senior bondholders. But I find it hard to understand the certitude with which the policy course is criticised given the very real constraints that were faced. At this stage, I feel the obsession with the “socialisation of bank losses” is becoming a substitute for hard thinking about what we need to do now to get through a crisis that still poses massive downside risk.
Update: Namawinelake provides a transcript of the key segment with Governor Honohan: see here.
The ECB’s position of “no default” has come in for much derision here, and indeed the Schauble letter makes clear that such an uncompromising stance is not credible. I believe, however, that Ireland gains from a distinct leaning towards a “default-as-last-resort” position, which is why any Greek precedent is so important.
A useful approach is to view the possibility of default as a valuable option, with an orderly, officially supported “restructuring” at the more valuable end of the spectrum. However, the very existence of such an option makes it harder to regain market access. Potential investors will be repelled by the likelihood of getting caught up in a later restructuring.
We thus have a trade-off in the design of the bail-out/bail-in regime, with the optimal point along the trade-off being quite different for Greece and Ireland. A good regime for Ireland, in my view, is still one that offers additional funding on reasonable terms to countries meeting their ex ante conditions without a requirement of restructuring; in other words, a reliable, though certainly not unconditional, lender of last resort (LOLR). Potential investors need to know that funding will be there even in a bad state of the world. Under such arrangements, belief in the country’s capacity to meet pre-specified conditions should be sufficient for renewed market access (assuming of course the LOLR is seen as having the financial capacity to meet its commitment). For all its communication faults, the ECB does push policy in this direction, and I think is more of a friend in the European policy debate than we realise.
The Irish Times’ Cantillon reports the government is increasingly shifting its focus to the design of the ESM. This is the right focus. While I hope that an interest-rate cut is not completely off the table, the reliability of the LOLR function is the most critical factor in resolving the Irish creditworthiness crisis.
THE GOVERNMENT has conceded it is seeking a smaller reduction in the interest rate of the EU-International Monetary Fund bailout package than the 1 per cent originally sought, and only on the remaining money it has yet to draw down.
In what the Opposition portrayed as a U-turn and a tacit acceptance that a cut is no longer achievable, Taoiseach Enda Kenny yesterday said the maximum savings the Government could achieve from an interest rate cut were €150 million per annum, compared to €400 million if the rate on the whole loan was cut from 5.8 per cent to 4.8 per cent.
Mr Kenny, speaking in the Dáil, based the reduced figure on the fact the interest rate reduction would not apply to the €15 billion in European loans already drawn down, and only to the €24.6 billion remaining.
Let’s be clear about this. There is no reason whatsoever why the EU could not grant Ireland a one percent reduction on all its borrowings (not just those yet to be drawn down) as was previously granted to Greece. The EU has decided to add a particular margin on to its borrowing costs. The EU can decide to reduce it.
The lowered ambitions appear to be a combination of preparation for a deal barely worth accepting and (more relevantly) an attempt to use a fake argument (“can’t change the interest rate on funds already withdrawn”) to present the “feasible” rate reduction as not that big a deal.
I suspect “lowered ambitions” could prove to be the epitaph for this government.
Journalists sometimes get things wrong, so I’m going to phrase this as follows. Tell me this isn’t true:
Minister of State Brian Hayes has said the Government is looking for a 0.6% reduction in the bailout interest rate during its ongoing negotiations with the EC and the ECB.
Mr Hayes told RTÉ’s Drivetime programme that this would amount to a saving of €150m per year on the remaining amount of the loans which has not yet been drawn down.
All the signs are now that the government has gone into white flag mode on this one (what with the little-remarked-upon previous concession on Anglo-INBS bank bondholders, the flag’s had a busy week). The key thing to watch for here is the approach of claiming lower and lower figures for what an interest rate reduction can achieve, with the benefit now down to €150 million per year.
Look, this isn’t rocket science. Greece, which hasn’t been very successful in implementing its package, received an interest rate cut of one percent in March. No Irish government could possibly be looking for less than a similar cut of one percent. We are borrowing €45 billion from the EU, so a one percent cut would save us €450 million a year, three times the figure being quoted. With an average maturity of seven and a half years, let’s call it seven, this would save the Irish taxpayer €3.15 billion or about €700 a head. It’s not a game-changer on the debt stability front but it’s not worth dismissing either.
Focusing on getting a cut in the remaining loans that have been drawn down is a red herring. It doesn’t matter that the EU has already sourced funds to lend to us as what we’re discussing cutting here is the EU’s own margin on these loans.
The only possible reason to define down the potential gains from an interest rate cut is to prepare the public for failure to achieve this cut, at which point we’ll be told that it wasn’t important.
Any hope that we might show some backbone on this issue (a la Namawinelake) is fading.
Update: Looking at yesterday’s Dail proceedings, one can find Minister Noonan stating that a one percent reduction in our interest rate will save us about €200 million a year. I know the Minister has the combined brain power of the Department of Finance officials on his side but it still seems to me that one percent of €45 billion is €450 million.
It’s being discussed in the comments already but it’s worth giving German Finance Minister Wolfgang Schauble’s letter to the ECB, IMF and Ecofin ministers its own thread. The key proposal:
This means that any agreement on 20 June has to include a clear mandate — given to Greece possibly together with the IMF — to initiate the process of involving holders of Greek bonds. this process has to lead to a quantified and substantial contribution of bondholders to the support effort, beyond a pure Vienna initiative approach. Such a result can best be reached through a bond swap leading to a prolongation of the outstanding Greek sovereign bonds by seven years, at the same time giving Greece the necessary time to fully implement the necessary reforms and regain market confidence.
Just to be parochial about this for a minute, this raises an interesting question. If this approach was implemented successfully and did not trigger a financial crisis (I know some disagree — this is a hypothetical question) what are the chances that a similar restructuring would not be part of any potential second EU-IMF deal for Ireland?
The governments will give Greece new lending, to be provided by the European Financial Stability Facility, the euro zone’s sovereign rescue fund, officials said. But that financing will likely come with the condition that the banks, pensions funds and other investors holding Greek bonds agree to exchange them for new bonds with a longer maturity to help fill Greece’s financing gap over the next three years, they said.
“Private investors would have a strong incentive to participate, because if they don’t, there will be a default,” said one official.
It’s the Don Corleone approach to default negotiation, involving making people offers they can’t resist.
Still, providers of CDS insurance will be thrilled to hear that
the debt-exchange process envisioned by the governments won’t rewrite existing bond contracts or trigger a credit event, the officials said, partly easing the ECB’s concerns that private creditors are being forced to contribute financing.
Can someone explain to me why it’s so important to the ECB or any government whether a restructuring scheme constitutes a credit event for CDS purposes? Are the firms that offer this insurance somehow more important sources of systemic risk than those who own Greek sovereign bonds? Or is it more for the appearance of purity — “it was not a default, now way, sure the CDS guys say it wasn’t a credit event”, that kind of thing?
Anyway, what odds are there now that holders of Irish sovereign bonds will walk away unscathed?
Today’s Sunday Independent appears to provide the answer to the question I posed on Tuesday about the government’s position on Anglo bondholders. Despite Brian Hayes stating firmly on April 2 (go here and click on the April 2nd edition of Saturday View, about 56 minutes in) that the government’s position was that haircuts should apply to Anglo senior bonds, the Independent reports that the Department of Finance has confirmed that Anglo’s senior bondholders will be repaid in full.
This is a good time to point people in the direction of NAMAWineLake’s very useful post from Friday detailing all the outstanding bonds of the Irish banks by maturity. November 2nd promises to be a great day for those international hedge fund investors who chose to buy some of the $1 billion senior unsecured Anglo bond first issued in November 2006.
Throughout Ireland’s economic crisis, our government has adopted policies based on overly optimistic assumptions. The language of corners turned, manageable problems and final estimates has dominated communication of these policies. And throughout this period, the approach of the Serious People in Leinster House and at institutions such as the Irish Times has been to attack those who question these overly optimistic assumptions as unpatriotic folk who are talking the economy down.
Against that background, this green jersey editorial from the Irish Times on Leo Varadkar’s comments is deeply depressing. It adopts Michael Martin’s ridiculous line about “loose talk costing jobs” as if serious businessmen thinking about creating jobs were not already aware of the likelihood of a further EU-IMF deal for Ireland. It makes claims about sovereign bond markets that serve to illustrate that the writer clearly doesn’t understand these markets. If Leo’s comments created “doubt and uncertainty in financial markets among those that most matter, the bond investors from whom the State hopes to borrow again next year” then how come sovereign bond yields didn’t budge?
Then we get this gem:
As the euro zone debt crisis has unfolded, Ireland has lost credibility and sustained major reputational damage at various levels – government, public service, banking and business – which the Fine Gael Labour Government is attempting to regain and restore. This was best exemplified last November when talks about an EU-IMF bailout were under consideration while Fianna Fáil ministers issued public denials. It will take some time to re-establish trust in what governments say and confidence they can deliver on commitments made.
So Fianna Fail lost credibility by lying about the scale of our problems and ultimately denying things that everyone knew were true. And the IT’s reaction to this loss of credibility is to condemn a minister who makes a statement everyone knows to be true and to encourage the government to repeat a mantra about “no second deal” that will, in time, be just as discredited as the previous government’s approach.
The Irish Times may not wish to hear government ministers admitting that, despite best efforts, we may not be able to get back to the bond market. However, the “everything’s going to be fine” approach runs the risk of being exposed as just as false as the corner-turning rhetoric of the previous government. And it hardly helps with negotiating better terms on the current deal.
Given that Irish politicians and media have decided that Leo Varadkar’s comments about Ireland probably having to get a second EU-IMF deal is some kind of faux pas, it is perhaps worth pointing out that this opinion is widely shared by pretty much everyone I have to talked to in recent months.
Anyway, given that this issue is being discussed, now might be a good time to put up a link to this talk that I gave at the IIEA a few weeks ago. I discuss the risks relating to the current EU-IMF plan the likelihood of the need for a new deal. The slides for the talk are also on the page.
Listening to the News at One on RTE Radio One, I heard Minister for Finance Michael Noonan dismissing comments over the weekend from Minister Leo Varadkar that Ireland would probably have to seek a second bailout as it would not be able to return to the markets. That’s fair enough, one would expect a Minister for Finance to say the current programme is going to work and Varadkar was clearly off message. However, it worries me that Noonan’s comments completely misrepresent the true picture in relation to Ireland’s funding situation.
Noonan said (I’m paraphrasing here but the audio links will be available later) that the EU and IMF are providing enough money “to carry us forward in all eventualities” and that the deal runs through Two-Thirteen (which I take means 2013). Noonan indicated that while there was a plan to return to borrowing from the markets in, yes, Two-Twelve, that this wasn’t actually necessary. The clear implication from these comments is that Ireland would not have to request a new deal until after 2013 if at that point market funding cannot be located.
This is not an accurate representation of the EU-IMF deal. Here‘s the European Commission’s report on Ireland, released in February. The last page shows the financing needs. It is clear that the EU and the IMF are not providing enough money to get us through the end of 2013. Indeed, the EU and IMF funds probably only get us to early 2013 (this was clear before the Commission’s report) and that market financing is required. So if we cannot obtain this market funding, we will have to request a new deal from the EU and IMF.
It’s reasonable to expect bluster from our Minister for Finance but we should at least expect him to show a clear understanding of the parameters of the state’s financing needs.
Update: Here is the updated European Commission programme document from this month. Financing needs are discussed on page 22. They differ a bit from the February document but the key point is the same. The programme calls for €14 billion in market financing in 2013 to fund the state.
The new IMF Country Report is available here. A transcript of yesterday’s conference call following the release of the report is also available (see here). Dan O’Brien provides analysis here. Update: Additional analyses from Colm McCarthy (see here) and Cliff Taylor (article; SBP editorial).
It is encouraging that both the IMF and the European Commission are impressed with the government’s implementation of the programme. The unavoidable fact remains, however, that bond markets are unconvinced on Ireland’s long-term creditworthiness. Not too surprisingly, the IMF is more willing to be critical of Europe’s approach to resolving the crisis. It is becoming increasingly evident that uncertainty about the evolving balance between bailouts and bail-ins is making investors shun Irish bonds. The critical challenge is to convince investors to provide new funds to Ireland, which is now being hampered by fears of being caught up in any future bail-ins. It is also interesting that the European Commission is more open than the IMF to a modest speeding up of the fiscal adjustment. This could be viewed as a high-return investment in reinforcing the credibility of the government’s capacity to see through the necessary adjustments, which already differentiates Ireland from Greece and probably Portugal.
In the Eolas piece I looked at Ireland’s policy options taking the European bailout/bail-in regime as exogenous (albeit uncertain). Of course, a different question is what we would want that regime to be, one now being hotly debated given Greece’s new difficulties.
A central focus in the recent debate is the proper extent of early private sector involvement (PSI) in bail-ins. Looked at from an Irish perspective, a range of considerations come into this calculation: (i) the reputational damage in a debt restructuring/default; (ii) the ultimate reduction achieved through a restructuring in the net resource transfer; (iii) the risks associated with increased dependence on official creditors and their domestic politics; (iv) the risks of domestic and international contagion; and (v) the implications for future market access of a weakening of the implicit guarantee given to private creditors.
I think the last of these points deserves additional discussion. At the moment we seem to be between two stools. Early PSI is ruled out; but PSI is central to the post-2013 ESM regime, substantially weakening the implicit guarantee and scaring off potential new creditors. Thus there is a certain incoherence at the heart of European policy. It also is a particularly bad combination given the trade-off involved with any resolution regime: it is good to be able to share losses with private creditors ex post; but a regime with easier loss sharing will weaken the implicit guarantee and make you less creditworthy ex ante.
We need European policy makers to move one way or the other, either allowing early PSI before a substantial amount of private debt is paid back, or providing clarity on the nature of the implicit guarantee that gives a feasible route back to the markets for countries that follow through on their adjustment programmes. The ECB seems to be calling for a full guarantee by effectively ruling out defaults. This seems neither likely nor desirable. However, further clarity on the way PSI will be applied in the future, with a reasonable path to avoiding it, would give a country a chance of regaining market access and not having to resort to default. It is probably unfortunate for us that policy precedents are being set in this area based on the quite different Greek situation.
Here is a short article on crisis resolution strategies that I wrote for Eolas magazine. It was written before the debate over Morgan Kelly’s new resolution proposals. The piece contrasts a Plan A — involving a phased fiscal and banking adjustment, offiical assistance to cover funding shortfalls, and absorption of significant banking losses — with a Plan B that has an earlier focus on debt reduction. Morgan’s proposals — a Plan C? — combine immediate elimination of the borrowing requirement with eschewal of both official assistance and responsibility for bank losses.