The Irish Economy

The National Economic and Social Council have released a report titled “The Euro: An Irish Perspective”.  The media release is here while the full report is here.

The IMF/EC/ECB mission has released its updated view on the implementation of the Greek adjustment package: you can read it here .

Barry Eichengreen and Peter Temin have written classic accounts of the Great Depression. If you haven’t read Golden Fetters, and Lessons from the Great Depression, you should.

But if you don’t have time for that, they have a piece on Vox which reprises the main conclusion of their work:

an international monetary system is .. a system in which countries on both sides of the exchange rate contribute to its smooth operation. Actions by surplus countries, and not just their deficit counterparts, have systemic implications. They cannot realistically assign all responsibility for adjustment to their deficit counterparts.

This is as true for EMU and “Bretton Woods II” as it was for Bretton Woods, or the Gold Standard, but it is a lesson that at times seems to have been completely forgotten.

On RTE radio this morning (on Today with Pat Kenny with, em, Myles Dungan) Fianna Fail TD Frank Fahey said:

I stand by what I said about NAMA from the very beginning. NAMA is being funded … the bonds are being funded by the European Central Bank.

Now I know that language is a flexible thing and perhaps philosophy graduates could spend all night debating what the meaning of “being funded” is. But, I would suggest that the only reasonable interpretation of this statement is that it implies NAMA are receiving funds from the ECB.

This is not at all true. The ECB has no direct relationship with NAMA at all. NAMA bonds can be used by the banks that have received them as collateral for loans from the ECB but that’s it, that’s the full extent of the ECB’s involvement in relation to NAMA. Furthermore, AIB and BoI executives told the Oireachtas last year that they had no particular plans to use the bonds in this fashion.

The NAMA bonds are fully backed by the Irish government. They are a liability of the Irish state, albeit one entered into at the same time that it acquired some property assets that may or may not yield enough to pay off the bonds.

It is long past time for government politicians to stop misleading the Irish public that NAMA somehow involves the state getting money from the ECB. I would plead with any journalist interviewing Deputy Fahey or any other commentator making this claim in the future to point out to them that it has no grounding in fact.

The Joint Oireachtas Committee on European Affairs has produced a report titled “European Monetary Union: Challenges and Options”. The report is available here and the executive summary is here.  Senator Paschal Donohoe acted as Rapporteur on the Report, which was drafted in association with my former UCD colleague, Rodney Thom

Though as I write the official release has yet to appear here, the FT is already reporting that the ECB only acquired about €1 billion in sovereign bonds last week, down from the €4 billion or so seen in previous weeks and the €16 billion that occured during its first week. The winding down of the program was quasi-predicted here a few weeks ago.

One interpretation of what has happened with this program is that the ECB reluctantly launched the program despite some internal disagreement to ease tensions in sovereign debt markets, and that once the Stabilisation Mechanism funds were put in place, they have been quick to head for the exit.

Increasingly, it seems unlikely that the ECB will at any point engage in large-scale purchases on the secondary market aimed at keeping access to the primary market open for a specific country such as Ireland. Rather, a closing primary market will instead lead to a country to tapping the Stabilisation Mechanism funds.

Of course, one cannot completely rule out the ECB will re-activate the program on a larger scale if tensions start to mount again. But I wouldn’t bet on it.

Update: Official announcement confirms the figure at 796.5 million.

The Institute of International and European Affairs recently held an event on the European sovereign debt crisis. The event featured Dietmar Hornung of Moody’s Sovereign Risk Group, Lee C. Buchheit, a legal expert on sovereign debt issues and Ann Pettifor of Advocacy International who is known for work on sovereign debt and international finance such as the Jubilee 2000 (Drop the Debt) campaign.  Podcasts of the presentations and slides are available here.

The idea of establishing some kind of fiscal council seems to be gaining momentum.  Minister Lenihan expressed interest in this idea last week; it featured in speeches by Eamon Gilmore and Joan Burton last week; it is also Fine Gael policy. An editorial in today’s Irish Times also endorses the idea - you can read it here.

Edited by Richard Baldwin and Daniel Gros, this new CEPR e-book features a number of short essays on this topic.  The overview chapter can be read here; the full PDF is here; the individual chapters are available here; my own contribution is here.

The latest Monetary Dialogue briefing papers for the European Parliament’s Committee on Economic and Monetary Affairs are available here (click on 21.6.10). These papers are provided to help the MEPs on the committee prepare for their June 21 meeting with President Trichet, which promises to be an interesting one. My paper is titled “The Euro, the ECB and the Sovereign Debt Crisis”.  All the papers focus on different aspects of the European sovereign debt issue.

The ECB has released its latest weekly financial statement, the only source of public information in relation to what’s happening with its sovereign bond purchase program.

It is notable that the program has purchased smaller amounts with each passing week: €16.3 billion during the week ended May 14, €10.4 billion during the week ended May 21, €8.8 billion during the week ended May 28 and €4.9 billion during the week ended June 4. We know that some members of the Governing Council would like the program to end quickly. At this rate of decline, it will be over in a couple of weeks.

Here’s the text of the agreement on budgetary policies put together by the EU finance ministers yesterday. It seems pretty weak, with little by way of new concrete initiatives. It’s full of aspirations to reduce deficits. The new element that might have been expected in relation to an increased role for the European Commission is restricted to the following statement:

Ministers are committed to fully and strictly implement the surveillance framework defined by the SGP and to contribute actively to the Task Force set up by the President of the European Council, which will consider ways to strengthen the fiscal surveillance framework as well as the surveillance of competitiveness developments in the euro area.

A Task Force that’s going to “consider” things doesn’t sound like much to get excited about.

Here’s the statement tasking the European Commission with running the €440 billion Special Purpose Vehicle. (You have to love how there’s a Special Purpose Vehicle at the scene of every economic disaster these days.)

Commenter Eoin asks a good question “Should the ECB be doing quantitative easing?” My thoughts are as follows.

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It’s hard to fully assess at this point the relative importance for the reduction in Irish government bond spreads of the €750 billion bailout fund committed to by the EU and IMF versus the ECB’s decision to purchase sovereign bonds on the secondary market.  However, the ECB’s presence or withdrawal from the secondary bond market may prove very important in relation to Ireland’s ability to keep issuing primary debt and staying out of the hands of an EU-IMF deal.

So, three weeks in, what do we know now about this program? A bit more than a few weeks ago but not as much as I’d like.  This speech from President Trichet appears to be the most comprehensive discussion of the rationale for the program.

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There were some media stories over the past few days with selected quotes from an interview Patrick Honohan gave to Bloomberg. Dara Doyle from Bloomberg kindly sent me the full text of the interview and since it doesn’t seem to be elsewhere (or at least anywhere I could find) and contains a lot of interesting material, I’m posting it below the fold.

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The Economist website is currently featuring a debate among a number of well-known economists on the future of the euro - you can find it here.

Mrs Merkel has been speaking in the German parliament about her latest financial proposals. In addition to defending the CDS and short-selling proposals, the Germans are apparently preparing proposals for an “orderly insolvency of euro-region states”.  In a separate story this morning, I see that former Fed Governor Rick Mishkin has been reported as follows: 

“What they should have done was to let Greece go and say we are going to ringfence the rest of the system,” Mishkin said. “Ringfence the banks, protect the other countries that have problems such as Portugal, Italy and Spain, which have not been fiscally irresponsible the way the Greeks have been.”

It’s interesting to see how far the consensus has moved. We’ve gone from the idea that no Eurozone country can be let default and the IMF can’t possibly be allowed to help to getting ready for orderly defaults.

Jim Hamilton at Econbrowser points towards this IMF Staff Report on Greece released a couple of days ago. The report is pretty honest about the scale of the challenge facing Greece under the plan if it is to avoid default.

The European Commission’s proposals are laid out here.

Summary:

Reinforcing compliance with the Stability and Growth Pact and deeper fiscal policy coordination

Reinforcing the preventive dimension of budgetary surveillance, in particular in good times, must be an integral part of closer coordination of fiscal policy. Also, compliance with the rules needs to be improved and more focus needs to be given to public debt to ensure the long-term sustainability of public finances. Member States should make sure having in place effective national fiscal frameworks. Recurrent breaches of the Pact should be subjected to a more expeditious treatment.

Broaden economic surveillance to prevent and correct macroeconomic and competitiveness imbalances

To prevent the occurrence of severe imbalances it is therefore important to expand economic surveillance beyond the budgetary dimension to address other macroeconomic imbalances, including competitiveness developments and underlying structural challenges. It is proposed to upgrade the peer review of macroeconomic imbalances now carried out by the Eurogroup into a structured surveillance framework for euro-area Member States by making use of Article 136 TFEU.

A European Semester to synchronise the assessment of fiscal and structural policies of EU Member States

Specifying the proposals in Europe2020 to better align economic surveillance, every year a “European Semester” would encapsulate the surveillance cycle of budgetary and structural policies so that Member States would benefit from early coordination at European level as they prepare their national budgets and national reform programmes.

Early guidance at the beginning of each year from the European Council on economic policies would facilitate the preparation of Stability and Convergence Programmes and National Reform Programmes. For the euro area a horizontal assessment of the fiscal stance should be carried out on the basis of the national Stability Programmes and the Commission forecasts.

Beyond emergency support, moving towards a permanent crisis prevention mechanism

Financial distress in one Member State can jeopardise the macro-financial stability of the euro area as a whole. Beyond urgent action that was taken earlier in May, a clear and credible set of procedures for the provision of financial support to euro area Member States in financial distress is necessary to preserve the financial stability of the euro area in the medium and long term.

When crisis prevention fails, financial assistance should be provided by the euro area in the form of lending, while the associated policy programme and conditionality should be set within Article 136 TFEU. To raise the necessary funds, the Commission would issue debt instruments when the need occurs, as is the case for balance of payment support to non-euro-area Member States.

The way forward

The Commission stands ready to follow-up swiftly with legislative proposals, including amending the regulations underpinning the Stability and Growth Pact, to enhance the prevention and correction of macroeconomic imbalances within the euro area, and to establish a more permanent framework for crisis management.

So writes Gillian Tett in the FT and in sharp contrast to Greece, as you can read here.

Martin Wolf provides his take on the future of the euro area here.

John Taylor criticises the European strategy here.

Here’s an interesting set of charts from Spiegel Online describing the debt problems of the countries who make up a certain animal-related acronymn. The graphs on the maturity profiles of the debts for each country provide a useful perspective on the stabilisation deal.

After the excitement of the weekend’s EU announcement, the question most people will ask is “will it work?” I think the answer to this question depends on what we mean by “work”.

There are obvious parallels here with the banking crisis. As markets began to doubt the solvency of many institutions, including the Irish banks, access to short term liquidity dried up for these institutions. Governments provided various liability guarantees to help these banks regain access to markets (ours being the most extensive) but these guarantees did not change the underlying solvency picture. Ultimately, the problem of insolvent banks had to be dealt with via costly recapitalisation measures, a process that we in Ireland have yet to complete.

The size of the funds announced in the EU deal are large enough to most likely ensure that, for a while, no EU country will fail to roll over its sovereign debt. In that sense it will most likely work. But it doesn’t change the fiscal reality.

Last week’s €110 billion Greek deal wasn’t well received by the markets because it still seemed to imply a Greek default was on the way. Last night’s announcement is being well received but then it doesn’t actually come with a concrete fiscal restructuring plan for Portugal, Spain or Ireland, so the plan can be taken good news without having to question any dubious underlying assumptions about fiscal sustainability. If the time comes when this fund is tapped but the markets don’t buy the stabilisation plan announced, the situation could unravel again.

Most of the thoughtful reaction elsewhere points to it being a long and complicated road ahead. The Baseline Scenario guys give their reaction to the plan here. Arthur Beesley also has a nice piece in the Irish times here.

Here is the press release detailing the funding strategy decided by ECOFIN.

Here is the press release explaining the ECB decision.

The European Union has announced an agreement among heads of state to address the mounting sovereign debt crisis. Here’s Commission President Barroso’s statement. The meat of the announcement is the following:

First the Commission will present a concrete proposal for a European Stabilisation Mechanism to preserve financial stability in Europe. This proposal the Commission will make will be presented to the ECOFIN meeting next Sunday, the day after tomorrow (9 May).

Much of the speculation about the content of this proposal revolves around the ECB. Some media stories (such as this one) are discussing an extension of the ECB’s liquidity operations, which is fine but doesn’t go to the heart of the soverign debt problems.

Other stories (such as this Reuters story carried by the Irish Times) point to the ECB purchasing sovereign bonds.

“You have this ‘no monetary financing’, but you are allowed to buy in the secondary market, so what’s the difference?” an official involved in European banking supervision told Reuters. “Buying in the secondary market, you take the pressure, and so you push people in the primary market.”

Analysts have estimated the ECB might buy some €200 to €300 billion of bonds, about 20 to 30 per cent of estimated annual new issuance in the euro zone.

This point that the ECB can actually do this is correct. The wording of the no monetary financing clause (article 123 clause 1 of the current version of the consolidated Treaty on the functioning of the EU) is as follows:

Overdraft facilities or any other type of credit facility with the ECB or with the central banks of the Member States (hereinafter referred to as ‘national central banks’) in favour of Community institutions or bodies, central governments, regional, local or other public authorities, other bodies governed by public law, or public undertakings of Member States shall be prohibited, as shall the purchase directly from them by the ECB or national central banks of debt instruments.

I suspect the direct purchase phrase was put in to make it clear that public debt instruments were fine for use in ECB repurchase agreements with banks. But the wording does not rule out secondary market purchases.

Exactly what effect this type of intervention would have would depend on how it was implemented. If it was simply a once off purchase of a load of Spanish, Portuguese or Irish debt, I can’t see how this would have much effect since the underlying stock of debt would remain the same.

If, however, the operation took the form of secondary market interventions right after primary market issues, then it would have an effect. For example, the Irish government could issue debt to some banks who could then immediately sell these bonds on to the ECB, perhaps for a small profit. the only risk for the banks being the small probability of being left with the hot potato at the moment of a default.

This would pretty much be breaking the spirit, if not the letter, of the Treaty. But, we’re in this territory already. The existing Greek bailout is being legally justified on the basis of this clause in Article 122:

Where a Member State is in difficulties or is seriously threatened with severe difficulties caused by natural disasters or exceptional occurrences beyond its control, the Council, acting by a qualified majority on a proposal from the Commission, may grant, under certain conditions, Community financial assistance to the Member State concerned.

Note the rumoured scale of this operation. If the rule of thumb relating to ECB capital subscription is applied again, Ireland would have to supply over €4 billion to this fund.

I guess Colm has better things to be doing then putting links up on blogs but for those of you who haven’t seen it, Mr. McCarthy’s column in today’s Irish Times makes for interesting reading. Colm points out that “It would be unfortunate to celebrate the centenary of 1916 with macro-policy dictated from Brussels and Washington.” I wonder whether Martyn Turner had seen this column before producing today’s cartoon.

The Economics Focus slot in this week’s Economist covers various policy interventions that can help to deflate property bubbles - you can read it here.

There has been much discussion of the potential role of a common euro area bond  -  Bruegel have released a paper analysing such ‘blue bonds’; you can download it here.

Ken Rogoff reflects on the European sovereign debt crisis in this FT article.

Martin Wolf offers his perspective in this FT article.

I have never really understood the idea that the Greek fiscal crisis is “a threat to the euro” but have generally sensed the tide running against me on this one as serious people warn darkly about the wider repercussions of a Greek default. Still, I find the arguments in this new CEPR Policy Insight paper from Jacques Melitz (“Eurozone Reform: A Proposal”) to be pretty convincing.

Melitz argues that much of the damage to the Euro caused by the Greek crisis has been due to the inaccurate focus by EU officials on the centrality of fiscal discipline. Some quotes:

The European problem is largely self-inflicted. There have been repeated affirmations by the ECB and government officials in Eurozone member countries that fiscal discipline and the Stability and Growth Pact are the very foundation stone of the Eurozone. This can only mean that Greek default is a big problem for the euro. On this view, the Eurozone is partly a victim of its own self representation …

So far as I can see, there is little reason why Eurozone should view government defaults with any greater alarm than any other central bank management in the world would view government defaults within its territory. To the contrary, the Eurozone is particularly well armed to deal with such defaults, since its own central bank has no large central government to contend with, the Maastricht Treaty guarantees the central bank’s independence and member governments are explicitly forbidden to bailout one another …

Accordingly, must not the official doctrine change? Should it not be that nothing so manageable as a Greek government default can upset Eurozone? In the event of a Greek government default, the system would assure the stability of the Greek financial sector, and concern itself with any bank runs or bank failures in the country, but not with the Greek government’s difficulties. In step with this doctrine, government bail-outs will never be contemplated. The Stability and Growth Pact will continue to serve as a code of good fiscal conduct for all members of the EU. But if any individual member government engages in irresponsible fiscal conduct, contrary to the Pact, its taxpayers and the creditors will bear the consequences.

Melitz argues that rather than institutionalising bailouts, there should be EU-level financial supervision of banks under the auspices of the ECB to allow for more efficient containment of the effects of fiscal default on financial stability.