Category: European economy

Latest EU GDP and industrial production statistics

The latest Eurostat data on industrial production and GDP are now available. GDP growth decelerated fairly sharply in 2010:Q3, down to 0.4% from 1% in Q2. As always the Irish data will only be available with a lag, which is unsatisfactory.

Industrial production was down 0.9% in September as compared with October, with consumer durables production leading the decline at 3%. A glance at the table shows how volatile Irish industrial production data are in comparison with the data elsewhere, implying that the monthly data are not informative for this country. The annual recovery in Irish industrial output has been quite respectable, however.

The implications of this deceleration for the Eurozone periphery are too obvious to need spelling out, although the FT does so here.

New European Treaty?

I don’t have time to write about this in detail now but reports that Germany and France are pushing forward with the idea of an amendment to the Lisbon Treaty are an important development (news story here and a nice article by Arthur Beesley here). Apparently they want to use a new Treaty to formalise the sovereign bailout fund that is currently set to expire in 2013 and to formalise sanctions for states that break new EU budget rules.

These announcements appear to hijack what was an ongoing process involving the Commission and a task force chaired by EU President Herman van Rompuy. This process had just arrived at this package of significant reforms, which the accompanying press release had emphasised were “compatible with the existing Treaty of Lisbon”.

I’m pretty unenthusiastic about this. I don’t see why Treaty reform is required to formalise a sovereign bailout fund, when the thing is currently up and running without any Treaty change. The political sanctions element doesn’t strike me as desirable. And the whole idea seems to underestimate the complete lack of appetite of the European public for more Treaties and referenda.

Given that this would require a referendum in Ireland and what would be on offer would be the possibility of political sanctions for Ireland, one might imagine the people who worried about us potentially losing a Commissioner under Lisbon might also get a bit excited.

Borrowing Rates from The EFSF

Today I re-read this piece that Wolfgang Munchau published in the FT on September 28th. Titled “The Truth Behind the EFSF” at Eurointelligence and “Could Any Country Risk a Eurozone Bail-Out?” at the FT, it concludes that countries that tap the facility will have to pay interest rates of about 8 percent. If this were true, then countries like Ireland could face very substantial financing costs even after seeking help from this fund, which would make successful stabilisation all the harder.

Looking into this issue, it seems to me that Munchau’s assertions about borrowing rates from the EFSF are not correct. By my calculations (see below) the EFSF borrowing rate would be a bit below 6 percent. Now this is still very high but given the large sums that would be involved if the facility swings into action (financing budget deficits and bond redemptions for three years) this difference is likely represent a significant amount of money.

Munchau calculates his 8 percent figure as a 4 percent cost of fundraising for the EFSF plus 350 basis points for administration charges and lending margins and an additional 50 basis points related to the fact that the EFSF will be holding back some of the funds raised as a “cash buffer.” While fundraising costs, administration charges and lending margins and the cash buffer do all come into calculating the correct borrowing rate, my read of it is that Munchau’s calculation isn’t accurate on any of these three figures.

I’ll admit, of course, that this stuff is pretty complicated, so let me start with providing the official sources and then people can tell me if I’ve got it wrong.

Continue reading “Borrowing Rates from The EFSF”

Ten Year Bond Spread at New High

A bad day in the sovereign bond market. Irish ten-year bond yields are up about 25 basis points, hovering at about six percent. Spreads over German equivalents are at about  370 basis points, well above the levels that prevailed in May prior to the announcement of the EU-IMF bailout fund.

Just reporting it, so don’t shoot the messanger. It seems worthy of discussion. Is this a temporary overreaction to relatively minimal news (WSJ story on the stress test deficiencies and some other stuff) or is this the markets catching up with the grim reality of the fiscal situation? The beginning of the end or a great buying opportunity for Irish sovereign debt?

Trichet on Ricardian Equivalence

Jean Claude Trichet’s Jackson Hole speech is here. This bit caught my eye:

The economy, it is sometimes argued, is at present too fragile and thus consolidation efforts should be postponed or even new fiscal stimulus measures added. As I pointed out recently, I am sceptical about this line of argument. Indeed, the strict Ricardian view may provide a more reasonable central estimate of the likely effects of consolidation. For a given expenditure, a shift from borrowing to taxation should have no real demand effects as it simply replaces future tax burden with current one.

The written version of the speech cites two papers by Robert Barro as supporting evidence for this position.

I think it’s worth noting that the Ricardian equivalence idea put forward by Barro—that consumers see deficits and taxes as basically the same thing—has been tested many many times. And the general consensus on this, as I understand it, is that there is very little evidence to support the idea.

Moreover, though the idea works in one very simplified model set up, there are lots of reasons why the proposition does not hold in reality (liquidity constraints, people having finite lives, people not having rational expectations, uncertainty about the path of government spending—see this extract from David Romer’s textbook.)  Very few economists emerge from graduate schools believing in the Ricardian equivalence idea.

There are, of course, lots of arguments in favour of European governments setting out their long-term plans for the restoration of fiscal stability. However, it is a pity to see economic theories that are known to have little support regularly rolled out as arguments for fiscal austerity.

Trichet follows up on his Ricardian equivalence comments by arguing that expansionary fiscal contractions “are not just a theoretical curiosity” with the footnotes citing the old Giavazzi and Pagno paper with its two examples: Denmark in the mid-1980s and, of course, Ireland in the late 1980s. I’ve already said my bit about this, so I won’t repeat it. Suffice to say, this is pretty weak evidence that Trichet is serving up.