Category: Fiscal Policy

A Bailout Worth Considering

Even though it’s hard to separate fact from fiction in the fast-moving bailout story, reports that the Commission and ECB are pushing for Ireland to avail of the EFSF for broader European stability reasons could change the calculation in an important way.   I still believe that Ireland’s best bet is to regain creditworthiness through a demonstration of political capacity with the budget and the four-year plan.   The alternative of being forced to seek a bailout would involve at least as much austerity as our own adjustment and would do long-term reputational damage.   

But acceding to a request to avail of the facility is potentially a different proposition.   I don’t think our European partners could simply expect us to pursue a less nationally advantageous path in the interest of broader euro zone stability.   The terms would have to be mutually advantageous relative to the next best options for both sides.   One reasonable agreement that could meet this requirement is for our European partners to support our four-year plan with a credit line from the EFSF at a reasonable rate of interest (say the 5 percent rate provided to Greece).  Access to the funds would be conditional on meeting the targets under the plan, which after all is being developed with input from the Commission and the ECB.   The intention would still be to return to markets for funding rather than the use the facility, but the backstop of a dependable credit line on reasonable terms would give us a substantially greater chance of actually being able to access market funding both for the state and the banks. 

Of course, it would be a mistake to exaggerate our bargaining power.   The increasing reliance of our banks on the ECB means we are heavily dependent on their willingness to provide extraordinary support.   But if the right deal is on offer, I worry that the government would be too inclined to resist for fear of a political backlash.  All bailouts are not created equal.   An invited bailout – on the right terms, and in line with our own chosen strategy – might well be worth accepting.

Is Ireland’s Number Up?

Constantin Gurdgiev and I offer different views on Ireland’s capacity to avoid default in today’s Irish Examiner.  Articles here.    The articles follow an introductory piece by the paper’s political reporter, Mary Regan.

Gillian Tett on Ireland

Gillian Tett (who was in Dublin this week) writes on the Irish situation: Ireland has shown grit but must find a magic formula

Shorter-Term Bond Yields

There is a lot of focus every day on this site and in the media on the ten-year bond rate rate and Bloomberg’s web page showing the yield on this bond is regularly linked to. However, the movements in the ten-year bond only tell part of the story of the past couple of weeks. There have also been dramatic movements in the shorter-term bond yields.

Here‘s the Bloomberg page for the two-year bond yield and here‘s the page for the four-year bond yield. Also, here‘s NTMA’s daily bond report.

The four-year bond yield, which had been about 3% in early June, reached 5% in late October and, as I write, stands at 8.34%, not so far short of the 8.92% prevailing on the ten-year bond. This suggests that the market is pricing in a debt restructuring in the next few years. (See this earlier post for a discussion of the relationship between bond yields and default probabilities.)

Even more disturbing have been the movements in the two-year bond. The yield on this bond had been about 2% as recently as June. It started November at 4% and, as I write, has now soared to 6.66%. Given that pessimists are likely to be assuming that Ireland will be borrowing from the EFSF in two years time, the implicit pricing in of a high probability of a debt default\restructuring as early as 2012 strikes me as unwarranted. But it illustrates the scale of the current negative sentiment towards Ireland in the bond market.

As of yet, the government has not been able to turn this sentiment around. An optimist might argue that passing the budget, resolving the political uncertainty via a general election and the emergence of solid evidence of a return to sustained growth might, together, achieve the required improvement in sentiment. A pessimist would argue that it’s too late.

Whoever’s right, the government needs to at least play it’s role in providing the first step in attempting to make the optimistic scenario come about by passing the upcoming tough budget.  If it could achieve that goal, then after that point, there’s a strong argument that the best thing the government can do is deal with the second element of the optimistic scenario by resolving the political uncertainty as early as possible with a January general election. As to whether the third element of the optimistic scenario—the emergence of growth—occurs, one could argue that this is largely out of the government’s hands at this point

A European Mechanism for Sovereign Debt Crisis Resolution

Bruegel have released a proposal in relation to the resolution of future sovereign debt crises. (Since the mechanism does not yet exist and would require a Treaty change, it only relates to future debt issuance after its establishment – it has no implications for already-issued debt or any debt issues in the near future.) It has two elements:

1. A procedure to initiate and conduct negotiations between a sovereign debtor with unsustainable debt and its creditors leading to, and enforcing, an agreement on how to reduce the present value of the debtor’s future obligations in order to re-establish the sustainability of its public finances. This would require a special court to deal with such cases. The European Court of Justice is the natural institution for this purpose and a special chamber could be created within it for that purpose.

2. Rules for the provision of financial assistance to euro-area countries as an element in resolving the crisis. Should a euro-area country be found insolvent, the provision of financial aid should be conditional on the achievement of an agreement between the debtor and the creditors reestablishing solvency. The task of supplying financial assistance could be given to the EFSF provided that it is made permanent and an institution of the European Union. Lending by the permanent EFSF could also be provided, under appropriate conditions, to euro area countries facing temporary liquidity problems, as currently foreseen by the temporary EFSF.