The Euro zone struggles to deal with the mounting financial problems of Ireland

This weekend was dominated in financial circles by the debate over what Ireland should do next with most concluding that she should look for aid. I have suggested since the 17th of September that she should take assistance from the International Monetary Fund. To illustrate my point I would like to take us back to then and look at Ireland’s government bond yields. Her ten-year yield was at 6.15% which is 2% below where it closed on Friday and this was after a considerable improvement cause by bailout rumours and a “clarification” from Europe as to how private-sector bondholders will be treated. If you put this another way Ireland could only theoretically borrow at the 6.15% level right now up to 2012. So maybe 2 years rather than ten,assuming of course she could borrow at all now if she chose.

Of course Ireland is not currently borrowing at all as she has reserves of around 20 billion Euros which she is eating into so that she can avoid have to issue bonds. This has various implications. Firstly it does give Ireland some flexibility which is something that Greece in her distress lacked. Secondly it means that the current level of high interest-rates does not affect her directly as she has fixed-rate debt which is already in issue and is not forced for now to issue what would be expensive new debt.Unfortunately this strength also feeds directly into what are Ireland’s weaknesses. She has a political class whose strategy has varied only between “extend and pretend” and “kicking the can down the road”. To give an example of this the first estimate of the bail-out cost for Anglo-Irish Bank was 4 billion Euro’s and the latest estimate has been upgraded to 30 billion Euro’s. My fear is that they will fritter away this advantage by dithering and bluster. Whilst as a state Ireland can remain relatively unaffected by the current high interest rate levels for a while I would like to refer you to my article on Friday the 12th of November which discussed the implications for the private-sector which now faces very high interest-rates. It was high interest-rates which contributed so much to the world-wide recession in 2008.

Irish National Reserve Pension Fund

Ireland does have another potential reserve fund it could theoretically dip into. Its national pension fund was established in 2001 and its purpose is shown on its website.

The National Pensions Reserve Fund was established in April 2001 to meet as much as possible of the costs of Ireland’s social welfare and public service pensions from 2025 onwards when these costs are projected to increase dramatically due to the ageing of the population.

It’s latest valuation gives the fund a value of some 24.5 billion Euro’s. Accordingly it is a potential aid in the Irish struggle as it could theoretically help Ireland by purchasing some of her debt. However there are dangers here as its purpose is to help with pension provision not to bail-out the government’s failed strategy. Indeed Ireland’s future pensioners have been punished already as this fund is underwriting a new share issue by  Allied Irish Bank of Ireland,which just to repeat myself is a commercial and not a central bank,  and so far the fund has been directed to invest around 7 billion Euro’s in the Irish banking sector. The investment/underwriting in Allied Irish is at a price of 0.5 Euro’s a share compared to a market price as I type of 0.39 Euro’s as I type this so should things remain the same there would be an immediate loss of approximately 1.3 billion Euro’s.

So as I have demonstrated the correct response to the idea of using the National Pension Reserve Fund should be, haven’t Ireland’s future pensioners taken enough of a beating? This fund is supposed to invest around the world for the best returns and not to find itself full of investments that nobody else wants.

A Suggestion

Should Ireland take the help offered by the IMF then as it is already on quite a severe austerity programme it needs only one major change and that is to scrap the Croke Park Agreement.  As part of a deal to get some pay cuts in the public-sector the Irish government  promised public service workers no further pay cuts for four years and no compulsory redundancies. And the accord provided for a possible refund of the pay cuts at a later date but only after major reform of the public sector has been secured. So this Croke Park Agreement potentially leaves public-sector workers shielded whilst the rest of the economy takes the pain and Ireland cannot afford this.

On its own Ireland’s government is unlikely to summon the resolve to do this but the IMF could come in and do the job for it.

Number Crunching and Ireland

I am sure that many readers are a little uncertain about the economic size/importance of Ireland so let me give some numbers as a guide. In 2009 she had according to Davys Stockbrokers.

Gross Domestic Product of 160 billion Euro’s

Gross National Product 131 billion Euro’s

Exports of 145 billion Euro’s

Imports of 130 billion Euro’s

Over the period of 2007 to 2009 or the peak period of the credit crunch her Gross National Product fell by 13.8% in volume terms or 19.4% in value terms ( in case you are wondering why this is so it was caused by falling prices as Ireland had disinflation).

If we now look at her finances then the Budget for 2010 which was set in December 2009 expected.

Tax receipts of 36 billion Euro’s and public expenditure of 57.9 billion giving a deficit of 21.9 billion Euro’s.

With the deterioration in her banking sector Ireland is now expected to have a fiscal deficit this year of 49 to 50 billion Euro’s. Put another way if you assume she continues to collect taxes at the same rate then the deficit will be equivalent to just under 17 months of Ireland’s entire tax revenue which gives it some context and a little chill up the spine I feel.

The reason I differentiate between Gross Domestic Product or GDP and Gross National Product or GNP is that it is GNP that Ireland can tax. The period where she was considered to be an economic “Celtic Tiger” was driven by low tax rates which attracted many multinationals to her shores. The problem of trying to tax people/companies who are internationally flexible and footloose is I hope clear.

Ireland’s importance to the UK

There have been some numbers quoted in the media which I feel are misleading including one or two claims that Ireland is the UK’s largest trading partner. Let me put the record straight. She is in fact number five on the UK’s list behind the US,Germany, France and the Netherland’s and in 2009/10 we exported some £15.3 billion of goods and services to her. The fact that this was down some £3.3 billion on the year before was a sign of the times.

As it happens we have an export surplus with Ireland that was around £6.5 billion but is now just over £3 billion. This is a particular shame as with our trade deficits we need every surplus we can get!

There are two other main issues. One is the level of Irish property purchases in the UK which were high at the peak of the boom. The numbers are surprisingly unclear but the best estimates are that of the assets that have so far gone into Ireland’s bad-bank or NAMA some 21% were in Great Britain and 6% in Northern Ireland which is likely to be something of a deadweight on our commercial property market.

The other is UK banks which are involved in Ireland and the main two are Royal Bank of Scotland and Lloyds banking group mostly via its ill-fated purchase of Halifax Bank of Scotland. As the UK taxpayer owns substantial stakes in both we all have an interest in this.

One side-effect of all this is quite near to me and it is Battersea Power Station. A landmark I have passed regularly for most of my life. It was owned by Irish property developers and is now owned by NAMA and over the past few days a new scheme has been announced. I would love to see it redeveloped as it is the largest piece of unused/barely used land in central London and much of it is derelict and decaying. My concern is that there have been so may of these plans and yet they failed in what were good times…….

The Current Situation

We have had a weekend of Euro zone officials and politicians telling Ireland to take help speaking to Ireland’s politicians who have dithered and obfuscated at every stage of her crisis so perhaps we should not be surprised that Monday has arrived and nothing has been achieved. I do not have high hopes for either camp as one set have a bail-out mechanism which may not work and the others could hardly have followed a more misguided policy. Given the relative size of Ireland’s economy it should be a relatively simple problem for the Euro zone to sort out and the fact that it is proving not to be speaks volumes for the competence of those involved.

Let us hope that a larger nation does not hit trouble as events then are likely to move too fast for the Euro zone to respond if it continues with the same pattern of behaviour.

I established an indicator of Ireland’s current position for rugby fans last week and would like to update it. The Aviva stadium at Landsdowne Road had 30,985 fans there on Saturday for the international against Samoa against a capacity of 50,000. More institutional incompetence I am afraid.


14 thoughts on “The Euro zone struggles to deal with the mounting financial problems of Ireland

  1. Hi Shaun.. given that the Irish state is spending nearly three times her tax revenues to support her banks, would’nt restructuring of both Irish Gov’t and banking debts be more appropriate ? As I understand it, IMF/EU help does’nt include restructuring.. or does it ? Also, what of the Reuters report on Irish-EU talks ? Do the people there understand just how much of their money is being promised to banks ? At the end of the day, I see no way for them to avoid Iceland’s fate.

    • Hi Mr.K
      Let me reply to both comments. As we stand it is not clear to me that a restructuring would help much. This is because we are in the middle of a muddle which those in charge appear to have deliberately created. I mean deliberately in that this is where their actions have led not that it was a well considered plan. So now what would we restructure? And by how much?

      The minute there is talk of restructuring the bond holders start to flee the scene. To catch them it needed to be done from the beginning or as a shock move. So now a restructuring would catch many of the institutions which have been trying to help such as the ECB…

      Accordingly I think the IMF should go in modify the austerity programme and do a thorough audit. Then the position will be known and a plan can be set. As an example someone has pointed out an expansion of 20 billion Euros in the balance sheet of Ireland’s Central Bank over the weekend so something else is not as it seems.

      The EU conditionality is likely to focus on Ireland raising her Corporation Tax rate.

      As a question in return is thsi getting much publicity in the mainstream US media?

      Years ago there was a soap call Soap which used to start with , Confused you will be!

  2. Hi Shaun,

    Eurostat’s report on Greece is out; they seem to have settled on the numbers.

    So, the revised 2009 numbers are: deficit at 15.4% and debt at 126.8%
    The projected numbers for 2010: deficit at 9.4% and debt at 144%

    From Greek press reports it seems that they have included almost (a reasonable almost) everything that was hidden one way or another. These appear to be finalized numbers; there are no more concerns/doubts expressed by Eurostat about these numbers.


    • Thanks John
      Let’s hope that we have come to the end of this saga where Greece’s numbers are continually revised for the worse. The numbers were pretty much what was expected on the fiscal front and slightly better on the national debt if I remember rightly.

      However it used to be considered frightening that Greece would have a national debt to GDP ratio of 150% in 2013 or 14 and now it will arrive next year. The sad news is that the minute she returns to international bond markets she will immediately be insolvent. For readers who have not followed this situation Greece does from time to time issue short-term bills but does not offer bonds at this time, she did have plans to do so but they look ever more unrealistic.

      The aid scheme looks ever more permanent and I hope the countries which provided it took my advice and used finance which lasted longer than the originally intended period of 3 years.

      Also there will have to be even more austerity measures if Greece is not to break the conditionality for the aid package. The dangers of a downward-spiral are increasing.

  3. Other than ZH, there is very little publicity. Most of our news focuses on the makeup of the new Congress and what it’s implications here are. Only when something blows up in a big way does it get noticed here. Financial shows will give it a passing mention, but then they return to their regular activities such as stock picking and commentary on the latest economic reports. In general the vast, vast majority of the US population has no clue as to how bad the economic situation really is (bank leverages, CDS’s, etc) nevermind that the European banking system is three times as leveraged. When the rubber meets the road here in the States, it’s going to be a HUGE shock to 95% of the population. The people here all think that this recession is a cyclical thing and that a recovery is coming, though they do know how bad this recession really is. MSNBC (the main financial cable channel) never mentions these very deep issues and allows very few commentators on their shows who would bring it up. All you hear is how the economy is recovering and their stock picks.

  4. Shaun.. it’s clearly impossible for states such as Greece and Ireland to dig their way out of this hole. I wonder how long the population will endure austerity programmes and Depression. In volatile places like Greece, I’d wager it won’t be long. Whats the mood in Dublin ?

    • Hi Mr.K
      My understanding is that there are ever fewer who have much faith in the current government but then they look at the opposition and tend to lose faith in politics full stop. However I do not think that much of the population really understand how bad things are. Whilst unemployment is high and some have had wage cuts things have yet to bite hard. Ireland had quite a few good years.
      Also sovereignty is an issue for a nation that only received it around 90 years ago. So I would say mostly resignation at this time…

  5. If this stupid austerity continues without some realistic restructuring, I am afraid this will end up by destroying the banks and stoming in the parliaments. The people will perceive that they have nothing to lose.

  6. Correct me if I’m wrong, but from what I have read it appears that the main problem in Ireland is not that the Government is over-borrowed but that it is having to underwrite increasing levels of bad debt in its banking system.

    Doing so has all the appearance of someone trying to shore up a house built on sand and it seems a bit unfair to accuse them of dithering if this is the case. What decisive action could they have taken earlier that would have cleaned up the mess?

    I would be interested in views as to what might have happened, had the Government maintained their guarantee on bank deposits (savings) and allowed the banks to go under – before nationalising them.

    • Hi Chris
      The problem with the Irish authorities has many different facets to it. Firstly pre-crisis there were people who tried to warn them of impending problems including a rather specicfic one I have only just spotted in the FT. Once they knew there was a problem they came up with a solution of the blanket bank guarantee to which my first thought was can they afford that? rapidly followed by an answer of no. This has led them into propping up the banking sector which as you rightly say is/was built on sand. An example of the dithering is the way that the problems with Anglo-Irish Bank have drifted upwards over time from an original estimate of 4 billion Euros to 30 billion and whilst Anglo is the largest case of such incompetence it is far from being alone. Right at the beginning there should have been a proper audit to established as far as possible the scale of the problem.

      Instead the strategy was based on hope that things would get better when in fact they got worse…As to decisive action some of the banks should have been nationalised earlier and at that point some bondholders should have shared the pain rather than the current situation where Irish taxpayers are having to take all the burden. The way that some individuals were able to benefit from the boom and then walk away from the consequences is a national scandal in my view.

  7. Thanks for that. I guess that’s pretty much the outcome I was trying to explore. The reason I thought that the banks would have to go into administration before Nationalisation was to ensure that the bondholders shared the pain – otherwise would the debts not simply transfer to the Government?

    • Hi Chris
      Yes pretty much and for different reasons (Fred Goodwin’s pension pot being one) we in the UK should have done something similar for RBS. Into administration say at midnight on a Sunday and restarted an hour later that sort of thing…..

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