On a rather extraordinary day the economic and financial turmoil which had been inflicted on the Emerald Isle of Ireland suddenly escalated into political turmoil as well. The Green Party which had been present as part of the ruling coalition on Sunday at the Budget and bailout negotiations held a press conference and called for new elections in January 2011 and two independent TDs (MPs) said that they would not support the new budget. By the end of the day the Irish Prime Minister Brian Cowen had announced that he did indeed intend to call an election in a press conference where some vitriol was aimed at him as he looked somewhat hapless. Irish electors in Donegal Southwest will get their opportunity to express their opinions on Thursday as a by-election is due there and as the balance in the Irish parliament is very tight at best for Mr. Cowen their votes may turn out to be particularly significant.
I had suggested the following yesterday.
If we remind ourselves of what happened after the “shock and awe” package was announced back in May of this year then equity markets surged and government bond yields in the peripheral Euro zone nations fell substantially. However around a fortnight later Greek government bond yields began to rise again. As markets tend to learn from experience more quickly than politicians then Ireland is likely to get a shorter window of opportunity.
As it turned out my economic and financial view was added to by the political turmoil and Ireland saw something of a turnaround within the day. If we look at the situation concerning Irish ten-year government bond yields then we saw a close for last week at 8.1%, an improvement early yesterday towards 7.8% and then a retreat in the afternoon to 8.09%. So pretty much back to where they had started the day which must have been a big disappointment to those of the IMF/EU/ECB and indeed the UK and Sweden who were announcing their rescue plan. And these yields were only achieved because the European Central Bank came into the market again to buy Irish debt under its Securities Markets Programme. This morning the details on last week’s buying under the SMP appear to be delayed, I do hope someone’s alarm clock did not break down!
In terms of currency movements the Euro fell by 1% against the US dollar and now stands at 1.36 and also fell by 0.66% against the pound. So probably again not what European leaders wanted although as I have pointed out many times in the past what might do some good for the peripheral Euro zone countries is a sustained fall in their exchange rate i.e exactly the reverse of what we have heard the Euro zone call for. Should there be a “peripheral Euro” as was suggested in the comments section yesterday then it would trade a fair bit below the current one which would be to the trading benefit of those countries although there would be inflationary issues and financing foreign-owned debt would be more expensive.
Will the plan work?
Whilst we are still short of details and these are important because as I have written often in the past there are quite a few problems and issues with the EU’s rescue vehicles we do have a general picture. In the long-term I see them doing little for Ireland’s solvency but after yesterday we are in danger of the plan not working in the short-term either. One way of improving things would be to improve the terms and lend to Ireland at a lower interest rate than expected but that has its own problems such as can the relevant vehicles the EFSF and EFSM borrow at such rates?
One matter which does not get much discussion is Ireland’s ability to pay the money back. With all the debt that is about to be piled on her combined with more economic austerity one would have to say the chances are much lower than Europe’s leaders are implying. I notice that the UK Chancellor mentioned that dangerous word “usually” when talking of international repayments and this word is dangerous because we are in unusual times.
If one considers how much aid Ireland will require I am starting to question if the proposed 90 billion or so Euro rescue package will in fact be enough. After all we still do not know the full-scale of Ireland’s banking problems and the history of them is that they have got worse as time has gone by. The problem is that if you raise the size of the bailout then you raise the size of the problem of it ever being repaid.
Should Ireland get any money at all? Using per capita GDP
I decided to look at the issue from a different perspective. I have suggested in articles in the past that many poorer countries in the Euro zone would in effect be asked to put together some money to help richer Ireland and furthermore that one of the ways she had become richer was by having lower tax rates which may have poached business and income off them. To put some detail on this I have looked at the per capita GDP figures for 2010 calculated by the IMF for the Euro zone.
At the top we see Luxembourg at 79,000 Euros and then the Netherlands at 35,500 Euros but then we get Ireland on 35,000. So she is third out of sixteen. But let me keep going. The next group is at least within reach. We have Austria 33,800, Finland 33,000,Belgium 32,600,France 31,043 and Germany 30,982. But we have a few rather detached such as Italy 25,900, Spain 22,800, Cyprus 21,200 and Greece 21,100. Then some who must crick their necks to look at Ireland’s exalted position Slovenia 17,600,Portugal 16,100, Malta 14,200 and Slovakia 12,300.
Now these numbers are not perfect as a measure but at least they are all in the same currency. I would for example liked to look at GNP figures too because of Ireland’s particular issues which make in more important for her. However if you look at this from the point of Slovakia with a per capita GDP which is only 35% of Ireland’s you may well wonder why you are paying for loans to her.
As regular readers will know I have challenged the way that the UK has rushed to give aid to Ireland particularly as her blanket bank guarantee damaged UK banks when they were at their weakest. Well if you make the same comparison of per capita GDP and do so in US dollars you find that the IMF feels that Ireland will have a per capita income of US $45,600 in 2010 and the UK’s is US $36,300. Yes we too are bailing out a country which by this measure is richer than us.
Fears of International Contagion
There is much less news in the media about Portugal but regular readers will know I have analysed her situation on several occasions. To put her problem in a nutshell there is the fact that her economy grew very little in the good years which meant she fell behind her peers. I put a graph of her economic growth on here a while back and for those that did not see it then it showed a downward trend since 1990. So even pre the credit crunch she had problems which were masked by the fact that overall for Europe times were good. Now of course they are not and I am reminded of the effect of this by the per capita GDP figures I have used above of 16,100 Euros per capita or put another way only 46% of Ireland’s.
So when Portugal’s Finance Minister talks of Portugal’s banking system being stronger than Ireland’s he may well be telling the truth but he is also missing the point. Worries about Portugal centre on her (in)ability to find some economic growth to help with her fiscal deficit and national debt problems. These have not been helped by recent figures showing that rather than reducing as expected and promised her deficit has in fact been increasing.In the first ten months of 2010 Portugal’s fiscal deficit has widened with public expenditure actually being some 2.8% higher than the comparable period in 2009! This meant that Portugal’s core state deficit rose to 11.885 billion Euros in the first ten months of 2010, which compares with 11.67 billion Euros in the first ten months of 2009. As these figures keep repeating they correspondingly reduce the credibility of Portugal’s government.
To add to this according to Reuters opposition politicians are questioning Portugal’s figures.
Pedro Passos Coelho told a meeting of his Social Democratic Party items like state-run companies’ debts were not included in the overall public debt, which the government puts at 82 percent of gross domestic product this year.
He said that the “true” total public debt stood as high as 112 percent of GDP, while the budget deficit should be at 9.5 percent of GDP, far above the minority Socialist government’s target of 7.3 percent for the end of the year.
“The state has for many years been removing from the budget a series of activities, which has made a large part of our numbers fictitious,” he said in televised remarks.
Accordingly pressure is now on Portugal and there was little relief to be found yesterday. When the “shock and awe” rescue package was announced by Euro zone ministers on May 10th/11th peripheral bond yields fell. However yesterdays proposed bailout of Ireland did not help Portugal at all as her ten-year bond yields remain at 6.9% and as she does need to borrow this year she is most definitely not able to suspend government bond issuance in the way that Ireland has been able to. If she has to borrow at 6.9% then her long-term solvency will too be called in question.
Unfortunately there is more disappointing news for Portugal. According to Bloomberg news European Economic and Monetary Affairs Commissioner Olli Rehn said Portugal’s economic problems are “very different” to those of Ireland and its government has taken “bold decisions” on the deficit. So far little has happened without Commissioner Rehn predicting exactly the reverse in his role as an anti-seer.
I have argued before for decisive action in these matters and feel that Portugal too should call in the IMF and whatever other help she can find. This is because contagion fears are rising and because her government appears to be saying one thing and doing another. One of the problems in this is something of a vicious circle in that it is partly higher expenditure on debt interest which has increased public expenditure which worries markets which raises interest rates which increases public expenditure……
Whether the Euro zone’s rescue vehicles are up to two rescues at once is debatable and I have my doubts. In my updates including ones on the 25th June and more recently on the 17th and 18th of November I have questioned their setup and likely effectiveness. From the point of view of the UK we may well see the begging bowl at our door again even quicker than I expected perhaps the special circumstances this time will be that she is our oldest ally.
As a point of record I sent the letter I had written to the London Evening Standard to the Chancellor of the Exchequer late Sunday night early Monday morning and will let you know if I get a reply.