August 31, 2008

Central Bank can crack credit crunch

Posted in Banks · 37 comments ·

As the banks sit tight to protect their developer mates, the Central Bank needs to move fast and decisively.

How can a tiny country in a huge monetary union experience a credit crunch? How is such a nonsensical dilemma possible?

This is a question worth posing because the present credit crunch in Ireland is totally unnecessary. It is a function of laziness and a lack of courage by our Central Bank.

Many hundreds of businesses will go bust and many thousands of people will lose their jobs unnecessarily because the Central Bank will not step up to the plate and act. In the US, the Fed is trying to turn things around, yet here, our Central Bank is behaving like a rabbit in the headlights.

The problem in Ireland is monetary in nature and only the monetary authority – the Central Bank – can solve it. It’s a wonder that Brian Cowen tolerates such inactivity from the only institution in the state that can do anything about the present economic crisis.

Let us begin by talking about the European Monetary Union (EMU). The EMU gave us a free lunch. We got the ATM card and the pin number of the pool of savings that resided in Germany. The Germans have been saving for years and, by joining the euro, we could access their savings. Why do you think Irish interest rates came down from 12 per cent to 4 per cent in the late 1990s? It was because, in financial terms, the Irish became German. We gave up our own autonomy for something much more appealing – other people’s money.

The implication was that we would never again want for credit. Because we were so small, we could dip into this huge savings pool to finance our growing economy. In contrast, before the EMU, we had to depend on our own savings to finance our expenditure. Back then, if we spent too much, the national current account would go into deficit.

This would trigger a chain of events. The first warning sign would occur in the Irish currency: its value would fall if the current account deficit got too big as people, expecting a devaluation, tried to get their money into another safer currency, selling punts in the process. To protect the currency, the Central Bank would raise interest rates and this would choke off the excess demand that drove the current account into deficit in the first place. Hey presto, the system righted itself. In so doing, it sent a signal to all of us that there was only so much cash we could spend.

Fast forward ten years and we had no such constraints. We could spend as much German cash as we wanted. Unfortunately, we blew this golden opportunity on bricks and mortar, but our recklessness does not change the logic of the EMU. We still have access to all this money. Furthermore, with interest rates adjusted for inflation now in negative territory, it pays to borrow.

So why is there a credit crunch? The credit crunch exists because, first, we have seen through the scam that was the housing boom and, secondly, the banks are finding it hard to get cash and they have tightened their belts. These two moves set in train the next phase of the credit crunch: the bad debt cycle.

Because Ireland turned itself into one giant pyramid scheme, many purchases were mortgaged against other previous purchases, and all this borrowing was legitimised by the ludicrous valuations given to property. Once property collapsed, the deck of cards came down around it.

Now we have the truly shameful spectacle of the banks protecting their developer mates, while they wait for some government-sponsored bail out. As long as the banks play this silly game of hide-and-seek with their shareholders’ capital – short-changing their shareholders to protect their clients – we will not get over this predicament.

Worse still, imagine that the government is being lobbied to cough up taxpayers’ money in order to hoodwink first-time buyers into the market to bail out millionaire – and, in some cases, billionaire – developers. This is a classic example of socialising losses in the bad times and privatising profits in good times. This is cronyism of the highest order. If the present government accedes to this gombeenism, we might as well turn off the lights.

However, there is a better way forward, which allows us to recapitalise the banks. It would not cost us a penny. Ireland needs ample liquidity to be available to promising non-property related ventures. This will allow us rapidly to switch our emphasis from domestic demand to exports.

Difficult as it is to admit, the banks – which caused the problem – are the single most efficient redistributors of capital and they will need to be part of the solution. In addition, like dogs, they are licensed. The banking licence, like a driving licence, is governed by rules and regulations – break those rules and you lose your licence.

The Central Bank could now show leadership. First, it could institute a massive sale-and-repurchase operation with the banks. The Central Bank could swap the banks’ huge property liabilities at a massive discount that would prevent the Central Bank from exposing itself to downside risk.

In return, the Central Bank would give the banks liquidity to lend. The stipulation is that this new cash must not go to property investment and that strict guidelines be imposed limiting the amount of cash that can be invested in property.

In terms of re-injecting confidence, some of the liquidity could be used to give developers a break in terms of the conditions of their mega-loans, which they clearly can’t repay. However, as they would have been already forced to take a serious discount on their property ‘‘assets’’, the banks would be compelled to share some of the pain with the developers. (After all, they did lend in the first place.)

The main attraction of the scheme is that, by swapping property loans for real cash that could be used for productive investment, Ireland could salvage something from the property boom. We could make good some of our bad behaviour by using property as a financial pulley to lift real industries and companies that are producing real things and adding value.

The beauty of the EMU is that the money isn’t ours. We would be using euro to fund this swap operation, and thus wouldn’t have to put our hands in our own pockets. As it was in the beginning, the cash is German. So we, the Irish taxpayer wouldn’t use a shilling.

At the moment in the US, the Federal Reserve is engaging in a similar operation: governor Ben Bernanke has dramatically increased the Fed’s role in providing liquidity to the system. His critics suggest that all these new dollars will contribute to US inflation.

This might be true. But in the Irish case, as all the recycled cash would be euros, our inflation rate wouldn’t change. Who said we can’t still dine out on a monetary free lunch?

All this takes is a bit of vision from the bankers on Dame Street. If they can’t see this, possibly the Minister for Finance, their boss, should force their hands. Monetary union is a two-way street. While we can’t affect our interest rates, we can engineer liquidity.

The EMU allowed us to be on the offensive in the upswing; it also allows us to be defensive in the downturn. All we have to do is change the tactics – not the strategy. Remember, it’s the Germans’ cash anyway, so we’ve nothing to lose.

  1. VincentH

    Now there is an idea. But the banks would need to look like one of those dressage ponies. Because a bit like FF they tend to play in all the pools, and they are certain to drain from one to the other.

  2. Fergus McLellan

    Points for :-
    - Nice quick hit to asset values
    - Immediate return to credit flow
    - Losses correctly borne by those who should bear – shoddy lenders and asset holders

    - Traditionally banks look for collateral when lending – i.e. property
    - If business investment loans become the credit growth vehicle – then banks will charge a premium for unsecuritised loans


    I would like to see David include investment in private medical, infrastructure and education investment in his definition of “exports” / business.

    This would have an exponential effect of reducing the requirement for public spending / taxes…and put service provision where it should be – in the hands of customer orientated free market economics.

    This will allow us to make the educational and infrastructural improvements we need to bring the economy to a higher level. Free flowing credit on the business investment side will naturally result in increased R&D spend, and a reduced tax environment will certainly help to multiply that effect.

    I LOVE this proposal. It helps us out of the doldrums IMMEDIATELY, and handled right it can guarante future prosperity. Again it is the kind of small cog in a big wheel thinking and action that Ireland can avail of – given the unusual phase we are at in relation to Europe and the unusual structure of Europe itself.

    Using other folks money worked for the Swiss !

  3. Skin

    I have to say I am mightly confused about this so-called ‘credit crunch’. Fair enough, I dont run a business so I cant call it one way or another about lending from banks, but from a personal perspective the banks are still offering huge blood-sucking mortgages to many who would like one. Perhaps they have disshelved the 100% mortgage, but big deal, 95%, or 90% mortgages on over-inflated property prices still points to wreckless lending – I thought there was supposed to be a liquidity problem?

  4. Nagelz

    The mega devs and the banks will weasel out of this whilst the heavily mortgaged punters have a forty year mortgage sentence.

    Is this to be the actual price of economic correction?

  5. Interesting idea david ( as always) – it’s interesting to see the policy responses from the Federal reserve and compare them to our own central bank. The Fed has pumped the banking system with liquidity and also saved a few banks in the process and are also looking at ways of preventing this whole debacle from happening again in the future. So they are acting in a tactical and strategic way.

    and our central bank ? – Mr. Hurley and all the other overpaid administrators are as usual doing……..yep you got it, they’re doing nowt. No policy repsonses to the crisis, no innovative thinking, no fresh ideas. The only thing they have done is to tell the banks to go easy on their developer mates. So judgement day is put off for another few years.

    Here’s what I think should happen. The banks should be forced to mark their losses to market and not to their ‘models’ which are not worth the paper they are printed on anyway. They should then declare these losses much in the same way as many of the large American banks have written down losses. If they are seeking extra liquidity in terms of a government bailout ( which is likely to happen) they should be given pretty tough terms – pay back all loans with interest in 10 years, give a large stake of equity to the taxpayer, and ensure that not one of these reckless idiots is given a bonus for the next 5 years minimum.

    And here’s a novel idea – lets use one of these large office blocks that is lying empty and give it to start up companies free of charge for the next 5 years – lets try to use this situation in an innovative and creative way – lets use all of these empty houses to affect real social change and get people into affordable accomodation. Lets encourage our government to actually DO something.

  6. Fascinating piece, David. Do you think you could explain?

    > The Central Bank could swap the banks’ huge property
    > liabilities at a massive discount that would prevent the
    > Central Bank from exposing itself to downside risk.

    I don’t understand how this part would work. By “huge property liabilities” do you mean foreclosures on their books or the banks’ own property portfolio?

  7. What would the German’s opinion of this be? Could we blame them if they took a very dim view of your shyster scheme .. and some time down the road, decide to look after ‘numero uno’ ?

  8. Philip

    Nice one David. And we are probably small enough to get away with it. We just need a few DMcWs in the CBank and Gov and we’re sorted.

    We now will ask banks to move from exchanging money for appreciating securities and charging interest to being venture capitalists – working the 20:1 success rule and taking a share in the buiz – was that not something that did in Japan. As company shares climbed, so did Banks own value and the rest is history – at first very very very good for about 20 years and now stagnation for the last 10 years. I’ll settle for 20 years and try learn from history in time.

    This will work if it is well managed. i.e. if government and central bank realize that the policy will need major review. And it could break the bricks and mortar culture – which i think is the big challenge.

    Sadly, I think your idea will be corrupted by removing the property exclusion. Banks are not going to change and will blow out and the developers will be pulled down with them. The government is messing about and indeed precipitating the situation by pulling funding from elsewhere to maintain the status quo. The Bank/Devel/Gov Triad simply do not get it. I think they sincerely believe that Ireland is such an open economy with such a flexible workforce that it needs no management and if they wait it out, things will come right courtesy of the Fed and others and we are back to square one.

  9. Johnny Dunne

    “Ireland needs ample liquidity to be available to promising non-property related ventures. This will allow us rapidly to switch our emphasis from domestic demand to exports.”

    David, this article is a great suggestion and if ‘implemented’ could promote Ireland to be the ‘leader’ in financing businesses selling ‘products and services’ into international markets. No point in having all these new commercial properties if we don’t have a demand from ‘productive’ businesses.

    There are risks the ‘liquidity’ will be used to just buy more properties. Also it would be hard to change many lenders appetite for property backed loans, as they have built careers on this single asset class.

    Politicians to date haven’t shown an ambition or willingness to promote policies which could support wealth generation in trading companies (doesn’t win votes) , but can create employment!

    We comply with EU regulations with respect to the state supporting businesses, so instead of providing financial support to commercialise and scale business internationally EU rules dictate that we can only invest in R&D. So the government has tended to ‘sign off’ massive R&D investments – SFI will spend €180 million this year and Enterprise Ireland will provide €50 million in R&D grants to businesses.

    Compare this to the difficulty the Irish venture capital industry is having to raise fresh private equity to invest in emerging and developing companies with the vision to grow into internationally competitive businesses. In the past 2 years only 5 VC’s have closed new funds. Enterprise Ireland still has a large part of the €175 million earmarked for allocation to these venture funds. AIB and BOI have backed funds which have only made a handful of investments to date. Is there an appetite in the Irish banks ?

    Of all the €10′s billions which have been lent during the boom it would be interesting to understand how much was invested in ‘productive’ companies without property assets as security or personal guarantees (would be backed by property also). Our indigenous businesses need to export more, as today we might be exporting up to €180 billion but less than 10% is from indigenous companies. Take out the agri-food companies and larger PLCs, we would be lucky to have more than €5 billion in exports. Sounds like lending has change if we want to develop these companies or else just hope to for MNCs !

  10. David’s scheme would only pay dividents for the moribund economy if the banks and the builders were forced- as part of the Central Bank cash top up-to place their unsellable properties on sale immediately, at revised highly realistic least 40% off the current asking prices.
    This is unlikely to happen and such a scheme/bailout as David proposes -like the American government’s Freddie Mac bale out some years past- would only postpone the day of reckoning for irish banks and developers, unless the price fall was a strict condition of the whole deal.
    The American taxpayer now pays twice, for it’s own governments half baked rescue some years ago.
    No doubt an irish “bail out” would repeat that exercise.
    I have no confidence that Fianna Fail are either competent or capable of taking any such idea on board without botching it.Their Broederbond relationship with the big developers is far too strong.
    It will be just another raid on the national purse, and worse than that it will delay the day of reckoning for the banks/developers and the hope of early recovery

  11. Mike B

    I very much question the idea of giving large developers a break. We have the capacity to build 90000 units a year yet we only need a third of this.The construction sector is too bloated. If we keep credit flowing into these developers the market will not restructure. Insolvent companies should shed workers and loose their market share, have their assets should be liquidated etc…

    Only the better developers should emerge at the other end of all this. If we keep a load of developers on life support, it will discourage investment and healthy firms from entering the market. I think the same can be said of the financial sector. It has become too bloated and a credit swap right now would only favour the most reckless lenders.

    It looks to me like the construction sector and financial sector are playing a waiting game where those who can hold out the longest will get bailed out. If the government makes it clear that there will be no bail out, then we will get on the road to recovery much quicker.

    Overall, i’m very skeptical about the idea as it will delay the restructuring that needs to take place. Not to mention that many banks won’t like it.

  12. mishko

    Can the big Irish developers really not repay the mega-loans? They’re investing big bucks outside the EU in places like Russia and China. And how would they be affected by (or better how could they be made to contribute to) your idea, David?

  13. Philip

    I am confused…

    According to last Saturday’s ITimes, mortgage growth is at lowest in 21 years of 964Millon for July 08. Did I read that right? Level of Credit card debt is 1.3bn! exceeding the new spend of 1.2bn…clearly, money is flowing. Debt is down in June by over 1% Private sector credit up by nearly 1% by 3.3bn! Total lending to non-Gov residents is nearly 400Bn…Annual growth rate in lending declined to 4.6 in 2Q08 for construction sector…it is still growing by 4.6%…not falling. So Construction is actually expanding in spite of all the talk – maybe not in house building – but it’s happening somewhere.

    Total Mortgage Debt stands at 147Bn which is less than half of all other debt.

    There are declines in debt and there is increase in credit granted and people are still buying houses – nearly at the rate of 1Billion’s worth of extra loans being taken out per month!

    I cannot help feeling we are talking up a storm here. There is a difference between falls in business and falls in growth. Growth has slowed…but it is not a shrinkage.

    So, local stamp duty has failed because the government has screwed up the tax take mechanism by putting all eggs in one basket…could it be that this is the only – though very significant – source of the shortfall? Could it be that really we just have an oversized Public service and really the rest of the economy is actually working out OK – Expect more stealth taxes, becasue this smells SOLELY of a major financial cockup on he part of the goverment rather than a failing of any part of the economy per se.

  14. Again David you have raised some valid points here, unfortunately our Current incumbents in charge while they like taking their trips to the USA they never open their eyes to what is going on. As for our Central Bank making a decisive move , well all you have to do is look at it’s board of directors to get your answers.
    Ireland politically today with the level of cronyism within the corridors of power they are only interested in lining their own pockets we are no better than Romain twenty years ago ,instead of looking at Our Country as a whole ,you write this the same week when our politicians all get salaries of over €100,000 of which their argument for this is they would get this in the private sector is as laughable as thinking Brian Cowen would discuss such issues with the Central Bank.
    Our Bank managers will continue to re adjust their books to protect their developer friends for their friends in government while they plan to dupe more first timers into the trap, instead this week they will sit back and clap each other on the back with the success of their new toll structure on the M50.
    All I can see Biffo doing with the Central Bank is seeing can he raise any more capital to increase our bloated civil service and to possibly create a new department to take on the rest of his loyal voters back in Offaly and Laois.

  15. MK

    Hi David,

    Well, the Central Bank may seem to be inactive to a certain degree, but it is, along with the ECB, providing windows of liquidity. The problem that many of the banks have is that the loans that they have already given out are falling in terms of the assets that are backing them up. Yes, we all know this. That is ‘okay’, if the loaners can keep repaying the loans back but due to property activity slowdown (commercial and residential across many markets in the EU, US, etc), keeping those payments up is proving difficult. Many loaners have been given some extra leeway in terms of the payments, stretching the funding further. Only time will tell whether some or many of them will fail. Many in the past have lived through downturns and are, like residents battling against Hurricane Gustav, batting down the hatches, etc. The storm will dissipate though, and there will be life at the end of the tunnel. Many are hoping on that to get through.

    The problem that some banks have made, such as exemplified by Northern Rock, is that they loaned from other banks, the so-called wholesale market. They provided a lot of retail loans based on their ability to keep funding from that type the debt instrument, and with the credit crunch, which is really a property bubble by another name(!), their cost of doing so has shot up. Too much inter-bank loaning is what caused the credit crunch and perhaps collectively the central banks of many areas are to blame. Low levels of capital adequacy are also a factor. The global money system is based on ‘pretend money’ at the end of the day, not hard-earned gold doubloons, but printed paper.

    The financial and liquidity of the world is very much inter-linked. US Banks loan to European banks which loan to Asian banks and back to US banks, etc. The central banks and their equivalents in each domain cant control it all on their own, or even their own market. We have seen examples of how US mortages that went bad caused massive losses in European banks. These domains are not islands on their own. Thus, Ireland’s solution is not the Irish Central Bank alone. I do agree that our one could have done more.

    You mention:
    > socialising losses in the bad times and privatising profits in good times.

    But this is what your solution actally does to a certain extent. If the banks are carrying stressed debts some of which may go bad, the Central Bank cant ‘take them on’ and swap them without accepting some of the risk. Either the loaners (banks) take all the pain of the asset loss or someone else takes part of it. It cant dissappear – it will only do so once the assets rise in real market terms to above their loan level, ie: not on an accountatnts befuddled balance sheet or their off-balance sheet.

    And I for one would not be in favour of alleviating any of that pain away from the banks (loaners) or those that took on too much of a loan. I dont think our government or our central bank should either.

    I do think that liquidity can help. But liquidity is there, it hasnt stopped completely. And if you are a business you will get a loan or fuding or whatever based on your chances and prospects. Banks, even with increased liquidity would NOT give out loans willy-nilly to fledgling exporting business potentials, and they would be foolish to do so. That would just potentially create another area with bad loans!

    Its hard to know what to do in a storm. This is a mega-storm in terms of financials as it has a wide global reach and many economies are affected. But its not a case of flattening every ‘building’. Life is going on. Yes there will be pain, yes there may be potential pain-killers to take that may mask some of it, but there is no magic bullet. Someone has to pay. And as you say, it shouldnt be the masses.


  16. Lorcan Roche Kelly


    Interesting article, you are to be applauded for trying to find a solution to the current liquidity impass.

    But (isn’t there always one) I do wonder how practical, or necessary, the suggested stipulation that the newly introduced cash must not go to property investment is.

    The current property market decline is part of the economic cycle that effect all ‘free’ market commodities. A first year economic student could have predicted the current problems, but short-termism amongst the ‘power-that-be’ allowed the bubble to inflate beyond sustainable levels.

    So if they easy money is gone, for the time being, from the property market would it be necessary to curtail the money supply to this market? If the market itself doesn’t offer suitable returns then there will be reduced investment in it.

    The adjustment in the property prices is a necessary, and inevitable, one. While it is a populist and much lobbied market, it does not give it the right to ignore established economic doctrine.

    While I’m speaking of economic doctrine, I do not agree with your assertion that
    ‘in the Irish case, as all the recycled cash would be euros, our inflation rate wouldn’t change.’

    While you are not advocating Ben’s solution of money creation, you are still introducing ‘new’ money to the Irish system. Granted, the EMU euro supply would not increase, but the local (Irish) one would. And this local increase has to be inflationary. Introducing increased inflation risks to an economy that has lost it’s main mechanism for controlling it (interest rates) could prove to be more damaging in the longer term than a property crash.

    As an aside, I briefly met you at the Leviathan event on Saturday evening at the Electric Picnic. As always, a great debate.

    Lorcan Roche Kelly

  17. paddy cullen

    could everybody please stop using the phrase ” first year economic student could have ……..” its getting old ..

  18. Malcolm McClure

    David: I have always been rather skeptical of the theory you advanced in ‘The Pope’s Children’ that Irish mortgage debt was being financed with Real Money saved by elderly and industrious Germans. An alternative interpretation is a bit more complicated so please bear with me.
    It suggests that the banks sliced and diced the mortgage repayment streams, then compressed them, like canned spam, into Bonds that could be rated Aaa. That’s where the fun started. Cautious types who purchased these bonds also bought Credit Default Swap derivatives that insured them against default on their bonds. And here’s the ugly truth. No one knows who is ultimately on the hook for these derivatives which now amount worldwide to $62 Trillion (Spelt with a ‘T’).
    If I sell a credit default swap (CDS) to you and then buy a CDS on the same issue from Joe down the street for a small profit, my “book” looks neutral. And as long as Joe has the capital, I am. But CDSs have been written to 12 times the actual underlying debt instruments, so there are not just three parties to my mythical transaction, but at least 10. Joe sells to Mary who sells to Bill, etc., etc. Where does the real guarantee ultimately reside? If there is a problem, you are going to come to me but I am going to tell you to go to Joe who will tell you to go to Mary and on down the line until someone tells you to go to hell. Then you come back at me and take me to court.
    That’s the way it works.
    Once a few more banks go bust, a lot of these CDSs will activate and there’s going to be one hell of a mess of litigation. This will inevitably cause a financial meltdown on an industrial scale.
    Presumably the banks still hold the Deeds that were submitted as mortgage collateral, so the ravenous Bond holders will take the banks to the cleaners when they find their CDSs are worthless. They will then find that most Irish house deeds are worthless too, because of the Family Home Act.
    International Courts may well consider that Act illegal and saddle the Irish government with responsibility for those debts. Eventually the government might have to privatize the Land Registry Office to cover their debts. Thus the LRO (acting as an Estate Factor on behalf of international Bond-holders) would inherit title to all property in Ireland previously invested in the Irish government and earlier in the British crown. Wonder what Dev would have thought of that?

  19. Lorcan Roche Kelly


    Sorry if my choice of phrase caused offence or affronted you.

    I shall endeavour in future to avoid it, and instead at all times use my father’s rather more vernacular ‘A dog with a mallet up it’s ar** could have…..’

    Hope this helps to alleviate your concerns.

    Lorcan Roche Kelly

  20. Observer

    The european Central bank has too much power; with the current climate, I’m not sure they will be able to put any plans in place to combat a continent that has a mountain of problems on its doorsteps…….. not to mention financial.

    Ireland is in way too much debt compared to the likes of France, Germany and Britian who are only just swimming above the deep end & carrying alot of heavy baggage.

    The Great Depression occured when the US was in a Surplus, god only knows what is in stall for us.

  21. Paul

    David has made a freudian slip. What he calls “property liabilities” are actually classed as assets on the banks’ balance sheets. They are only looking like liabilities because they have slipped so much in value. I feel that David may be wrong in suggesting that there is too little liquidity in the Irish banking system. It may seem like it, but that is because we have grown used to an abundance of cheap and easy credit over the last ten years. Compared with how it was in Ireland in the 1980s it is now extremely easy to obtain credit. The ECB of which our Central Bank is only a small part has recently announced that it is reviewing its position on buying mortgage backed securities from the banks. If you think this will mean easier credit you can think again as the ECB has in fact been buying these securities from banks in the Eurozone (mainly Spanish banks, but presumably also Irish ones) and now wants to stop as they are putting billions of euro in taxpayers’ money at risk. Presumably Irish banks will now have to reduce their lending even further. Ireland’s central bank has no authority to act independently of the ECB, nor would the Irish government likely be willing to put taxpayer’s money on the line to increase liquidity in the Irish banking system. In a global credit market there would be little point anyway as the money could end up anywhere in the world.
    Of course David should know all of this but the standard of his articles seems to have slipped generally over the last year or two. I now find a far more useful source of economic advice although it is UK centred. Sorry David!

  22. Fergal

    How much of this ‘credit crunch’ is really a crunch. As Philip has noted, there is still year on year GROWTH in lending. Growth in mortgages is at a 21 year low, not actual value – even compared with 2007, there is growth. What has happened is that some people have realised that property cannot always be an appreciating asset and that residential buildings have been overvalued.

    Factories are laying off people in Ireland because people can employed more cheaply in Poland, Romania, China, Bangladesh etc. Part of the reason for that is because of inflated public services (requiring more tax, and hence higher wages), inflated property prices (requiring higher wages) and massive waste of government (tax) money.

    The ‘credit crunch’ is too simple an explanation to the problems affecting Ireland. The Irish built a government sanctioned pyramid scheme, based on all too easy credit. With that false base, the government ratcheted up public spending to buy an election. Eventually, people realised that a 3 bed terraced in Rathmines is actually not worth EUR 700K. (They need to realise that it is probably worth something in the region of 10 times the average industrial wage – certainly not more than 500K). The problem is that people who thought they were rich, now realise that they are in debt with huge mortgages. This is not a credit crunch. This is realism finally dawning.

    Whatever the solution, it is NOT for the government to risk the taxpayers money further. If the Govt purchases the banks’ property liabilities (actually assets), then the Govt is betting more taxpayers money on the property bubble. I stayed out of the bubble by renting. I did not profit from the mass delusion. I do not want to lose so that the Govt can take another punt on something it has either never understood, or else simply failed to manage.

  23. shtove

    Liquidity has been pumped in to the system – by the ECB. Around Christmas it amounted to €400b. In fact, the ECB was better prepared than the Fed, who had to invent an alphabet soup of programs to extend the authority to provide that liquidity in the US.

    The problem they all find is that they can’t force the lenders to lend – much of that funding has gone either in to the blackhole that many banks have on their balance sheets or in to commodities.

    Now the ECB is calling in to question the worth of many assets that are being exchanged at their discount window, with real worries about Spanish originated debt.

    Still, at least credit is still expanding. So we’re not in the deflationary zone … yet.

    Ireland will have to take its lumps and discover the true way to housing affordability: let prices fall, you muppets!

  24. Stephen Kenny

    Given that it is possible for a government to encourage bank lending to companies, via a loan guarantee scheme, for example, the next question is what would happen?
    My immediate response is to put my head in my hands and weep at the rip-offs that would occur. With the banks being actively encouraged by the government to lend, companies that were just enough more than paper to get a loan, would spring up like a desert after a once-in-10-year rain. So many would disappear as quickly.
    Venture funding is very difficult. VCs are often seen as the enemy, by start-ups, but they usually have very significant experience. How would a local branch manager cope? The idea is too awful to consider. The Porsche dealers would have a great time.

  25. Skin


    I think Lorcan, Philip and Fergal make good posts. By and large the economy is heading for minimal growth (1-1.5%) for the year, it could possibly retract but this is widely expected as a short-term or at least until mid 2010. The construction industry is, as with property prices, going through a ‘correction’.
    But surely this is a good thing!?!?! Commentators, including David, have been chanting the unsustainability of the growth in the construction industry for years – and he/they were correct in doing so. But we are now where we are, and I for one think it is a good thing. The economy now has time to take a breath, focusing on export growth and investment in other areas of the economy is exactly what is needed.

    Bank to the ‘credit crunch’, the cost of borrowing has increased, bank profits are being hit and their shares prices are knocked for six because of wary investors – but walk into to local bank today and inquire about how of a mortgage you would receive, you would expect that they would be more cautious these days (I did anyway). But no, they are not, they are stilll flashing the cash without too much fuss, albeit a slightly higher rates than last year – but seriously, big deal!!!!

  26. MK

    Malcolm> derivatives which now amount worldwide to $62 Trillion

    This is a critical and missing piece of information from most people’s radars. Its the elephant in the room, to borrow a phrase, but for many/all it is an invisible elephant, the exact size of which we do not know.

    The global financial system is based on debt. Debt that will in some time be paid off. We live for now, and generations will pay for it in the future if we dont. I have two fears with the global model of increasing debt. The 1st is that trust may at some point snap-back with major consequences and the 2nd is that the increasing global population is a boom in itself, much greater than our recent property boom. It will run out of steam at some stage, it cant keep doubling every century and when it does there will be pain somewhere and most likely for many people across the globe. Even the 1st world wealthy nations like ourselves. Perhaps these two aspects, people boom and debt trust will hit a crux at the same time – a perfect storm.

    The derivatives system which many do not understand, nor I, which can be used and re-used to keep money ‘off the table’, is very complex and understood by few. Neither the Banks nor the cental banks fully understand it. Bernanke doesnt. The sage of Omaha doesnt. I forget where (Economist, NY Times), but one article if I recall correctly had the debt in derivates at over 110 trillion (yes, a T) or something. No doubt all figures are estimations at best. If all te worlds debt is added up, we have nowhere near enough money to pay it off. We have essentially borrowed with work that will pay for it in the future.

    The financial system is completely based on trust. IF that trust should ever wain and reduce with a shock, the house of cards could all come tumbling down and that would most likely badly affect the ‘real’ economy, of Mary and John working for company C providing product/service X, purchasing food, clothing and lodging, etc.

    Money as we know it since 1974 may yet have to evolve again. It really should be worth more than paper or a few electonic bytes in an electronic payment/clearance system.

    Economics, is not yet a science, and maybe wont be this century either. We are still learning it as a species, and any 1st year economics student will tell you that …. ;-) ….


  27. coldblow

    So there is a credit crunch and there isn’t one, it depends on how you look at it. Malcom and MK, you are after making me feel more than a little uneasy. Can we compare this derivatives wheeze to mad cow disease which resulted from feeding animals with the carcasses of their dead relatives? Luckily Armageddon was avoided (so far) and let’s hope for the best here too. No wonder nobody was keeping these lads in check when nobody knew what was going on. I’m not quite sure whether I should be pleased or disappointed. Is that how you’re supposed to feel when you’re resigned to living with uncertainty?

    But we have the historical example of the Depression before us and politically we will need to be ready for the worst, and to face down any orthodox economic naysayers if necessary – after all they might know more than the rest of us but they don’t know it all!. (I think.)

  28. Philip

    MK & Malcolm McClure, I think you guys have hit it on the head. The current “crunch” is just a current play is what is essentially a trust system. The ECB, Fed etc all depend on it. This hassle we are experiencing now is really about people loosing trust. Whether this minor tear in the fabric of the global financial systems evolves into a major rip really depends on how the rest of the world will respond over the coming year. Metaphors abound here.

    Then Fergal comes in and for me underlines what is really happening…too many people’s job security is in question. We see it in Ireland and it is happening right across the board in the UK US France and Germany etc. and China will find that the markets it “exported” deflation and outsourcing etc are now starting to suffer becasue the well of cheap credit is drying up or the “trust” system is starting to be questioned. I feel high finance juggling in detached maths models tend to be too detached from all too human reality of people needing a secure and quality life. We think we can treat people like cogs not realising that the cumulative effect of ignoring long term damage is having no damage avoidance system at all. Bear in mind, whole skillsets are also dissappearing by their outsourcing and the fact that the next generation does not want to take them on. China is not to blame, nor immigrants nor people trying to improve margin nor MNCs etc. The system has run ahead of itself and is now out of control and we have only economic theories to provide some lens on what is happening.

    I wonder if like polar icecaps, we are starting to witness the end of consumption based driven economies? Maybe some innovation in Economics is needed. Just like the gold standard hit the rocks, it looks like current system is about to be crumble.

  29. Lorcan Roche Kelly

    Philip > Maybe some innovation in Economics is needed.

    Innovation during a crisis is fraught with dangers. But we find ourselves in a situation where Friedman’s economic ideas, as implemented, are failing. So where do we turn?

    Band-aid solutions, like those being implemented by Ben Bernanke in the Fed, are short-termist both in their thinking and effects. They are implemented to protect the current system, and as such are limited by the system.

    As Philip says, since the end of the gold standard, all international trade is completed on trust. Our currencies are ‘Fiat’ money. It’s is only worth what we think it’s worth; it is, of itself, worthless.

    Maybe we need a new Bretton-Woods style agreement, or truely international currency. But these are economic pipe-dreams without international political will. That will be hard to come by in the current ‘government by the lowest common denominator’ policies of many western democracies.

    In the meantime we’re all along for the ride, wheather we like it or not.

  30. paddy cullen

    We’re on the verge of a systemic banking crisis. Lets be frank. The options are very simple. Either you nationalise the banks now or you nationalise the mortgages, When you have a systemic financial crisis, there is always a government bailout.

  31. “Red”Joe Higgins´s assessment of it all back in the Dail, before he lost his seat , was not too far off the mark.

  32. Longlivetherepublics

    Global debt, the majority of which is actually gambling debt accumulated through speculation on questionable financial instruments like cds’s, is several orders of magnitude beyond global GDP which is about 50 trillion. In all practicality this debt can never be payed. The global financial system is bankrupt and
    dead. Trying to revive it by the printing of paper money by central bankers only serves to create hyper inflation, destroy wages and savings and undermine the currencies. The only real solution is a bankruptcy reorganization on an international scale in which the gambling debts are written and the useful ones are maintained and restructured, and the subsequent implementation of a new Breton woods monetary
    system of fixed exchange rates in order to facilitate long term bilateral trade agreements. The solution to
    the so called credit crunch, which is a pale refection of this underlying truth, is not financial or economic but is instead a political one.

  33. JonnieG

    Real interest rates are in negative territory already but banks are not lending as freely and people are not prepared to borrow as much as before. The Greenspan “put” worked a charm in a benign inflationary environment but it appears that the game is up. Advocating for the preservation of over inflated asset prices is reminiscent of the price controls of the 30′s. These unwise market manipulations turned a recession into a depression then.
    What happened to the Reganomic free market fervour of the eighties. Seems like it is was not all it seemed, perhaps it was not as free as the proponents suggested. The Japanese attempted to lower interest rates during their lost decade in a vein attempt to preserve their inflated asset prices but they discovered you cannot push on a piece of string.
    The fed is taking on toxic mortgage paper in the US and swapping it for treasuries but this liquidity does not seem to be making it into their asset prices. It is being absorbed by the financial system to stem its losses as the banks invest in treasury paper and use the arbitrage to rebuild their balance sheets.
    The mortgage finance of the past decade was borrowed in the international money markets. Forget the Germans, the banks have been spending Chinese and resource economy money and this debt needs to be paid back or confidence will wane and the music stops. The banks need to roll over this debt soon and it will be paid with the Fed and ECB’s cheap taxpayer funded monetary injections. That’s another reason this money is not finding its way to borrowers.

    Attempting to salvage real wealth from this ponsy scheme will be very difficult and maybe impossible. Wealth has been destroyed not created. The 21st century view of Ireland as a very wealthy country is also a delusion. The debt to GDP ratios are completely out of wack. Any business can appear profitable through debt based expansion but it is illusionary and ultimately unsustainable unless their is real productivity and return on equity. There has been no real return on equity in the Irish economy and the debt needs to be repaid. Ireland may be facing liquidation as any economic entity would with a similar balance sheet, and lack of real wealth creation.

    David’s theory about a monetary free lunch is just more of the flawed thinking that dominates the financial industry. This entire industry and its modus operandi of expansionary debt is just unsustainable. Such flawed monetary policy has been the cause of the reduction in the purchasing power of the Euro since it floated similarly with the American Dollar. Some of the asset price increases over the past decade have been supply and demand. However much has been the stimulus effect of unsustainable increases in money supply through artificially low interest rates. Bernanke stated that the increase in money supply in the US was not inflationary as long as American consumers were purchasing American produced goods in American dollars. Unfortunately as with the bond vigilantes of the 70′s the commodity vigilantes of the new millennium had different ideas. Inflation is now rampant in the US and will increase as the purchasing power of the dollar decreases through the dilutionary effects of expanding M3.
    The same is true of the EU as is evidanced by the inflationary effect of EUM on the Mediterranean and Celtic countries. Have they really benefited from the loose monetary conditions of the Euro. The cost of living for all EU citizens has increased exponentially and they are in debt up to their necks. It is nearly impossible to be prudent in this environment, in fact it is almost economic suicide not to borrow. This is how we have gotten to the point we are at. The euro zone consumer now needs to rebuild their balance sheet and this cannot be achieved through perpetual debt. If it goes on like this we might as well draw up laws to enable intergenerational debt transfer as we are stealing from future generations anyway. Finally David suggests there is no price and it is a monetary free lunch. We will pay through continued inflation and diluted purchasing power. God help those on fixed incomes.

  34. I am inclined to agree with “JohnnieG”
    While the Euro is a common currency,the average housewife can not do her shopping every day in a French or German, or Austrian branch of Lidl or Aldi where she would find savings at the checkout of about 40% on her irish bill.
    Even these supermarkets have to pass on irish costs in an inflation riddled economy.
    Then again Fianna Fail never learned the new economic concept of a common currency situation.
    Their tax Revenues, remember, thrive on rising prices-and wages.!
    Its a kind of dog chasing its own tail situation, and if it is not allowed to get completely out of control-a la Argentina-it works.
    We now survive solely on the american and european tax dodging companies´ employment and corporate tax income.
    If that is stopped-and a lot of governments are getting pretty angry at the antics of “Ansbacher Island”(the one off the UK coastline)-God help us.
    A reinvent-able “Switzerland” we aint-and never will be.
    For God´s sake we only have one decent road in the capital city-and that one is a new form of stealth tax to pay off the wealthy corporate buddies who happily divested themselves of the unworkable collection system now in situ. (Despite the government´s reassuring “spin” re the M50-the worst is yet to come)
    Call me a Jeremiah-but neither I nor David have been wrong so far..Frankly,I think most of the non state employed work force are going to end up eking out a miserable existence here in the coming years:

  35. Ronnie

    David, I have not heard you criticise your friends in the central bank yet? Surely the head of Irish central bank must take some blame? He gets paid more than Bernanke , Trichet and Darling despite have little or no power or responsibility, doesnt have to set rates or fight currency speculators. The central bank too late rose reserve ratios when house prices had already started to fall, why didnt the implement credit restrictions earlier. Please address this question for me.

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