November 24, 2010
So the Government finally gave up the charade last weekend and asked for help from the IMF and EU. Following a week when everyone, save certain government ministers, seemed to know what was coming, it came as a great relief to the markets when Finance Minister Brian Lenihan made his announcement.
When markets opened on Monday, the crisis was over. Bank shares were up, our bond spreads moved to levels only slightly above German bunds and investors were tripping over themselves to throw money into the Irish economy.
Hang on, that’s not right, is it?
If anything, things in the market have gotten worse. If we ignore the political implosion here and look to the wider European situation for a moment, we can see how little all the ‘will we, won’t we’ agonising that happened here last week actually mattered.
The markets know Ireland’s economy is not going to recover any time soon, and that rolling over our debt is going to do nothing to solve our problems. Furthermore, whatever chance Ireland has of recovery will be extinguished by a four-year austerity plan.
Having made that assessment of our prospects, the market has moved on. Ireland to them is yesterday’s news. Today’s news is Portugal, which announced a worsening deficit yesterday — despite months of austerity measures. (Sound familiar?) Tomorrow’s news will be Spain, the ’800-pound gorilla’ of the peripheral EU states — so-called because of its huge â‚¬1.1 trillion economy. Spain had an auction of short-term debt yesterday that failed to sell the expected amount even at higher yields, an exact mirror of Ireland’s experiences in the bond market in September.
But why do market reactions to developments in the Iberian Peninsula matter to us?
First, the problem with Spain is that it is probably too big to save. Neither the EU nor the IMF has the money to bail them out, and it is unlikely Germany would be willing to foot another reunification-sized bill to save their Spanish cousins. As Olli Rehn put it on Monday: “It is essential to stop the financial bushfire concerning Ireland before it becomes a European-wide forest fire.”
For Mr Rehn, it seems it might be too late. In fact, if there was ever a ‘sell’ signal to the markets, it was Olli’s comments.
Secondly, the EU-wide crisis is an opportunity for Ireland.
In ‘Follow the Money’ I explained the domino theory of international relations that led the US into Vietnam. The idea was to stop the spread of communism in Vietnam before the whole region became lost to US influence. That same theory is being applied to the EU’s actions in the peripheral states. They are fighting in Ireland to prevent a national bankruptcy in order for the whole euro project to avoid a similar fate.
How is this an opportunity for us? Let’s look at the numbers. Taking account of sovereign bond redemptions and deficits, Ireland needs about â‚¬74bn over the next four years. The banks are getting â‚¬90bn of funding from the ECB and another â‚¬35bn from the Irish Central Bank. So, to get everyone off the hook, â‚¬199bn is needed. We can add that number to the national debt (net of redemptions by 2014 and cash balances) of â‚¬76bn and come up with a total of â‚¬275bn. Or just over 200pc of GNP.
There is no hope of Ireland ever being able to repay this amount. Nominally, if there is a large growth of inflation in the European and Irish economy, it might be possible, but with tight monetary control from Frankfurt, that is not going to happen.
So we need burden sharing with bank bondholders to reduce the liability the State has encumbered itself with through the mishandling of the bank guarantee. The alternative being presented by the run on Spain is that sovereign default is not only more likely, but should be viewed as being in Ireland’s best interest. Loading up on IMF and EU debt right now — in order to bail out the banks — only makes sense for us if we have no intention of paying the money back.
The European-wide ‘forest fire’ referred to by Olli Rehn will burn through all sovereign debt as weakness in the unbailout-able Spain causes an existential crisis for the euro. We would default because we would have to. It would be chaotic, and it would probably spell the end of the euro.
It could easily be seen as dishonest for Ireland to take on this debt while aware of what is probably coming down the tracks, but considering how distracted our leaders are at the moment about saving their own skins in the upcoming election, there is a good chance they do not know how bad the situation is in southern Europe.
There is also a chance they have not yet figured out the gravity of the threat the Spanish situation poses to the euro project. But the ‘nobody saw this coming’ argument is tired by now, and cannot be allowed as an excuse any more. It is dishonest to fill our boots with IMF and EU money, but the IMF/EU are being equally dishonest about the situation by giving the money to us.
The honest thing to do is to realise what the problem is (the banks) and admit that pouring further cash into those black holes is theft — from either the Irish taxpayer if we pay the loans back or from the IMF/EU if we default on their loans. The honest thing to do is pass a bank resolution which swaps the debt for shares — a debt-equity swap in the banks — and get that â‚¬120bn liability off the national and international balance sheet.
Then we can start to sort out the real problems in the Irish economy, and show the IMF the madness that is contained in their latest spin on ‘expansionary fiscal contraction’ which they published on Monday.
David McWilliams performs ‘Outsiders’ at the Watergate Theatre, Kilkenny, on Saturday and at the Everyman Theatre, Cork, on Sunday.