January 8, 2011
Strange as it may seem now, the next few years offer the greatest opportunity to change Ireland. It is difficult to see beyond this crisis when many of us are mired in a deep, deep depression, but we can fix this economy and heal this society.
To get out of a crisis, you must first define reality, face up to it and then do something about it.
The reality for Ireland is that one part of the economy — the domestic economy — is broken; meanwhile, the multinational sector is thriving.
The domestic economy is broken because over the past 10 years, people mistook a large overdraft for an economic miracle. The banks fuelled this fantasy by stuffing the economy with foreign money that they borrowed recklessly. We bought land with this money. As long as land rose in value, this masked the deep debt mire we were in. Then the foreigners asked for their money back but the banks didn’t have it because they had lent it all for houses and land.
As the price of houses and land has plummeted, the balance sheet of the nation has imploded with huge debt on one side — the cost of which continues to rise — and collapsing “assets” on the other side, the value of which continues to fall.
We are in a balance-sheet recession. That is reality defined. Many people seem to think that we can re-run the 1980s, reduce the Government’s deficit through austerity and this will solve the problem. It won’t. This is not the 1980s; this is a completely new challenge.
In a balance-sheet recession, the people who have money save and the people in debt try to pay off as much as possible. The saving ratio in Ireland is now 16pc of GDP. The more people save, the less they spend and the more the economy shrinks. Because the banks are broken, the saved money isn’t re-lent to the economy because the banks are afraid to lend and want to build up reserves of cash to fix their broken balance sheet, and so credit in the economy dries up.
The next phase of the balance sheet recession will be mass mortgage default, unless we change policy quickly.
The solution to our problem — a problem of too much debt — is obviously less debt, not more debt. We need to face up to that and do something about it.
This reinvention of Ireland begins and ends with economics. The Government’s message that there is no economic alternative to austerity, governed by the IMF and EU without any proper debt renegotiation is not true. We are pursuing the worst economic policy possible and the rest of the world knows it.
What we need now are policy changes that are rooted in sound economic theory and practice.
The core element of a recovery in Ireland is cutting the link between the banks and the people. The EU/IMF deal is trying to solder the people to the banks with more debt. This is causing panic. The financial markets signalled this week that the likelihood of sovereign default in Ireland is now greater than ever. Here at home, we are experiencing a slow run on the Irish banks as people and companies take their deposits out.
Current policy is failing as evidenced by the sharp rise in unemployment again last month. The Government’s plan, with the IMF and the EU, is making the country yet more fragile.
Before we discuss economics, let’s introduce the word morality because a policy has to be morally right for it to work. Current policy is amoral. The bank debts are not ours; they are the debts of the banks, which were incurred when the banks were private. They are not our debts to pay.
The EU/IMF bailout is not a bailout of Ireland, it is a bailout for British, German and French banks that gambled on the likes of Anglo, AIB and Bank of Ireland — and you pay.
But these debts have nothing to do with the Irish people. The last time I checked there was a harp on my passport not the logo of Anglo.
From an economic perspective, everyone knows that the solution to too much debt is never more debt, it is always less debt. So the first change must be to reduce the debt levels of the State so that it does not default. How do you do this? You cut the banks loose.
The big lie you have been told is that if we preside over a default on Irish bank debt the financial markets will punish us by taking money out of the country.
This is wrong. The opposite will happen. Money will flow into the country as the markets will conclude that the Irish bank crisis is over and it’s time to invest in a country with huge growth potential.
At all costs we must avoid a sovereign default, which would undermine credibility with corporate America. The way we do this is by defaulting on the banks to save the country.
The markets will support this move. Markets want an economy with less debt and some growth potential, not one that is intent on strangling itself with other people’s debts.
Think about this: without the extra debt burden of the banks, the crucial Irish debt/GDP ratio would be 74pc. This is lower than the similar figure for Germany, Spain, Italy, Greece, Portugal and Belgium. From such a position, it will be less difficult to address the budget deficit.
The aim of the overall deficit adjustment should be to get back to 2005 levels of spending over time. This will only be credible without the bank debt dragging us down.
Without the bank debt we could go back into the markets and get ourselves financed without too much difficulty. Irish bond yields would fall rapidly. Think about Belgium, a country with a debt/GDP ratio of 123pc. It recently borrowed at a rate of 1.9pc, while we languish at 9pc. If we got rid of the banking legacy, with a debt/GDP ratio of 74pc, who says interest rates wouldn’t fall?
So any change has to start with the banks, the EU and the ECB.
How do we do it?
We must have a referendum. We start negotiating for the Irish people, not for the banks. We go to the ECB and say we don’t have the money and morally we can’t ask the people to pay for debts that are not their own. To make sure this is not another bluff, the very first thing we should do is follow the democratic example of Iceland and hold a referendum early this year and ask the Irish people whether they want their children to pay for the gambling debts of those people who lent money to the Irish banks in the boom.
The answer will be a resounding ‘No’. We therefore start our new beginning with a government’s position underpinned by the will of the people. No European democrat — whether in the EU Commission in Brussels, the European Parliament or the European Council — could argue with that.
The process of bank debt renegotiation starts. However, in advance, we make it clear our problem is a European problem. We follow John Hume’s example in the North. One of Hume’s many brilliant moves was to “internationalise” the Northern Ireland question by involving the Americans and the Europeans as well as the Irish and British governments, so that the local becomes international.
We should diplomatically argue that we are seeking a solution for the euro area as a whole, by making common cause with those countries that are likely to experience the same problems as ourselves — Spain, Portugal, Italy and Greece.
Therefore, Ireland would be taking the lead in offering the ECB an exit strategy, which would also be a solution for Ireland. The Department of Foreign Affairs has the talent to create these alliances.
Obviously an alliance of debtor nations in Europe would focus the minds of the ECB, who realise that at the core of the Irish problem is a greater problem for the euro that needs to be solved.
It is important to remember, the ECB has clearly shown that it has no idea how to get out of the European banking mess but it is actively now working on a new approach to banking problems. We should offer it help.
We begin by changing the conversation. We reintroduce into the diplomatic discourse the capitalist premise of “co-responsibility” where both the creditors and the debtors are responsible in a crisis.
At the moment, the Government is rewarding delinquent creditors with open-ended bailouts, while at the same time penalising debtors. That has to change, not least because capitalism is based on mutual risks.
This initiative will appeal to the ECB as it ultimately strengthens Europe’s banking defences for the future.
Rescind the guarantee. It was due to expire last September and was always supposed to be temporary. It also should have been limited; it should not have covered subordinated debt, which always gets wiped out in a banking crisis. (Subordinated debt is buffer capital that never gets protected which is precisely why it offers higher interest rates in the first place.) The guarantee was required, 28 months ago, to prevent a total bank collapse. This guarantee should not have been open-ended and all-encompassing. It should have copied the Swiss and Swedish model, where those countries lent the credibility of the state to the banks.
Unfortunately, our Government didn’t so much lend the State’s credibility to the banks as give it to them unconditionally.
It was introduced to ensure that Irish banks could get access to financing. Now that they can’t and have been largely nationalised, there is no point in the guarantee. So get rid of it.
People argue that without the guarantee, Irish banks would never again be able to borrow on international markets. Well great. That’s what we want to see. We want a return to deposit-based banking, where banks lend out what they have in deposits. They will then look and behave like utilities, like a water company or ESB. They supply credit to the economy and get paid a fee for it. Getting rid of the guarantee starts that process.
Close down NAMA immediately. It serves no purpose other than to give the debts of the developers and the banks to the people and we don’t want this. Furthermore, the whole purpose of NAMA was to ensure that the banks remained in private hands; now that they have been largely nationalised, there is no point to NAMA other than to generate fees for professionals. So close it down.
The property market would clear more quickly as a result, which is an added bonus.
Force all the remaining bondholders of the banks to become shareholders. This is called a debt-for-equity swap, a totally normal practice in capitalism. The bondholders are told that if they were prepared to lend money to the banks, they now should be happy to own them. This is how the US authorities cleared up the Savings and Loans mess — their biggest banking disaster since the Depression. It was also what this newspaper’s owners did last year, when the bondholders of Independent News and Media were forced to become shareholders. This is standard practice.
By forcing the bondholders to take shares, they have a stake in the future of the banks and they can work towards the share price recovering as the banks recover. This way they can get paid at least something eventually.
Tell the ECB that we don’t have the money to pay back the cash they have stuffed into the Irish banks to keep them alive. The ECB has deposited over â‚¬97bn into the Irish banks. In return, the Irish banks have given the ECB all sorts of rubbish collateral, from rolled up land deals to repackaged bundles of home and car loans. So the ECB gave us real money and we gave them IOUs! Whose problem is that?
When you owe the bank â‚¬1,000 it is your problem, when you owe it â‚¬97,000,000,000 — well you guessed it.
As a central bank, the innovative way to avoid a meltdown in Ireland would be to simply leave the â‚¬97bn in the Irish banks and not expect to get it back. This might sound unusual, but this is what the entire banking system is based on — rolling over financing.
When the time is right, the â‚¬97bn of deposits or some of that sum, should be converted into share capital. This has never been done before, but necessity is the mother of all invention and — at a stroke — the funding and capital position of the Irish banks would be solved, and the ECB would have taken a hit. But that’s what central banks are there for. What part of risk of ‘lender of last resort’, do they not understand? The Irish taxpayer, who is already paying for his and her sins in the recession, should not have to pay twice.
Ultimately, the Irish banking crisis will be paid either by Irish taxpayers, German taxpayers, existing creditors, the ECB or a combination of all four. The Government wants the Irish taxpayer to pay; this is neither financially viable as it will just lead to a default further down the road nor is it morally justifiable as the debts were not the Irish people’s to pay in the first place.
For those who worry that the ECB will react to these initiatives by cutting off euro to Ireland, they should be reminded that the ECB is as unlikely to cut off euro to Ireland as the Federal Reserve would cut off dollars to Texas.
We are involved in creating new financial architecture for Europe and this project will test Europe’s much-reiterated rhetoric about solidarity. It is a test that Europe will pass.
We need to prevent mass chaotic mortgage default and offer hope to the 400,000 people in negative equity. For these people — who are largely that generation aged between 25 and 40 — Ireland has become a large debtors’ prison with no payroll. People make mistakes; we all do. We should not be punished indefinitely.
However, others should not have to dig deep to bail them out either as the prudent would then be paying for the profligate.
In order to liberate those trapped in negative equity, I would make all their mortgages “non-recourse” as is the case in the US. This means that they can hand the keys back to the bank and that will be the end of it. The mortgage debt will not follow them about indefinitely.
A related initiative would involve changing our bankruptcy laws to make it much easier for people who have been declared bankrupt to recover in business. We should aim to dramatically reduce the stigma of failure and bankruptcy. After all, we have all had failures and failure is nothing to be ashamed of because it means you tried.
Extend the vote to everyone who is an Irish citizen no matter where they live. The Irish diaspora is one of our greatest assets and those of the tribe who are now living abroad should never be cut off from the nation. By allowing them to vote, we bring our policy into line with the rest of Europe and tie these people to home, making it more likely that they come back with their skills and experiences and contribute to the country.
Once we have sorted out the banks and the debts of the country in a way that allows the people to believe in the future, we need to put into place industrial policies that will create a New Ireland.
Back in the 1950s and 1960s, when Ken Whitaker came up with the policy of attracting in foreign investment, no one believed that it could be done. Ireland had no business thinking it could build a pharmaceutical industry, let alone a hi-tech industry. But it happened because the investors saw the logic of the deals that could be done and they have subsequently made handsome profits here.
It is time to reinvent the story again and recapitalise the country. We need to create real jobs, real trading companies and a real economy, not just a new version of the old economy where land and banks create another bubble and the “insiders” in our country siphon off profits.
We are told that we can’t dream of the future because we are bust. We are not bust, our rotten banks are bust. But the world is full of new money and new opportunity.
For example, in the IFSC there is over $800bn of US multinational money on deposit. This cash is there as a result of the amazing success of the multinationals repatriating their profits to Ireland to avail of the 12pc corporate tax rate. But if they want to redistribute these profits to their shareholders they have to pay American corporation tax of 39pc. To avoid this, they just keep all this cash on deposit at the IFSC.
These profits will of course be reinvested in the companies — in various projects, research and ongoing business development around the world. Therefore a certain amount will be risk capital. So why not do a deal with them? Why not offer them a tax incentive to invest even a portion of this money in Irish projects? Just 10pc of this would be $80bn. We could set up companies using the US money combined with Irish labour and our tax system, as well as all the networks the multinationals already have here.
Together, we could build these companies, for let’s say 10 years, and then when the companies (in effect subsidiaries) are strong enough, we would float them on the Irish stock exchange and the US companies could repatriate the money tax-free in dividends to their shareholders. This might prove to be a very interesting initiative for them and for us and one where years of doing business together pays off.
In this way we could build a new Ireland, a Silicon Valley of Europe which might well be financed internally, generating hundreds of thousands of highly paid jobs, with huge upside for the coming generation.
To bolster our position as an attractive international place to do business, we would cut corporation tax not raise it.
There is a way out of this mess. We start with these ten policy changes and keep going to create a world beating, competitive trading economy. The crisis provides us with the chance to overhaul our economy and reinvent our society. We should seize this opportunity now, without fear, and look confidently towards a new future and a New Ireland.