Tell us honestly, Fine Gael and Labour. Are you in favour of default?

Is there an alternative strategy after all? Might the euro’s continuing adversity become Ireland’s opportunity? The first thing to notice is that the Irish government rejected the Financial Times’ stern advice and succumbed to overwhelming pressure.

Ireland is readying itself to sign the dotted line of a rescue package foisted on it by Europe. It should not accept before securing terms that avert a bail-out of European lenders paid for by Irish taxpayers thrown into debt bondage.

Although we won’t know the full details of how the bailout will operate until next week to coincide with the budget, it seems clear that the big European bondholders have escaped this time. Why did the Irish team allow that to happen? And why have the opposition in the Dail, who look likely to vote against the budget,  nevertheless balked at a radical critique of the whole plan, concentrating their fire mainly on what amounts to the liquidation of the national pension fund? The short answer surely lies in a single sentence in Dan O’Brien’s Irish Times analysis today

The most important aspect of last evening’s announcement was that the European Central Bank (ECB) will continue providing short-term funding at 1 per cent to the Irish banking system.

But he goes on to argue

The future of the euro is now in real question. The coming week may well determine what that future will be.

Although no independent comment today speaks out in favour of the deal, there’s no sign of any significant section of the political class demanding a radical rethink. Criticism is largely retrospective, like this analysis from banking analyst  Peter Matthews

We have been used by a European banking system that was flush with cash and needed someone to lend to. It operated recklessly and with dereliction of a duty of care. First, what Ireland’s negotiators had a duty to clearly demonstrate to the ECB/EU/IMF team was that the ECB had been 50 per cent culpable in its failure in regulation and supervision of Irish banks for four years up to 2007-2008 in which the banks had conducted reckless lending

Second, Ireland’s negotiators should have emphasised the ECB had knowingly advanced loans to the banks which specifically enabled the banks to redeem in full senior bondholders when it was obvious that emerging loan losses at the banks clearly showed they were headed into insolvency

The alternatives look mighty unpopular from the standpoint of Europe. On paper, there is a choice between David McWilliam’s disorderly default ( in a column written before the bailout ) and Frank Barry’s orderly default in the Irish Economy blog. Both involve the ECB inflating out of the debt by adopting the Bank of England’s prevailing measure,  quantitative easing – pumping euros into the system – combined with a debt equity swap for the bust Irish Banks by the ECB.  But planned inflation remains anathema to the Germans.

What would inflating our way out of the debt entail? It can be seen as a type of orderly default. Assume for the sake of argument that the ECB is the owner of all Irish bank bonds; the Irish taxpayer currently owes these funds to the ECB. The ECB could accept a debt for equity swap, which would mean a substantial haircut, so that it – rather than the Irish taxpayer – now owns the banks. It recapitalises them by printing money and then sells them on. The downside is higher European inflation (it will have to take similar steps all across Europe because many banking debts are in fact to other banks, meaning that many will require recapitalisation) and a higher risk premium on all European debt. The risk premium could be moderated though by a pan-European regulatory system which would tackle one of the design flaws in the entire single-currency project.

David McWilliams favours the nuclear option of a unilateral default -because he knows it won’t happen?

This is our trump card and we must have the courage to play it. The deal is simple. If they don’t do the deal willingly, we need to default and see what happens. And do you know what will happen? They will find a mechanism to take the shares of Irish banks onto their balance sheet. And the crisis will be over, because they will not risk the euro and all that political capital to teach the Irish a lesson.

This is great for stand-up in the Everyman Theatre, Cork. The revisionists have the critical advantage today.  Stand by for the counterblast from Frankfurt and Berlin.

 

 

 

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  • pippakin

    I don’t think it is a question of choice. Ireland with its four million population cannot afford to take on the bank loans. In which case it is better to say upfront that it can’t be done rather than pretend it can, get into even more debt and then default at a later date, which is what will very likely happen if the loan is agreed.

  • Kevin Barry

    Agreed Guido, let’s see if any of the opposition have grown a set over the past few days and do what is necessary to get us out of this mess.

    I won’t hold my breath

  • Itwas SammyMcNally whatdoneit

    In order to decide whether to default we need to know what the bottom line is.

    We also need to know how bad our position is compared to others and I have yet to see a standardised compartive league table of debt.

  • Mack

    It will be an interesting year for sure. Ireland isn’t alone in facing problems with the Euro, and unfairly we’re being forced to bail out Euro system banks in some kind of lend-to-own scheme. Either that and the government have bought the Euro system some time.

    The other way out, if have European ‘partners’ left is to split the Euro into two. One, ‘The Tuetonic Euro’ for Germany and her peers, the other ‘The Latin Euro’ for the PIIGS and France. Or as a friend put it – The Protestant Euro and The Catholic Euro.

    Incidentally were Britain in the Euro, I’m pretty sure, should this scenario play out, they would be joining us in The Catholic Euro…

  • patiodev
  • Bill Mitchell suggests that the Irish government take the DEBT approach

    – Default (on all euro debt)
    – Exit (the EMU and reintroduce their own currency)
    – Bailout (the economy with increasing public spending)
    – Takeover (the banks)

  • Archie Noble

    “there’s no sign of any significant section of the political class” now there is a phrase worth considering. The self designated ‘political class’ consists of self serving career politicians and hack journalists. The relationship between the two is symbiotic, sometimes going so far as to share the same bed. The one reinforced the other in creating the mood music for the current crisis.

    FG and Labour cannot answer Brian’s question because the ‘political class’ hope that FF will take the hit and FG and Labour will inherit. The ‘political class’ will then continue merrily on its way. Except this time it might not.

  • fitzjameshorse1745

    Its the essence of Democracy that people should be offered an alternative.
    So is there an alternative to the next Government being no more than puppets to the IMF/”Europe”.
    I dont think any of us here are actually economic literate enough to say that there is or is not an alternative.

    What I can see is parallels with the current Conservative-Lib Dem government in Britain where there is a fault line. Despite the Conservatives rejecting their Thatcherite past, it is clear that they are taking great delight in being forced (as they tell us) to make cuts in exactly the same areas where ideologically they would have loved to make cuts.
    The Lib Dems in contrast are much more convincing that this is something they dont want to do.

    The result is that Tories act like the people they are (blood sucking vampires) while Liberals dont act like the people they are. Thus the Tory vote holds and the Lib Dem vote collapses.
    This is a precedent for perhaps the next Irish government.
    Fine Gael acting like blueshirts with the spurious claim that they are compelled to do it.
    While Labour will/might appear more convincing.

    If that happens then Labour will go the way of the Lib Dems and suffer at the polls.
    As Sinn Féin has nothing to lose and cannot realistically make up any part of the next government, they can easily call for default….and that would certainly resonate. At this point in time the people committed to voting Sinn Féin wont be changing their minds……..but SF can bring new voters on board…by calling for default.
    Labour (and undoubtedly some are already convinced its the right economic course to take) might make a political choice for default to stave off SF in some urban constituencies.
    Strategically it is good for Labour. Increasingly the cries to default are louder……whether there is a sound economic base for it, I have no idea…….but surely the point is that if people are told that the debt is crippling and the next government will ignore it……a considerable number will vote for it.

    Ideologically FG cannot use the word “default”. They actually want a period of hardship to change the nature of the country.
    Whether its economic sense to default…….I have no idea. And care less.
    But I would…..as a democrat……like to see someone offer an alternative.

  • Brian Walker

    Guido and others.. Iceland is very different- outside the euro for a start, and with a 350,000 population or whatever it is, had clearly no chance whatever of repaying bank debts. The sad thing about finance at all levels seems to be, if you have assets,and they count towards repayment .

  • DC

    If Ireland did decouple and default and devalue – would it still have to pay back the recent loans using the new Punt or say for the sake of it a “periphery Euro’ converted to meet the ‘core-Euro’ value that was actually loaned to Ireland? What would a change of currency do for repayments – would the implications be good or bad?

    But at the same time Britain has been at this manipulating currency thing for decades, still hasn’t prevented classic boom and busts and may just be part and parcel of being in hock to a financial services economy.

    SammyMac,

    http://www.ippr.org/uploadedFiles/articles/2008/holtham.pdf

    Above is an article on marking toxic-debts at market value, pension funds were used as an example of where such a write down had happened, but with that they were able to do so because they had an inkling of the value of assets they realistically held. Because of the lack of transparency and lack of accountability through off-sheet trading by the banks, toxic debt levels and its traceability may well be a pipe-dream.

    There was disagreement over the wisdom of marking ‘toxic assets’ to market. From an economist’s perspective, forcing banks to do so increased the risk of continued cuts in lending and an unnecessarily bad economic outcome. It would be preferable to take an optimistic view and take these assets off the banks at a higher price (NAMA?). If this was undesirable, because it boosted bank profits undeservedly, then banks should be nationalised first (so that the taxpayer gained not shareholders). Against this, it was argued that individual insurance companies and pension funds had to mark-to-market for reasons of transparency, even if it produced a less than optimal outcome at the aggregate level. They had to be able to show the value of assets should they need to be sold immediately.

    And why can’t banks show the value of assets should they need to be sold: it’s the old accountability / transparency problem:

    It was generally agreed that people within the system chose to ignore the risks because they became excessively excited with the returns they were earning. It was also agreed that there were plenty of people outside the system predicting some sort of financial/economic disaster, but they were ignored because of a mistaken belief that any mess would not be so bad that it could not be tackled. It was pointed out that Alan Blinder has identified six major (US) policy errors (failure to regulate derivatives, failure to control the overall level of leverage in the system, failure to control sub-prime lending, failure to limit foreclosures, letting Lehman go bust and mismanagement of the TARP).

    Basically the banks gave two fingers to risk and debt levels and carelessly looked the other way in expectation that returns off the back of property would peak and level off – so getting to the bottom of debt in precise terms may well be close to impossible. But as I read on Slugger elsewhere that probably it could be between 100-200 billion top.

    Elephant in the room is neo-liberal approach to financial markets, financial markets should not necessarily be high-octane fuelled things. This is what non-regulation creates. So perhaps a diesel engine in the financial services boiler room would be better for sustainability and durability – actually better for long term profits; rather than using high octune fuel to fire up rockets to space, these soaring financial instruments, only to have them fall short in the end and crash back to earth at speed on us.

    Sadly the big CEOs collect the money at lift-off point and walk away with the money in their pockets just after the launch – but the taxpayer must pay for the product anyway plus pay for all the damage associated with the fierce crash landing.

  • John East Belfast

    Andy Pollack’s thread on ROI Public Service Pay and Welfare costs throws a hand grenade into this dubious right to default argument.

    Why should the rest of European tax payers pick up the cost of an ROI default when the ROI State continues to squander its own money ?

    Who says that ROI unemployed have the right to twice the unemployment rate of the UK unemployed and the UK Govt will support that by writing off their debts ?

    Why should UK public sector workers suffer from their own Govt’s austerity whilst it simultaneously underpins higher pay and benefits in the ROI public sector ?

    Why should profitable UK corporates pay 28% Taxation when their counterparties in the ROI are pocketing 16% more of their own Profits ?

    In other words you need to do more yourself before you start asking for more from others

  • Itwas SammyMcNally whatdoneit

    DC,

    Obviously no simple answers – but simple comparisons are useful by at least removing the banks from the equation for the purposes of comarison.

    JEB,

    Britian’s involvement in lending money is in their own self interest (their banks have 80 billion at irsk here) and is perhaps a dodge to avoid being seen as part of a Euro bailout.

  • Mack

    Ireland (the state) has no right to default on debt incurred paying above average rates in public sector wages, welfare payments, low taxes, vanity capital projects etc.

    However, Ireland (the state) is under no moral obligation to bail out the European banking system. Belgian banks are on the hook for 5% of Belgian GDP from Irish banks. Why should Irish people make this sacrifice alone to save the Belgian economy? German banks are on the hook to the tune of 4.2% German GDP with similar numbers for France and Britain.

    German banks are the most leverage in the world, a strategy that appears to be working beautifully for them – for rather than pay the price for their reckless lending they are turning the weaker smaller states of Europe in their vassals.

    This issue needs to get sorted out equitably or the European project is dead, it will be and remain completely unsellable outside the Germanic core..

  • Greenflag

    Mack ,

    ‘German banks are the most leverage in the world, a strategy that appears to be working beautifully for them – for rather than pay the price for their reckless lending they are turning the weaker smaller states of Europe into their vassals.’

    Other than Alias’s contributions here on slugger one never seems to see the German ‘overleveraged’ banks mentioned much in the mass media . Perhaps too many letters in overleveraged ? or are they as usual shushing it up ?

    Now that Dermot Ahern has fled Louth and left the poll topping position to Gerry Adams ( a great quip from Adams as he urged Ahern’s fellow FF Minister’s to follow his example ) will we start to see Votail Default -Votail Sinn Fein on our lamposts ?.It might not be an election winner but it could get them 20 seats if not more .

    You won’t see it on FG or Labour posters anyway .

  • Mack

    No it is odd they haven’t picked up on it. It is all over the financial blogosphere / web. Here is Simon Johnson ex-IMF supremo and one of the world’s most respected economists –

    German banks are owed $139 billion, which is 4.2 percent of German G.D.P. British banks are owed $131 billion, or about 5 percent of Britain’s G.D.P. French banks are owed $43.5 billion, which is approaching 2 percent of French G.D.P. But the eye-catching numbers are for Belgium, which is owed $29 billion – in the relatively small Belgian economy, this accounts for around 5 percent of G.D.P.

    http://baselinescenario.com/2010/11/25/will-ireland-default-ask-belgium/

    Business Insider is almost having a series on ‘German Banks Gone Wild’

    http://www.businessinsider.com/bankers-gone-wild-in-ireland-and-germany-2010-11

    http://www.benzinga.com/life/politics/10/11/619101/the-celtic-chimera

  • Mack

    I posted with some links, but despite been logged my comment is awaiting moderation. Which is odd, because I could create a blog post with those very same links no probs at all.. Ho hum..

    Anyway while we wait on the links here is the Simon Johnson quote (you can find it on his The Baseline Scenario blog)

    German banks are owed $139 billion, which is 4.2 percent of German G.D.P. British banks are owed $131 billion, or about 5 percent of Britain’s G.D.P. French banks are owed $43.5 billion, which is approaching 2 percent of French G.D.P. But the eye-catching numbers are for Belgium, which is owed $29 billion – in the relatively small Belgian economy, this accounts for around 5 percent of G.D.P.

  • Itwas SammyMcNally whatdoneit

    Mack,

    interesting figures.

    What percentage of the various GDPs are the the loans that Britain has? As I have mentioned previoulsy just looking at Ireland in isolation may be misleading – we need compartive loan league tables.

    Greenflag,

    Excellent slogan.

    “It might not be an election winner but it could get them 20 seats if not more .”

    If Gerry oraganised a coven of economists in favour of default for a well timed party election broadcast it might have some serious traction.

    No odds for 20 on PP but I suspect about 10/1.

  • DC

    Here’s a link from Spiegel with an interview with former World Bank President – Sept 09:

    http://www.spiegel.de/international/business/0,1518,600382,00.html

    SPIEGEL: And it is hitting Russia, where you just returned from.

    Wolfensohn: They lost $150 billion in reserves in six weeks, which is a quarter of their reserves, so the ruble is under intense pressure. There are frailties in many parts of the world, and a lot of the people that lost money are not innocent victims of the activities of the United States and Alan Greenspan. They are active participants in the markets. You have a few examples in this country and a few examples in your own country of institutions that have been more sophisticated. Take (German private bank) Metzler Bank, which I happen to know very well. It was not in any of this stuff, but that’s because Fritz Metzler is very conservative and smart, and there are a few people here that are equally conservative as well.

    SPIEGEL: Our government-owned banks are heavily affected.

    Wolfensohn: That’s what I’m saying. They still have not determined what is the extent of the loss.

    Of course the firm Metzler has an office in Dublin:

    http://www.metzlerireland.com/metzlerireland/generator/Metzlerireland/doorpage/doorpage.html

    And what happens when Countries go bankrupt:

    http://www.spiegel.de/international/business/0,1518,588419,00.html

    A national bankruptcy isn’t just some theoretical construct. Argentina experienced it in 2001 and Russia three years earlier. Germany has gone bankrupt twice in its more recent history, once in 1923 and the second time after 1945. A country has reached this final stage if, as a result of war or blatant mismanagement, it has gambled away all trust, can no longer service its debt or convince anyone to lend it any money, no matter how high an interest rate it promises to pay.

    This is what is currently happening to Iceland. The central bank in the capital Reykjavik increased its prime rate by six points to 18 percent last week. Venezuela, where inflation is also high, is now offering 20 percent to stimulate interest in its government bonds. At the moment, however, investors are shying away from all risk.

    In the end, the rating agencies will have no choice but to downgrade the problem countries to their lowest level of creditworthiness. When that happens, lenders will have no choice but to write off much of their money. For citizens, national bankruptcy would probably lead to massive inflation.

  • Greenflag

    Mack,

    In case you missed it on another thread that NPR link on the Irish ‘causing’ the banking bailouts worldwide 🙁 I pointed out that the self same ‘respected ‘ economist Simon Johnson praised the Irish Government for it’s ‘decisive ‘ action back in 2008 when they guaranteed that the Irish Government would not allow any of the banks here to default on bondholders .

    Ahern is now gone having fulfilled the ‘ghillie ‘ role for the past week or two being forced to make an eejit of himself by hyping that the Government would not be asking for any bailout .

  • If Ireland does “default” that is the end of Ireland in the Euro and probably the death of the Euro anyway.

    If there is going to be a debate about defaulting, lets see the debaters talk through the consequences. Ireland can not “default” within the eurozone. Ireland needs more money to finance its budget deficit. Does it want to see half the country begging in the streets?

    Ireland default and come out of the euro at the same time, then dump its banks like Iceland. That is high risk stuff. It risks killing the European Union. I would suggest that is to high a concept for Irish politicians.

    The most likely way this crisis will end for Ireland is that part of these debts will be written off at some time in the future. Now is not the time for that negotiation with the Euro in its present turmoil.

  • Itwas SammyMcNally whatdoneit

    SM,

    That fudgey solution sounds the most plausible.