12/8/20: Post-Covid Economy: The Winds of Change

 

Yesterday, I gave a talk about the state of the global, European and Irish economies at the Omnipro event in Dublin. Here are my slides from that talk:

31/12/2013: Debt and Growth: Consumption Crowding-Out Channel

Since the overhyped and outright hysterical 'controversy' over the Reinhart & Rogoff debt thesis blew up across the media earlier this year (I covered much of the controversy on the blog and in my columns, for example, here http://trueeconomics.blogspot.ie/2013/07/272013-village-june-2013-real-effects.html), it became - to put it mildly - unfashionable to reference the adverse effects of debt on growth and economy. Too bad, some economists seem to have missed that point.

A new study from the Korea Institute for International Economic Policy, titled "Nonlinear Effects of Government Debt on Private Consumption in OECD Countries" (see citation below) looked at "nonlinear effects of government debt on private consumption in 16 OECD countries. The estimated consumption function shows smooth regime switching depending on the debt-to-GDP ratio, and the threshold level of regime switching is found to be the ratio of 83.7 percent. The results reveal that a higher level of government debt crowds out private consumption to a greater extent, and that the degree of the crowding out effect has deteriorated since the global financial crisis."

Wait, there are thresholds here… 83.7% debt/GDP ratio - very close to the  S. Cecchetti, M. Mohanty and F. Zampolli thresholds (see http://trueeconomics.blogspot.ie/2011/09/26092011-irelands-debt-overhang.html). And there is the 'causal link' between debt and growth via crowding out of private consumption.

17/7/2013: Sunday Times, July 14: The New Normal for Ireland

This is an unedited version of my Sunday Times article from July 14, 2013.



The release of the Irish quarterly national accounts for Q1 2013 two weeks ago should have been a watershed moment for Ireland. Aside from confirming the fact that Irish economy is back in a recession, the new figures reinforce the case for the New Normal – a longer-term slowdown in trend growth and continued volatility of economic performance along this trend. The former revelation warrants a change in the short-term policies direction. The latter requires a more structural policies shift.


Months ago, based on the preliminary data for the last quarter of 2012, it was painfully clear that Irish economy has entered another period of economic recession. This point was made on these very pages back in early March although it was, at the time, vigorously denied by the official Ireland.

Irish economy is currently in its fourth recession in GDP terms since 2007. Q1 2013 marked the third consecutive quarter in the latest recessionary episode. Since the onset of the crisis, Ireland had 17 quarters of negative growth in private and public domestic investment and expenditure, and counting.

For the Government that spent a good part of the last 2 years telling everyone willing to listen about our returning fortunes, things are looking pretty grim. Since settling into the office by the end of H1 2011, through the first quarter 2013, Coalition-steered economy has contracted by EUR1.52 billion or 3.75%.

The fabled exports-led recovery, first declared in Q1 2010, is not translating into real economic expansion. Neither do scores of strategic policies documents launched with promises of tens of thousands of new jobs.

With the national accounts officially in the red, the bubble of claimed policies successes is bursting. What is emerging from behind this bubble is the New Normal. Whether we like it or not, in years to come we will continue facing high risks to growth and a lower long-term growth trend. Traditional Keynesianism and Parish Pump Gombeenism - the two, largely complementary policy options normally promoted in Ireland - cannot sustain us in the future.

Prior to the crisis, Irish economy experienced three periods of economic growth, all driven by different internal and external forces, none of which are likely to materialize once again any time soon.

The first period of 1991-1997 witnessed rapid convergence in physical and financial capital, as well as in human capital utilization to the standards, observed in other small open economies of the EU.

From 1998 through 2003, Irish economy experienced a combination of rising share of economic activity generated in the domestic economy and rapid expansion of the financial services. This period is characterised by two short-lived, but significant booms and busts: the dot.com expansion and the subsequent dramatic acceleration in public spending.

From the late 1990s, Ireland also experienced accelerating property boom, which culminated in an unsustainable investment bubble. All three periods of economic expansion in recent past were underpinned by favourable external demand for MNCs exports out of Ireland, low or falling cost of capital and accommodative tax environments, in which tax competition was an accepted norm.

These drivers are now history.

Since the onset of the second stage of the domestic economy’s recession in H2 2010, Ireland has entered an entirely new period of development that will shape our long-term growth performance.

Externally, our capacity to extract rents and growth out of tax arbitrage is coming under severe pressures, best highlighted by the recent G8 decisions, the CCCTB proposals tabled in Europe and by accelerated tax policies gains in countries capable of serving big growth regions outside the EU. The financial repression that commonly follows credit busts is also denting our tax-driven growth engine by raising competition for tax revenues, and lowering our real cost competitiveness vis-à-vis Europe and North America.

Internally, since 2002, MNCs-led manufacturing in Ireland has suffered what appears to be an irreversible decline. Goods exports are down from EUR90.4bn in 2002 to EUR78.7bn in 2012 before we take account for inflation. Meanwhile, exports of services are up from EUR32.2bn to EUR93.3bn. Problem is: over the same time, services exports net contribution to the economy has expanded by only EUR18 billion. More worryingly, services exports growth is now falling precipitously.

Data from the Purchasing Managers Indices confirms the long-term nature of our economic slowdown. Average rates of growth in GDP are now closer to 1.5% per annum based on Services sectors contribution and closer to 1.0% for Manufacturing. Prior to the crisis these were 7.0% and 2.6%, respectively. In 1990-2007, all sectors included, Ireland experienced average annual growth of 6.6%. Now, we are looking at ca 1.5-1.7% average growth rates through 2020.

Lower growth rates for Ireland will be further reinforced by the lack of access to credit flows previously abundantly available from the global funding markets. This will impact our banks lending, direct debt issuance by companies, and securitised or asset-backed credit.

The retrenchment of the global financial flows away from the euro area, coupled with regulatory changes in European banking suggest that investment in the New Normal will become inseparably linked to the internal economy and significantly more expensive than the decade preceding the 2008 crisis. Much of this change will be driven by the same financial repression that will act to reduce our tax regime advantages.

This means that at the times of adverse shocks - such as, for example, a fall in revenues from exports or an increase in foreign companies extraction of profits from Ireland – our economy will be experiencing more severe credit and income contractions. This will put more pressure on investment and lower the velocity of money in the economy. Longer-term capital financing will become more difficult as domestic investors will face more uncertain returns and higher liquidity risk. A bust and severely restricted in competitiveness banking sector - legacy of the misguided post-2008 reforms - will not be helpful.

Thus, in the future, switch to services exports away from manufacturing and domestic investment, and reduced access to credit will mean higher volatility in growth, and lower predictability of our economic environment.

The New Normal requires more agile, more responsive and better-diversified economic systems, alongside a more conservative risk management in fiscal policies and less centralisation and harmonisation of policies at super-national level. It also calls for more aggressive incentivising of domestic investment and savings.

In terms of the fiscal policy stance, this means adopting a more cautious approach advocated, in part, by the ESRI this week. Irish Government should aim to continue reducing public spending, but do so in a structural way, not in a simplified framework of pursuing slash-and-burn targets. In addition, the Government needs to re-focus on identifying lines of expenditure that can be re-directed toward more productive use. In the short run, this can take the form of switching some of the current expenditure into capital investment programmes.

Reforms of social welfare, public education, health and state pensions systems will have to make these lines of spending more effective in helping people in real need, while slimmer in terms of total spend allocations. This can be achieved by direct means-testing and capping some of the benefits. But majority of these changes will have to wait until after the immediate unemployment and growth crises have passed.

In the longer run, going beyond the ESRI proposals, the Government should permanently reallocate some of the spending (such as, for example, overseas aid or poorly performing enterprise supports) to areas where it can increase value-added in public services (e.g. water supply or public transport) and create new exports platforms (e.g. e-health and higher quality internationally marketable education). Additionally, new revenues should be raised from severely undertaxed sectors and assets, such as agriculture and land, to be used to lower tax burden on both, ordinary and highly skilled workers.

Beyond a short-term stimulus, rather than directing tax- and debt-funded new investment, public sector should help generate new opportunities for more intensive growth. Increasing value added in existent activities, not simply scaling these activities up in terms of quantity of services deployed or employment levels involved should become the priority for future public sector growth.

Adding further to the ESRI analysis, the objective of using fiscal policy to drive enterprise creation requires simultaneously freeing more resources in the private sector to invest in new technologies acquisition and adoption, and development of indigenous R&D. We need to increase, not shrink, disposable incomes of the middle- and upper-middle classes and improve incentives for these segments of the population to invest. IBEC's suggestion this week that the Government should abandon any future tax increases makes sense in this context. The key, however, is that direct and indirect income tax increases of recent years must be reversed.

We need to recognise, support and scale up clustering initiatives in the tech and R&D sectors that deliver partnerships between the existent MNCs and larger domestic enterprises and start ups. To do this, we should create direct links between the existent clusters, such as for example IT@Cork initiative and public procurement systems. To re-orient public procurement toward supporting younger enterprises, larger procurement tenders should explicitly target new opportunities for partnerships between MNCs and SMEs or start-ups.

To address structural decline in debt financing available in the economy, we should exempt from taxation capital gains accruing to any real investment in Irish enterprises, including the IPOs and new rights issues, where such investments are held for at least 5 years. To qualify for this scheme, an enterprise should have at least a quarter of its worldwide employees based in Ireland.

The New Normal of lower trend growth and higher uncertainty about the economic environment is here. Addressing the challenges it presents requires robust policy reforms. The least painful and the most productive way of implementing these would be to start as early as possible.

Box-out:

Recent report from CBRE on office market in Dublin for Q2 2013 provides an interesting insight into the commercial real estate markets dynamics in Ireland. Despite the cheerful headlines and some marginally encouraging news, the market remains in deep slump and so far, hard data shows no signs of a major revival. Good news: vacancy rate in Dublin office space has declined by 4% on Q1 2013, to 17.2% in Q2 2013. The vacancy rate was 19.32% in Q2 2012. Bad news: at this rate, it will take us good part of 10 years to catch up with the EU-average rates. More bad news: office investment spend fell from EUR79.6mln in Q2 2012 to EUR72.6mln in Q2 2013. Adding an insult to the injury, prime yields fell from 7.0% to 6.25% in the year through June 2013. The office market in Dublin is firmly reflective of what is happening in the economy. Only 37% of offices take ups in Q2 2013 were by Irish companies. Massive 65-66% of the city and suburban office space was taken up by the ICT and Financial services providers in a clear sign that outside these sectors, economic activity remains largely stagnant. Overall, on a quarterly basis, offices take up in Dublin has fallen for the second quarter in a row while there was the first annual decline since Q3 2012.

22/4/2012: Sunday Times 15/4/2012 - What if Ireland Defaults?

With some delay, this is my article for Sunday Times April 15, 2012 - an unedited version, as usual.

Since 2008, judging by a number of parameters and metrics, Ireland has been firmly in the grip of a historically unprecedented financial, fiscal, banking and economic crises. This is the consensus that emerges from book, titled What if Ireland Defaults? published by Orpen Press last week and edited by myself, Professor Brian Lucey and Dr. Charles Larkin (here is the link to Amazon page for the book and for ebook version). The book brings together views on sovereign and other forms of default by twenty two academic, media, political and social policy thinkers is designed to re-start the debate about the future trajectory of the Irish economy saddled with unprecedented levels of public and private debt. Coincidentally, What if Ireland Defaults? Was published in the same week as the IMF Global Financial Stability Report that focuses on the issues of household debt overhang. The IMF report too stresses the dangers of the excess debt levels across the economy and provides strong argument in favor of a systemic restructuring of private debt in countries like Ireland.

The roots of the Irish debt problem are historical in their nature, not only in the magnitude of the debt overhang involved, but also in terms of the correlated economic, fiscal and financial crises that define our current economic environment.

First, the Irish crisis has resulted in a deep and protracted contraction in the economy that is unparalleled in the modern history of advanced economies. In current market prices terms, and not taking into the account inflation, our national output is down 24.2% on pre-crisis peak, having fallen to 2003 levels. Investment in the economy is down 59.6%. These rates of decline are so far in excess of what has been experienced in Greece and are ten-fold deeper than those experienced in an average cyclical recession.

The duration of the Irish crisis is also outside the historical records. Since Q1 2008, Irish economy recorded fourteen quarters of nominal contraction in GNP and thirteen quarters of contraction in GDP. In effect, the economic crisis has already erased 8 years of growth. At an average nominal rate of growth of 4% per annum, it will take Ireland fifteen years to regain domestic output levels comparable to 2007. And this is without accounting for inflation.

Second, Ireland is now a worldwide record holder when it comes to the cost of dealing with the banking sector crisis. Combined weight of banking sector capital injections, and Nama is now close to 80% of our GNP. Irish Exchequer exposure to the Central Bank of Ireland ELA and the ECB borrowings by the state-owned banks lifts this number well beyond 200% of the national output. No advanced economy has ever experienced such a massive collapse of the domestic banking sector.

Another unique feature of Irish crises is their inter-connected nature. Economic recession – driven originally by the external demand contraction and debt overhang in the domestic economy was further compounded by the asset bust which itself is of a historic proportions. To-date, Irish property markets are down 49.3% on pre-crisis levels and the decline continues unabated. Large numbers of 30-50 year old families – the most economically-productive cohorts of our population – are now deeply in negative equity and are increasingly unable to sustain debt servicing. Officially, over 14% of our entire mortgages are currently either in a default, officially non-performing or short-term restructured.

The property bubble collapse, twinned with the debt crisis, didn’t just undermine the banking sector and cut into household wealth. The two have also left Irish economy without a growth driver that fuelled it since 2001-2002 when the property and lending bubble replaced the dot.com bubble implosion. Put differently, we are witnessing a structural economic recession. Since 1998-1999, Irish economy has lived through one bubble into another. Currently, excessive indebtedness and lack of a functional financial system are leaving Ireland without even a chance of finding a new growth catalyst.

In these conditions, the most significant problem we face today is the debt crisis. Our combined real economic debt – the debts of households, non-financial corporations and the Government – relative to our GNP is the highest in the advanced world. And, unlike our closest competitor for this dubious distinction, Japan, we have no means for controlling the interest rates at which our economy will have to finance Government and private sector debts.

It is the totality of the real economic debts, not just the debt of the Irish Government, that concern those economists who are still capable of facing the economic reality of our collapse. This point is referenced in the What if Ireland Defaults? by a number of authors, and as of this week, their views are being supported by the IMF, the Bank for International Settlements and a growing number of academic economists internationally.

Frustratingly, at home, our views are seen as contrarian, alarmist, and even populist. As the crisis has proven, year after year, the official Ireland Inc is simply unequipped to deal with reality.

Majority of Irish economic analysts incessantly drone about the threats arising from the Exchequer debts. Some, occasionally, add to this the banking debts. Fewer, yet, might reference the households. None, save for a handful of usually marginalized by the establishment economists, bother to treat the entire debt pile carried by our economy as a singular threat.

The silence about Ireland’s total debt, and the ongoing denial of the long-term disastrous economic and social costs of the total debt overhang are the frustrating features of our current state of the nation. It is this frustration, alongside the realization that Ireland can be blindly stumbling toward a renewed debt crisis, that informed myself and two of my co-editors to re-launch the debate about the potential inevitability and consequences of debt restructuring.

To re-start this debate, What if Ireland Defaults presents a range of views on the current Irish situation, from the basis of sovereign, banking debt and household debt restructuring.

The very idea of what constitutes a default is a complex one. In the book we interchangeably use the term ‘default’ as denoting a restructuring of the debt to reduce the overall level of debt. This can be accomplished by reducing the debt level itself, restructuring interest payments, extending the maturity of debt, or any combination of the above. In addition, a default can take place in an relatively orderly and coordinated fashion, as for example in Greece, or as a disorderly, unilateral action, as in the case of Russia in 1998. Lastly, default can be pre-announced, as in the case of Iceland, or unannounced – as in the case of Argentina. All of these differences are reflected in the chapters of the book dealing with historical experiences relating to sovereign defaults.

In the case of Ireland, there is a broad consensus within the book that a sovereign default is neither desirable nor inevitable. In other words, no author sees the situation where Irish Government debt will have to be restructured unilaterally, without prior cooperation with the EU authorities via the ESM or a similar collective structure. However, substantive disagreements do arise among the authors as to whether Ireland will require a structured default on banking and household debts. In this context, some of the contributions to the book pre-date and preclude the research on the necessity of household debt restructuring published by the IMF this week.

The overriding sense from What if Ireland defaults? is of an economy on a knife edge. Given favourable economic circumstances, especially in regard to our exports, a positive change in EU’s political attitudes with regard to the legacy bank debt, and the return of domestic economic growth, the debt levels which Ireland now faces can become sustainable, in that a default on either private or public debts is not probable. However, we cannot consider these developments as guaranteed, and in their absence, restructuring of debts may become inevitable.

In short, both the IMF report this week and the wide range of contributors to What if Ireland Defaults? are in a broad agreement: Ireland should be putting forward systemic policy measures to restructure household (and by a corollary, banking) sector debts. Absent such measures, a combination of the long-term continued growth recession and debt overhang, further compounded by the risks to interest rates and debt financing costs in the medium term future will force us to face the possibility of a sovereign debt default. Avoiding the latter outcome is more than worth the effort of creating a systemic resolution to the household debt crisis.

CHART: 

Sources: Haver Analytics, National Central Banks, McKinsey Global Institute, NTMA and DÁIL QUESTION  NO 122, 14th September 2011, ref No: 23793/11

Box-out:

A recently-published Cleantech Global Innovation Index 2012 shows the potential for the development of the green-focused economies in Ireland. The study ranked 38 countries across 15 indicators that relate “to the creation and commercialisation of cleantech start-ups, …measuring each [country] relative potential to produce entrepreneurial start-up companies and commercialise technology innovations over the next 10 years.” Overall, as expected, North America and Northern Europe “emerge as the primary contributors to the development of innovative cleantech companies, though the Asia Pacific region is following closely behind.”

Ireland is ranked ninth in the world in the cleantech league tables and scored strongly on general innovation drivers (underpinned by the presence of innovation-intensive sectors dominated by MNCs and some domestic exporters) and commercialised cleantech innovation (also largely linked to MNCs and a handful of Irish indigenous companies). We fall below average on cleantech-specific innovation drivers, such as policies supporting innovation in energy and green-IT and IT-for-Green. Ireland has only average scores for supportive government policies and access to private finance, which is disappointing.

What the global rankings, and the Irish experience clearly show is that globally there is an extremely weak positive relationship between cleantech-specific innovation and commercialized cleantech innovation. In Ireland this relationship is stronger than average. This is most likely due to the more advanced MNCs and exporting base in the Irish economy in general, whereby domestic innovation activities, including those booked by the MNCs into Ireland for tax purposes, is aligned with commercialization via exports.

3/4/2012: Sunday Times 1/4/2012 - Deep Reforms, not Exports-led Recovery, are needed

This is an unedited version of my Sunday Times article from 1/4/2012.

After four years of the crisis, there are four empirical regularities to be learned from Ireland’s economic performance. The first one is that the idea of internal devaluation, aka prices and wages deflation, as the only mechanism to attain debt deleveraging, is not working. The second is that the conventional hypothesis of a V-shaped recovery from the structural crisis, manifested in economic growth collapse, debt overhang and assets bust, is a false one. The third fact is that Troika confidence in our ability to meet ‘targets’ has little to do with the real economic performance. And the fourth is that exports-led recovery is a pipe dream for an economy in which exports growth is driven by FDI.

Restoring growth requires structural change that can facilitate private companies and entrepreneurs search for new catalysts for investment and consumption, jobs creation and exports.

For anyone with any capacity to comprehend economic reality, Quarterly National Accounts (QNA) results for Q4 2011, showing the second consecutive quarterly contraction in GDP and GNP, should have come as no surprise. In these very pages, months ago I stated that all real indicators – Purchasing Managers indices, retail sales, consumer and producer prices, property prices, industrial turnover figures, banking sector activity, and even our external trade statistics – point South. Yet, the Government continues to believe in Troika reports and statistical aberrations produced by superficial policy and methodological changes.

The longer-range facts about Ireland’s ‘successes’ in managing the crisis, revealed by the QNA, are outright horrifying. In real (inflation-adjusted) terms, in 2011, every sector of Irish economy remains below the pre-crisis peak levels. Agriculture, forestry and fishing is down almost 22%, Industry is down 3%, Distribution, Transport and Communications down 17%, Public Administration and Defence down 6%, Other Services (accounting for over half of our GDP) are down 8%. In Q4 2011, Personal Consumption was 12% below Q4 2007 levels, Gross Domestic Fixed Capital Formation was 57% down on 2007. The only positive side to Irish economic performance compared to pre-crisis levels was Exports of goods and services, which were just 1.2% ahead of Q4 2007 level.

Meanwhile, factor income outflows out of Ireland – profits transfers by the MNCs – were up 19% relative to pre-crisis levels. Despite a rise of 0.7% year on year, Irish GDP expressed in constant prices is still 9.5% below 2007 levels. Our GNP, having contracted 2.53% year on year in 2011, is down an incredible 14.3% on the peak. All in, Irish economy has already lost nine years of growth in this crisis, once inflation is controlled for.

We are now three years into an exports boom and the recovery remains wanting. Here’s why. Between 2007 and 2011 exports of goods rose €2.5 billion or just 3%, while imports of goods fell 31.3% - a decline of €19.6 billion. Over the same period, exports of services rose €5 billion, while imports of services increased €5.5 billion. All in, rising exports of goods and services accounted for just 35% of the increase in Ireland’s trade surplus. Almost two thirds of our trade surplus gains since 2007 are accounted for by collapse in imports. Taken on its own, the dramatic fall-off in imports of goods amounts to 91% of the total change in trade surplus in Ireland.

Both the Government and the Troika should be seriously concerned. Taken in combination with accelerating profits transfers out of Ireland by the MNCs, these numbers mean that Irish economy is struggling with mountains of private and public debts that exports cannot deflate.

Remember all the noises made by the external and domestic experts about Ireland’s current account surpluses being the driver of our debt sustainability? Last week, the CSO also published our balance of payments statistics for 2011. In 2010, Irish current account surplus stood at a relatively minor €761 million. In 2011, current account surplus fell to €127 million. If the entire current account surplus were to be diverted to Government debt repayments, it will take Ireland 579 years to bring our debt to GDP ratio to the Fiscal Pact bound of 60%.

The immediate lesson for Ireland is that we need serious changes in the economic fundamentals and we need them fast.

First, Ireland needs debt restructuring. We must shed banks-related debts off the households and the Exchequer. In doing this, we need drastic restructuring of the banking sector. Simultaneously, an equally dramatic reform of taxation and spending systems is required to put more incentives and resources into human capital formation and investment. Income tax hikes must be reversed, replaced by a tax on fixed and less productive capital – particularly land. All land, including agricultural. Entrepreneurship-retarding USC system must be altered into a functional unemployment insurance system.

Policy supports should shift on breaking the systemic barriers to domestic firms exporting and restructuring dysfunctional internal services markets that are holding companies back. Public procurement changes and markets reforms in core services – energy, water, transport, public administration, etc – must focus on prioritising facilitation of inward and domestic investment, entrepreneurship and jobs creation.

Delivery of health services must be separated from payment for these services, with Government providing the latter for those who cannot afford their own insurance. Private for-profit and non-profit sector should take over delivery of services. Exports-focused private innovation, such as for example International Health Services Centre proposal for remote medicine and ICT-related R&D, should be prioritized.

In education, we need a system of competing universities, colleges and secondary education providers. A combination of open tuition fees plus merit and needs-based grants for domestic students will help. We should incentivise US universities to locate their European campuses here, and shift more of the revenue generation in the third level onto exports. In the secondary education, we need vouchers that will encourage schools competition for students. In post-tertiary education we need to incentivise MNCs to develop their own corporate training programmes and services here.

This will simultaneously expand our skills-intensive exports and provide for better linkages between formal education and, sectoral and business training – something the current system is incapable of delivering.

One core metric we have been sliding on is sector-specific skills. This fact is best illustrated by what is defined as internationally traded services sector, but more broadly incorporates ICT services, creative industries and associated support services.

Eurostat survey of computer skills in the EU27 published this week, ranked Ireland tenth in the EU in terms of the percentage of computing graduates amongst all tertiary graduates. Both, amongst the 16-24 years olds and across the entire adult population we score below the average for the old Euro Area member states in all sub-categories of computer literacy. Only 13% of Irish 16-24 year olds have ever written a computer programme – against 21% Euro area average. Over all survey criteria, taking in the data for 16-24 year old age group, Ireland ranks fourth from the bottom just ahead of Romania, Bulgaria and Italy in terms of our ICT-related skills.

Not surprisingly, at last week’s Digital Ireland Forum 2012 the two core complaints of the new media and ICT services sector leaders were: lack of skills training domestically and draconian restrictions placed on companies ability to import key skills from abroad.

The Irish economy and our society are screaming for real change, not compliance with Troika targets and ego-stoking back-slapping ministerial foreign trips.

Box-out:

On the foot of my last week’s questions concerning the role of securitizations and covered bonds issuance by the Irish banks in restricting banks’ ability to control the loans assets they hold on their balancesheets, this week’s move by Moody’s Investors Services to downgrade the ratings of RMBS (Residential Mortgage-Backed Securities) notes issued by two of the largest securities pools in the country come as an additional warning. On March 26^th, Moody’s reduced ratings on RMBS notes issued by Emerald Mortgages and Kildare Securities on the back of “continued rapid deterioration of the transactions, Moody’s outlook for Irish RMBS sector; and credit quality of key parties to the transactions [re: Irish banks] as well as structural features in place such as amount of available credit enhancement.” The last bit of this statement directly references the concerns with over-collateralization raised in my last week’s note. Although Moody’s do not highlight explicitly the issue of declining pools of collateral further available to shore up security of the asset pools used to back RMBS notes, the language of the note is crystal clear – Irish banks are at risk of running out of assets that can be pledged as collateral. This, of course, perfectly correlates with the lack of suitable collateral for LTRO-2 borrowings from the ECB by the Irish banks, other than the Bank of Ireland last month. As rated by Moody’s, half of the covered RMBS notes were downgraded to ‘very high credit risk’ or below and all the rest, excluding just one, were deemed to deteriorate to ‘high credit risk’ status. Surprisingly, the Central Bank’s Macro-Financial Review published this week makes no mention of either the RMBS, covered bonds or the impact of securitization vehicles on banks’ balance sheets. See no evil, hear no evil?

26/3/2012: QNA Q4 2011 - Part 6

In the first post on QNA results for 2011 I covered data for annual GDP and GNP in constant prices terms. The second post focused on GDP/GNP gap and the cost of the ongoing Great Recession on the potential GDP and GNP. The third post focused on quarterly sectoral decomposition of GDP and GNP in constant prices terms. And a short digression from QNA results here showed how difficult it is, really, to reach any consensus on some of Ireland's economic performance parameters. Following these, Part 4 of QNA analysis focused on nominal (current prices) quarterly data. Part 5 of the analysis focused on decline in capital investment in Ireland during the crisis.

In this, last, post onQNA results for 2011, I will focus on the idea of the 'exports-led' recovery.


We are all familiar with the thesis that exports will drive this economy out of the recession. This has been the leitmotif of the Irish Governments since 2008 and it remains to be the core conjecture still. And there are some reasonable logical grounds for believing this proposition:

• In real terms, Irish exports of goods and services have posted a spectacular run up since the beginning of the Crisis, rising from €142.03bn in 2006 to €161.47bn in 2011. Year on year exports grew 4.11% in 2011 and that follows on 6.31% growth in 2010.Compared to 2007 total exports in constatant prices terms stood at €7,491mln higher (an uplift of 4.86%). This increase can be broken into €4,987 million uplift in exports of services and €2,504 mln uplift in exports of goods.
• Adding to the strength of exports impact on GDP and GNP, imports collapsed. Total imports fell to €123.45bn in 2011, down 0.7% yoy after rising 2.7% in 2010. Imports of goods and services are now down 10.23% on 2007 levels - a saving, in terms of national accounts - of €14,075mln on 2007 (broken down to a reduction in goods imports of €19,623mln and increase of €5,549mln in services imports).
• Trade balance has been going from strength to strength on the back of divergent swings in exports and imports. In 2011 our trade balance was €38,027mln in real terms (composed of €41,671mln surplus on goods side and a deficit of €3,644mln on services side). This is more than three times the trade surplus achieved in 2006 and is 131% ahead of the 2007 levels of trade surplus. Compared to 2007, our trade surplus is now €21,566 mln higher (composed of an increase in trade surplus on goods side of €22,127mln and a deterioration in trade deficit on services side of €562mln).

Alas, of course, as noted in the previous posts, much of these surpluses and exports are due to transfer pricing and outflows of factor payments to the rest of the world have been rampant. Net factor income (in constant prices terms) outflows to the rest of the world from Ireland have reached €33,824mln in 2011, up 18.62% on 2007 levels.

In reality, of course, whatever one says about trade performance, international trade, once we net out imports of intermediate inputs into exports production and transfers abroad as a payment of profits by the multinationals, is by far not as huge as the Government would love to claim. And international trade-supported employment is also relatively small. Pair that with the fact that our economy had experienced a massive collapse of domestic activity and you get the picture: there will be no recovery from the crisis unless domestic economy regains growth momentum.

But here's a more worrisome picture, folks:

It turns out that there is zero statistical relationship between levels of exports and GDP and GNP growth, while there is (as a check on data) strong relationship between exports and imports. More worryingly: higher exports are associated with lower GDP and GNP (albeit there is no, as I said, statistical significance).

How can that be, you ask? Simples: if you think of it, higher exports are delivered primarily by the MNCs operating in Ireland. And during the crisis this delivery has been associated with:

• Virtually no net jobs creation and falling earnings (IDA brags about the latter as a 'positive' sign of improved competitiveness) - which means that employment & personal spending & household investment effects of record exports is negligible (if not negative)
• Virtually no new investment (or at least not enough new FDI to offset massive collapse in investment described in the previous post) - which means that gross fixed capital formation part of GDP and GNP is out as well
• Massive profits repatriation and transfer pricing - which means that Irish economy has only a tiny (less than corporate tax rate-sized) claim on these record exports (corporate tax revenues are not booming, are they?)

Where would the huge links between economic well-being and exports, required to compensate for steep declines in domestic spending and investment activities, come from, then?

Now, don't take me wrong - exports do provide huge support for our economy and real benefits and jobs. I wrote about this time and again. But these are not nearly enough to keep this economy afloat. What Ireland needs to get out of this mess are - very broadly speaking - two sets of outcomes:

1. Most important short-term - restoration of domestic economic activity (especially starting with domestic investment)
2. Most important longer-term - diversification of our exports base away from the MNCs toward domestic exporters.

In both - Irish policies are currently failing us and record-busting exports as we know them today are not providing the rescue vehicle we require.