20/10/2012: Is there a WW3 going on somewhere?

Is there a war of major proportions the US fighting somewhere?..

And may be Japan and Europe are all fighting for something pretty big too?

17/7/2012: Fiscal Monitor Update - another chart

Here’s an interesting chart from the Fiscal Monitor update released by the IMF yesterday that is worth some attention on its own (see more analysis here).

Basically, this shows that in 2008-2010 period, Irish bonds valuations were not as much divorced from the immediate fiscal sustainability fundamentals as our politicos claimed. If anything, they were virtually in line with the fundamentals, pricing almost no longer-term structural underperformance of the economy.

This is not to say that we lack in the room for structural reforms, or that we were well on the way to delivering such reforms. Markets perception of Ireland even during the deeply crisis-ridden days of 2008-2010 seemed to have been much better than that of Portugal, Italy and Spain. Whether that was justifiable or not – is an entirely different question. But what is clear is that compared to other peripherals, our Government had no one else but itself to blame for our bonds spreads.

16/7/2012: IMF Fiscal Monitor Update - Ireland

IMF just published its Fiscal Monitor Update for July 2012 with some interesting data. I will focus here on forecast changes and updates to Advanced Economies, including Ireland.

 Chart above shows changes in the cyclically adjusted fiscal balances (structural deficits) which clearly highlight Ireland as a relative laggard in the fiscal adjustment process. Despite this, IMF concludes in the case of Ireland that:

Not exactly time to grab champagne yet... In its Table 1 IMF supplies Fiscal Indicators for the countries for 2008-2013 period, inclusive of revisions from April 2012 report to July 2012 report. And I plotted these in the charts below:

First chart covers Overall Fiscal Deficits for 2011, 2012 and 2013 per latest (July 2012 forecasts):

Clearly, Ireland had the worst fiscal deficit in 2011 of all EA17 states covered by the IMF update.  But we are also expected to post the worst deficit in 2012 and 2013.

Adding insult to injury, chart below shows that IMF downgraded our deficit cutting prospect for 2013 by 0.2 ppt, which is the worst case (on par with Spain) of a downgrade for an EA17 state covered. Note: we did get an upgrade from April to July forecasts for 2012 results.

Let's take a look at Cyclically-Adjusted Deficits measured as % of potential GDP (aka structural deficits):

Again, per chart above, Ireland had the worst EA (covered states) cyclically-adjusted deficit in 2011, followed by the expected worst deficits in 2012 and 2013. We posted the second worst downgrade for 2013 forecast (Spain was first). As before, we got an upgrade on cyclically-adjusted deficit forecast for 2012 - which is good news.

Now, what about that fabled Irish leadership in austerity? Chart below shows the depth of structural deficits reductions from 2009 through 2012 (forecast consistent with July update):

It turns out, per chart above, that our championship in austerity is really behind that of Greece (-14%),  Portugal (-6.7%) and Spain (-4.7%).

And the really worrisome update is reserved for Government debt levels. Back two years ago I predicted that Irish debt/GDP ratio will top over 120% marker. Back then, I was criticized for this because an army of our 'green jersey' economists and commentators decided that 120% is a magic number we will never reach. The reason for their ardent defense of this imaginary line in the sand is that they bought into the ECB and EU line that 120% is 'sustainability bound' for public debt. Of course, I never aligned with the idea that 120% debt/GDP ratio is a magic 'sustainability bound'. But, now, take a look at chart below:

Per IMF latest forecast, Ireland's 2012 Government debt will reach 117.6% of GDP (up on 113.2% forecast for 2012 back in April) and in 2013 it will peak at 121.1% of GDP (up on 117.7% forecast for 2013 back in April).

Note that for all our efforts, our Government debt/GDP ratio will be relatively close in 2013 to that of Italy (126.4% of GDP) and above Portugal (118.6% of GDP).

Pretty ugly.

21/3/2012: Anglo's Promo Notes - perfect target for debt restructuring

This is an unedited version of my Sunday Times article from March 18, 2012.

At last, courtesy of the years of economic and financial mess, Ireland is waking up to the problem of our debt overhang. For those of us who have consistently argued about the unsustainability of our fiscal and real economic debts predicament, this moment has been long coming. The restructuring of some of the debts carried by the Government directly or indirectly, on- or off-balancesheet is a matter of when, not if. Enter the debate concerning the Promissory Notes.

Per international research, State debt in excess of 90-95% of the real economic output is unsustainable. In real economics, as opposed to fiscal projections, debt becomes unsustainable when it exerts a long-term drag on future growth.

At the end of 2011, official Government debt in Ireland has reached 107% of our GDP or 130% of GNP, according to NTMA. The Irish economy is now operating in an environment of records-busting exports, current account surpluses, and healthy FDI inflows, and yet there is no real growth and unemployment remains sky-high. By comparatives, Irish economy is a well-tuned, functional car stuck in the quicksand – engine revving, power train working, wheels engaging, with no movement forward. This is a classic scenario of a debt overhang crisis – the very same crisis that Belgium has been struggling with since 1982, Italy – sicne 1988, Hungary – since 1991, and Japan – since 1995.

Something has to be done to deal with this problem in Ireland no matter what our Government and the EU say in public.

Uniquely for a euro area country, Ireland’s debt overhang did not arise solely from fiscal or structural economic shocks, but was strongly driven by the country response to the financial crisis rooted in a number of forces, including policy and regulatory errors by the EU and ECB. Also, Ireland has undergone the most severe adjustments in its fiscal position to-date compared to all other ‘peripheral’ economies, proving both our capability and commitment to reforms.

Lastly, in contrast with all other countries, Ireland’s economy is capable of getting back to sustainable levels of economic activity. Irish economy needs a supporting push out of the quicksand of banks-linked debt overhang to deliver on its sovereign debt commitments, and become once again a net contributor to the sustainable fiscal system within the euro area.

The IBRC Promissory Notes are a perfect focal point for such a push for a number of reasons.

First, the magnitude of the Promissory Notes allows for significant room to reduce Irish Government’s future liabilities, combining €28.1 billion of debt, plus 17 billion in interest repayments. These represent 29% of our GDP. Eliminating this liability will restore Ireland back onto sustainable fiscal and growth paths. Restructuring the Notes will not constitute a sovereign default. Although their value is counted in Irish Government debt, they are not traded in the markets. The Notes are, de facto, Irish Government IOUs to the Central Bank of Ireland with IBRC acting as an agent.

Second, Promissory Notes underwrite €28 billion of €42 billion IBRC debts to the ELA programme run by the Central Bank of Ireland. ELA funds are not borrowed by the Central Bank from the Eurosystem or the ECB, but are created by the Central Bank under its mandate. There is no offsetting physical liability the Central Bank needs to cancel by receipt of payments from the Government. The Notes also do not constitute Central Bank funding for the Government as they finance stabilization of the Irish (and thus European) banking system. Lastly, the ELA funding extended to the IBRC is already in the financial system. Removing requirement on the Irish state to monetize the Promissory Notes will not constitute an inflationary quantitative easing.

The Government is correct in focusing much of its firepower on the IBRC’s Promissory Notes. Alas, efforts to-date suggest that it is not setting its sights on the real solutions needed. This week, Minister Noonan has identified the direction in which the talks are progressing: restructuring the Promissory Notes repayment time schedule, plus possibly reducing the interest rate attached to the notes via converting the notes into ESM debt.

The problem with this approach is that a transfer of liabilities to ESM will convert Promissory Notes into a super-senior Government debt. This is likely to have a negative effect on Ireland’s ability to borrow funds from the markets in the future and make such borrowing more expensive.

In addition, lowering interest rate on the Promissory Notes carries two associated problems with it. The move can only have an appreciable effect on Exchequer finances after 2014, when interest on the notes ramps up to €1.8 billion from zero in 2012 and €500 million in 2013.

Delaying repayment of notes instead of reducing the principal amount owed on them will not provide significant relief to the Exchequer in the future and will make the period over which the debt overhang occurs even longer than 20 years envisioned under the current Notes structure. This will pose serious risks. History of business cycles suggests that between now and 2025 when Notes repayments will fall significantly, we are likely to face at least two ‘normal’ or cyclical recessions. During these recessions, Notes repayments will coincide with rising deficit pressures and national income contractions that will exacerbate the Promissory Notes already adverse impact on Irish economy. Extending the period of notes repayments risks compounding more recessionary cycles in the future.

Furthermore, delaying notes repayments can risk increasing the overall future demand for debt issuance by the state. Currently, Ireland is facing two debt-refinancing cliffs during the life of the Promissory Notes: €45.6 billion refinancing over 2013-2016 and €62.4 billion over 2017-2020. If Notes repayments are delayed, their financing will stretch further into post-2020 period, just when the subsequent roll-overs of Government bonds will be coming due.

In more simple terms, current proposals for Promissory Notes restructuring are equivalent to making quicksand pit shallower, but much wider.

Ireland needs and deserves a direct restructuring of the ELA. The most optimal outcome of such a restructuring would be de facto cancellation of ELA requirement for repayment of IBRC-borrowed €42 billion. Once again, such a move would have zero inflationary impact on the economy as on the net no new money will be created in the euro system over and above the amounts already present.

There remains, however, one sticky point. Allowing Ireland to restructure its ELA can, in theory, lead to other Central Banks following the suit. This problem of moral hazard can be easily mitigated by ECB by ring-fencing Irish ELA restructuring solely for the purpose of winding down IBRC. Making ELA writedown conditional on shutting down Anglo and INBS, plus potentially Permanent tsb will disincentives other countries from using their own ELAs to rescue solvent banks. Irish restructuring can be further isolated by tying ELA writedown to progress already achieved by Ireland in tackling fiscal deficits and restructuring its banking sector. Put simply, with such a proviso in place, no other Euro area country would want to dip into its National Central Bank vaults if the associated cost of doing this will amount to over 50% of its GDP.

Ireland’s crisis is unique in its nature and its resolution provided a buffer to cushion the credit crisis blow to the entire euro area banking sector. Ireland both deserves and needs a breakthrough on the debts assumed by taxpayers in relation to the insolvent IBRC. Even more importantly from Europe’s point of view, the ECB needs a positive example of a country emerging from the deep crisis within the euro system. Ireland is the only candidate for success it has.

Source: NTMA and author own calculations.

Note: In computing second round of rollovers, only Government bonds are included and taken at 95% of the principal amount. All other debts are excluded.

Box-out:

In the wake of last week’s Quarterly National Household Survey release, the Government was quick to point to the improvement in the number of employed on a seasonally adjusted basis as the evidence the employment policies success. Overall numbers in employment rose in Q4 2011 by 10,000 or 0.56% compared to Q3 2011, once seasonal adjustments were made. Furthermore, per seasonally adjusted data, full-time employment was up 8,700 – accounting for 87% of this jobs creation. Alas, this is not the entire picture of the job market health. Year on year, seasonally adjusted employment was down 17,800 or 0.97%. More ominously, unadjusted employment was up just 2,300 in Q4 2011 compared to Q3 2011 – an addition of statistically insignificant 0.1%. Interestingly, full-time unadjusted employment figure fell by 700 jobs (-0.1%), while part-time employment rose 3,000 (+0.7%). At the same time, number of part-time workers who are underemployed has jumped 5,800 in a quarter and 28,100 year on year. Two reasons can help explain the above disparities. First, Government training programmes have been aggressively taking people out of unemployment counts, increasing employment numbers. In the case of Job Bridge, for example, these are unpaid ‘internships’ with questionable rate of post-internship transition to work so far. Second, since Q1 2011, CSO has used a new model for seasonal adjustments, which may or may not have an effect on seasonally adjusted headline numbers. Lastly, seasonal adjustments can increase, not reduce quarterly data volatility at the times when trends change. Particularly, with flattening out of the employment figures after years of steep declines, seasonal adjustments can introduce a temporary bias into subsequent data. In short, making conclusions about the actual changes requires more careful reading of the numbers than a simplistic headline figure referencing. With all annual indicators pointing to a shallow decrease in employment, the Government would be best served to have some patience and see how subsequent quarters numbers play out before jumping to conclusions on the success of its policies.

26/09/2011: Ireland's Debt Overhang - unprecedented, unmanageable & unsustainable

A recent paper, titled "The real effects of debt" by Stephen G Cecchetti, M S Mohanty and Fabrizio Zampolli (05 August 2011) presented at the "Achieving Maximum Long-Run Growth" symposium sponsored by the Federal Reserve Bank of Kansas City, Jackson Hole, Wyoming, 25-27 August 2011 put forward evidence on the overall effects of debt overhang - across public, private corporate and household debts - on the real economy.

Here is the summary of their findings, followed by a closer look at the implications of these for Ireland. I have to warn you - the latter are highly disturbing.

The authors argue that although debt can be used to drive growth and development, "...history teaches us that borrowing can create vulnerabilities. When debt ratios rise beyond a certain level, financial crises become both more likely and more severe (Reinhart and Rogoff (2009)). This strongly suggests that there is a sense in which debt can become excessive."

The authors set out to answer a simple question: When does the level of debt go from good to bad? 'Bad' as in producing the effect of lowering long term economic growth in the economy.

To do so, the authors used a new dataset that includes the level of government, non-financial corporate and household debt in 18 OECD countries from 1980 to 2010.

The core results "support the view that, beyond a certain level, debt is bad for growth":

• "For government debt, the threshold is in the range of 80 to 100% of GDP... Our result for public debt has the immediate implication that highly indebted governments should aim not only at stabilising their debt but also at reducing it to sufficiently low levels that do not retard growth. Prudence dictates that governments should also aim to keep their debt well below the estimated thresholds so that even extraordinary events are unlikely to push their debt to levels that become damaging to growth." Furthermore, "when government debt rises to [threshold] level, an additional 10 percentage points of GDP drives trend growth down by some 10-15 basis points."
• "Up to a point, corporate and household debt can be good for growth. But when corporate debt goes beyond 90% of GDP, our results suggest that it becomes a drag on growth."
• "And for household debt, we report a threshold around 85% of GDP, although the impact is very imprecisely estimated."
  

The table below shows the core results from the paper and adds the comparable data for Ireland (Ireland was not included in the analysis). Make sure you are seating before reading it:
As shown in the table above, using the study estimates, the potential reduction in Irish GDP growth over the long term horizon arising from the combined debt overhangs is 2.1%.

The table also shows that the largest impact from debt overhang for Ireland arises from corporate debt, followed by household debt. Despite this, our Government's core objective to-date has been to deleverage banks and to contain Government debt explosion. In fact, the Government is consciously opting for loading more debt onto households - by reducing disposable after-tax incomes and refusing to implement significant savings in the public sector expenditure.

Yet, folks, our debt levels are extreme. They are more than extreme - the table below shows comparable combined public and private (non-financial) debt for the countries in the study sample, plus Ireland.
And the reates of our debt increase during the crisis are also extreme:

In fact, we have both - the highest level of debt to GNP ratio, the second highest debt to GDP ratio and the fastest increases in 2000-2010 in both ratios in the developed world. In the nutshell, this means we are more bust than the most bust economy in the world - Japan. Unlike Japan, however, we are faced with:

• No prospect of devaluation
• No prospect of controlling our interest rates
• Young population that requires growth and jobs creation, and
• Much heavier levels of private and corporate debt - i.e. debt that has more significant adverse economic effects than sovereign debt.
  

Yet, even exporting powerhouse of Japan is not delirious enough to believe their debt overhang can be brought under control via 'exports-led' growth.



Now, much of the issues and data discussed in this post relate to the question raised in the Dail by Peter Mathews, TD, who relentlessly pursues, in my view, public interest in raising such questions. The record of his question and Minister Noonan's answer is provided below:

03/03/2011: Banks & debt crisis

Amended below

This was made public late last night and has serious implications for the Irish banks. If you recall, last summer the EU conducted a similar exercise that resulted in a complete failure to:

1. Identify the banks that required intervention (subsequent the tests, within two months time, AIB and Bank of Ireland required state capital interventions and within 4 months Ireland was in receipt of EU/IMF funds);
2. Identify cross- banks risks and the potential for contagion from banks to banks and from banks to the sovereigns; and
3. Identify second order effects of contagion from rising Government yields and deteriorating sovereign ratings to the banks balancesheets

So now, we shall try again. This time around, just as before the first tests, Irish authorities are also conducting PCAR assessments of the balancesheets. And this time around, these assessments will be at risk of the EU-wide evaluations.

Here is the announcement on the forthcoming EU tests:

"EBA Unveils Timeline and Details on EU-wide Stress-tests

"This afternoon the European Banking Authority held its second meeting of the Board of Supervisors of the 27 constituent members of the EBA. One of the primary items on the agenda was the agreement and specification of details pertaining to the upcoming EU-wide stress-tests.

Here are the main facts:

• The official launch date of the exercise is the 4 March - that's right - as in tomorrow!!!
  
• The exercise follow the same basic formula as before, i.e. a baseline macro-economic and an adverse scenario, to test for solvency of banks, but it is unclear whether it will be restricted to the balance sheets alone, or will consider the impact on the off-balance sheet assets as well;
• Publication of the list of banks to be tested, plus the macro-economic scenarios, will take place on 18 March;
• EBA continues to liaise with relevant bodies such as the ECB and ESRB to finalise the methodology to be used in April;
• "Vigorous" peer review and results in June.

The main items that stand out is the much greater degree of transparency of the various steps and structures of the tests, but ominous sign is the lack of detail on what results will be released. A spokesperson for the EBA re-iterated that the main developments as compared to the last stress-tests include "more disclosure of the key steps.... and that there will be a vigorous peer review". Again, there is no explicit identification as to what will be released under disclosures other than what will be leaked anyway - the core testing scenarios parameters and assumptions, plus headline results on specific banks.

Finally, the need to have effective "remedial backstops" in place is part of an on-going discussion with the ESRB and national authorities to ensure that the necessary resources are in place should there be any need to re-capitalise banks. It appears this is still an open question, although the EBA did not rule out the possibility of European funding (EFSF, presumably) being used in a case where a national Exchequer cannot afford to re-capitalise its banks. EBA cited the example of the Irish case and EFSF funds, but clearly, there is no progression envisioned beyond 'cure loans with more loans' solutions.

EBA does appear be doing all it can (given opposition from the EU Governments to transparent and rigorous assessments) to make these tests definitive, credible and part of the comprehensive answer to providing macro-financial stability in the EU.

The link to the EBA announcement is here.

It should be interesting to see how PCAR-II comes out against the EBA tests. That duel of tests will be a backdrop to either establishing credibility of one or the other, or possibly none, but hardly both, as either PCAR-II leads EBA tests into recognizing the reality of our collapsed banking system, or it does not.


And on a related issue of banks, here's a link to the full interview with Professor Barry Eichengreen on the issue of sick European banking system. Few quotes:

• Europe "must stop attempting to combat the crisis in Greece and Ireland by forcing these countries to pile more debt onto their existing debts by saddling them with overpriced loans." Note that the Der Spiegel journo actually fails to understand what Eichengreen is saying here, for the journalist then launches into a next question: "But at the same time, Europe is stifling any chance of growth in Greece and Ireland by forcing them to comply with harsh austerity measures. Is there any way this strategy can actually add up?" Like the rest of Europe, he does not comprehend the reality of what we are facing. It's not the austerity that is going to kill us, it's the DEBT!
• Eichengreen's response is to attempt once again to stress the very same point: "Essentially, all Germany and France want to achieve with these measures is to protect their own banks from collapsing. ...there is no way around rescheduling Greece's debt -- and that will also involve the banks. For this to happen, there is only one solution: Europe needs to strengthen its banks! Greece lived beyond its means, but in Ireland and Spain it is the banks that are the problem. The euro crisis is first and foremost a banking crisis." Read - it's the banks DEBT crisis!
• Der Spiegel's cool 'I am European, so Government spending is all that matters to me' dude again misses the mark launching back into Government spending question. And Eichengreen - after a pause - gives it a third try: "Europe's banks are in far greater danger than people realize. Most people now understand that last year's stress tests ... were a token gesture and lacked realistic scenarios. ...what would put my mind at rest more would be if the responsibility for carrying out the [new] stress tests went to the European Commission. National regulators are too susceptible to pressure from the regulated."

Enjoy the read.

But for those more inclined to read some much more really serious stuff, look no further than to
the latest Reinhart-Rogoff work on debt crisis: A DECADE OF DEBT, Carmen M. Reinhart and Kenneth S. Rogoff, NBER WORKING PAPER SERIES 16827 from February 2011 (no point to link it, as it is password protected). Here are the excerpts:

Starting from the top, the authors say (all emphasis is mine): "there is important new material here including the discussion of how World I and Great Depression debt were largely resolved through outright default and restructuring, whereas World War II debts were often resolved through financial repression [in other words through capital controls, forced expropriation of savings via taxation and soft force-induced diversion of domestic investment to financing of the Government liabilities - in effect, a form of expropriating pension funds etc]. We argue there that financial repression is likely to play a big role in the exit strategy from the current buildup. We also highlight here the extraordinary external debt levels of Ireland and Iceland compared to all historical norms in our data base."

Another quote: "For the countries with systemic financial crises and/or sovereign debt problems (Greece, Iceland, Ireland, Portugal, Spain, the United Kingdom, and the United States), average debt levels are up by about 134 percent, surpassing by a sizable margin the three year 86 percent benchmark that Reinhart and Rogoff, 2009, find for earlier deep post-war financial crises. The larger debt buildups in Iceland and Ireland are importantly associated with not only the sheer magnitude of the recessions/depressions in those countries but also with the scale of the bank debt buildup prior to the crisis—which is, as far as these authors are aware—without parallel in the long history of financial crises." And here's a chart from the paper:

Now, average increase in the crisis was 36%. In pre-2008 history of all modern financial crises, the financial crisis saw increases on average of 86%. In the current crisis, Ireland experienced and increase of Government debt of ca 320% (Reinhart-Rogoff estimate is 220% through 2009, but with our 2010 'inputs' - we are now closer to 320%)! And this was just Government's official debt. Quasi-official debts add to more than that. In other words, by historical standards - ca 86% would classify us as being serious bust, 320% (or even 220%) would classify as having been financially vaporized!

Puts into perspective the official Ireland's blabber about 'we can manage this debt'.

But if we need more, Reinhart & Rogoff oblige: "After more than three years since the onset of the crisis, banking sectors remain riddled with high debts (of which a sizable share are nonperforming) and low levels of capitalization, while household sector have significant exposures to a depressed real estate market. Under such conditions, the migration of private debts to the public sector and central bank balance sheets are likely to continue, especially in the prevalent environment of indiscriminate, massive, bailouts." So what the authors are saying here is that:

• There has been no resolution to the crisis after 3 years of drastic measures;
• The only outcome of the current approach is private debt (banks) continuation to move onto Government balancesheet, until
• The proverbial sh&&t hits the fan:
  

"The sharp run-up in public sector debt will likely prove one of the most enduring legacies of the 2007-2009 financial crises... We examine the experience of forty four countries spanning up to two centuries of data on central government debt, inflation and growth. Our main finding is that... high debt/GDP levels (90 percent and above) are associated with notably lower growth outcomes. ..Seldom do countries "grow" their way out of debts.

"...As countries hit debt intolerance ceilings, market interest rates can begin to rise quite suddenly, forcing painful adjustment [guess what's awaiting Ireland when - with current 10% mortgages stress levels - this happens?].

"For many if not most advanced countries, dismissing debt concerns at this time is tantamount to ignoring the proverbial elephant in the room. So is pretending that no restructuring will be necessary. It may not be called restructuring, so as not to offend the sensitivities of governments that want to pretend to find an advanced economy solution for an emerging market style sovereign debt crisis. As in other debt crises resolution episodes, debt buybacks and debt-equity swaps are a part of the restructuring landscape. ...The process where debts are being "placed" at below market interest rates in pension funds and other more captive domestic financial institutions is already under way in several countries in Europe [and recall the cheerleaders for this in Ireland were... the pension funds themselves].

Central banks on both sides of the Atlantic have become even bigger players in purchases of government debt, possibly for the indefinite future."

Pretty tough words...

19/02/2011: Paying down our debt out of Exports

Let's do a quick exercise. Suppose we take our current account - defined as the sum of the balance of trade (exports minus imports of goods and services), net factor income (such as interest and dividends) and net transfer payments (such as foreign aid and remitted profits). Suppose every year we use the current account balance solely for the purpose of repaying our Government debt. How long will it take us to do so.

Let us start with some notes on methodology.

Our current account is in deficit - since 2000, there was only one year - 2003 - when we had a surplus in the current account (charts below), which really means our external trade was not enough to generate a surplus to the economy. So let us assume that the we can reverse this 180 degrees and that the deficits posted in 2009-2010, plus those projected by the IMF to occur in 2011-2015 are all diverted to pay our Government debt.
Notice - this is impossibly optimistic, as our Government does not own current account, but suppose, for the sake of this exercise that it can fully capture net profits transfers abroad and cut the foreign aid to zero, plus divert all interest payments on own debt and private external debts to repayment of the principal on own debt.

Secondly, assume that only Government debt is taken into the account (in other words, we assume away Nama debt, some of the quasi-sovereign financing of the banks resolutions, and all and any potential future banks and spending demands in excess of the EU/IMF assumptions, as well as all future bonds redemptions - the latter assumed to have a zero net effect at roll-over, so no added costs, no higher interest rates, etc).

In other words, here is what we are paying down in this exercise:

Now, suppose we take current account balances for 2009-2015 (projected by IMF) as the starting point. The reason for this choice of years is that they omit fall-off in our exports in 2008 and also the bubble years of 2004-2007 when our current account imbalances were absurdly large due to excessive outward investment and consumption of imports.

Next, assume:

• We deal with present value of the debts
  
• We apply an average 3% annual growth rate to repayments we make (current account transfers grow 3% on average per annum)
  
• Currency effects are removed (so we use flat USD1.33/Euro FX rate throughout)

So here is the result:
And the conclusion is: if Ireland diverts ALL of its net current account (2009-2015 IMF projections taken at 3% average growth rate forward) to pay down Gov debt, it will take us until 2064 to reach 2007 level of official (ex-Nama+banks) Government debt.

Note: incidentally - the charts tell couple of interesting side-points based on our historical debt path:

The Government told us that we are not in the 1980s - as we had much higher levels of debt then. Ok, the figure above shows that as of 2010 - we ARE back in the 1980s: 2011 debt will equal as a share of GDP that attained in 1989. According to IMF database, our debt has peaked at 109.241% of GDP back in 1987. It is projected to be 104.7% in 2013. Not that much off the peak.

But, of course, in the 1980s there was no quasi-Governmental debt - the debt of Nama, some of the banks recapitalization measures and the debts that still might arise post-2013 from the Government banks Guarantees and resolution schemes. If we add Nama's 31bn worth of debt issued, this alone will push our 2011 debt levels to 121.8% of GDP and factoring in coupon rate on these, but 2015 our Official Gov Debt + Nama will stand (using IMF projections again) at 124.8% of GDP - well in excess of the peak 1980s levels of indebtedness.

Secondly, despite what any of us might think about the Celtic Tiger years, the Government never paid down the old debt, it simply was deflated by rising GDP. Which suggests that even during the Celtic Tiger boom years - our exporting economy was NOT capable of paying down actual debt levels.

Economics 5/12/10: Debt, debt, debt... for Irish taxpayers

I decided not provide any analysis of the figures below. These figures speak for themselves. To explain their purpose: I have computed the expected burden on current and future taxpayers from the total ex-banks debt carried by Ireland Inc as:

• Households debts (mortgages, car loans, personal loans, credit cards, etc);
• Government debt (inclusive of quasi-Governmental debt undertaken under the EU/ECB/IMF loans and Nama).
  
• I also incorporate total corporate sector debts, including non-financial corporations debt and debts entered into by non-banking financial corporations. However, the corporate debt DOES NOT form the part of taxpayers liabilities, although at least some of it will have to be repaid out of our (taxpayers) pockets one way or another.

All figures input into calculations were taken from CSO and Central Bank of Ireland databases. All core assumptions are outlined in the second table.

Finally, note - the total figures of debt per taxpayer are for Household Debts and Government (including Nama & ECB/EU/IMF loans) debt. Do not, please, confuse them with the official Government debt alone.

So here are two tables. Interpret them as you wish:


PS: some people accused me of double-counting:

• banks debts and mortgages/households debts. I am not - banks debts are excluded from the above considerations;
• Government bonds outstanding and rolled over. I am not - the only net increase between 2010 and 2014 in Government debt due to roller overs of existent (pre-2011) bonds is due to an increase in the interest rate taken on rolled over bonds at 1% (again, conservative, as per ECB/EU/IMF deal we will be paying 1.13% over the current average rate of interest on already issued bonds).
  

Economics 13/11/10: EFSF, Ireland and a matter of contagion

let me ask the following question: if Ireland is nearing (or already in - see here) a bailout from the EFSF, what does this imply to the overall Euro area stability? Funny thing - it turns out that a little old Ireland can give a big young Euro quite a headache because of the way EFSF is structured.

Let’s step back and take a look at the promise EFSF attempts to deliver.

The fund, set up back in May this year, was supposed to provide an emergency funding backstop to countries finding themselves in a liquidity squeeze (unable to borrow in the markets).

There two basic problems with this idea from the point of view contagion from Ireland

• Ireland’s crisis is that of insolvency, not of a liquidity squeeze 9although it is increasingly looking like the latter will come in the end). If EFSF were to be explicitly used to address Ireland crisis, then Irish Government will be de facto borrowing from the fund with no hope of repaying it ever back (recall – the lending rates under EFSF should be set close to the market rates, which means, say 7-8% currently, which in turn automatically means we can’t be expected to repay this). If so, then any borrower, I repeat – any borrower – from EFSF will not repay the funds borrowed. And this means EFSF borrowings will have to be covered collectively out of the joint funds of the entire Eurozone. You can pretty much count PIIGS out of funding it – they’ll be the very same borrowers. Which leaves it to France and Germany (Belgium hardly can pay much and Austria has it’s own problems etc) to cover the entire fund.
• EFSF own structure implies high risk of contagion from Ireland.
  

That second point is slightly technical and requires some explaining to do.

One can make an argument that Ireland, if it borrows from EFSF, will trigger an increase in the Euro zone systemic risk. EFSF is set up similar to Collateralized Debt Obligation (CDO) with a "credit enhancement" that allows the senior debt tranche to retain higher risk rating because junior tranches are the ones that will carry the first hit on the whole package in the case of default.

The lags in the disbursement of funding and the capped nature, plus ‘enhancement’ bit of the CDO implies that countries in trouble will have to get into the funding stream as early as possible – as there is quick exhaustion of drawdown funds in the EFSF due to the knock on effect on CDO rating. This is known as an accelerated negative feedback mechanism – as sovereign comes under pressure, sovereigns are encouraged to race into EFSF, which removes their own bonds and capacity to carry debt out of the senior CDO tranche and increases their presence in the junior tranches.

So the guaranteed pool of liabilities increases by the amount country borrows from the fund, but the senior pool decreases by the contribution of this country to the fund. This means that as Ireland joint EFSF, it’s past ‘good credit’ rating falls to zero in the senior CDO tranche, its ‘bad debt’ risk contributes to the reduced quality of the liabilities held by the EFSF. Pressure rises on AAA rating of EFSF, unless EFSF draws more of AAA-rated countries debt into its senior tranche to offset this. EFSF will have to expand to be able to do both: lend out to Ireland and maintain AAA rating. Which, of course means that other EFSF contributors will need to issue more debt to recapitalize EFSF. Which means their own AAA ratings are becoming threatened as well.

You see where it all leads, now, don’t you?

The greater is the number of countries seeking help and/or the greater is the overall demand for EFSF funds, the greater the required buffer funding increases from the remaining EFSF-lending AAA-rated sovereigns. All of which, in plain English means that the EFSF will run into its own lending limits quicker if Ireland were to go into borrowing from it. Much quicker than a simple level of our borrowing would suggest.

Now, any sovereign with an once of sense now will know that a race to tap EFSF is on. The faster you get to it to borrow from it, the more likely you’ll arrive to the borrowing window before the limits are reached. Portugal, Spain and possibly even Italy are in the race.

This is why the markets have never been easy about the entire EFSF – they know that Ireland tapping into EFSF simply does two things:

1. It delays the inevitable restructuring of the massive debts accumulated on the Irish economy side – either sovereign or banks or households or any two or all three. EFSF does not remove the need for such a restructuring. It simply delays it.
2. It signifies an exponential increase in the probability of EFSF acting as a conduit for contagion from the PIIGS to the rest of the Euro area.