29/12/2013: Icelandic Model for Debt Crises Resolution?

A very comprehensive paper analysing the Icelandic approach to personal debt and corporate insolvency crises resolution:
http://hhi.hi.is/sites/hhi.hi.is/files/W-series/2013/WP1310.pdf

Latest comparatives between Icelandic and Irish economic performance: http://trueeconomics.blogspot.ie/2013/10/27102013-ireland-v-iceland-full-deck.html

18/4/2013: Legalising Modern Version of Slavery

Insolvency guidelines published today were wholly and fully written by the banks and for the banks.

The core points are that under the new regime, Irish mortgagees will be:

1. Treated as de facto strategic defaulters until they are proven not guilty of such behaviour in a biased process that will see them face fully resourced lenders while having no practical and meaningful means for defending themselves. 'Innocent until proven guilty' principle no longer applies in the Irish State.
2. Permanently branded as defaulters for the rest of their lives as there record of applying for the resolution process will be kept indefinitely, independent of success or failure of the process.
3. Will lose basically any means to sustain real savings, investment, pensions provisions for the duration of up to 6 years or even longer without any guarantee that their engagement with the system will end in resolving the debt overhang at the end of the process.

This means that the Irish economy will continue to struggle with the debt overhang and, materially, the current change in the regime will only serve the purpose of further shifting financial resources from the households to the banks.

There was no real functional process for consultation with the current providers of services to those facing the insolvency. There was no transparency in developing these Guidelines. Give you one example, there is no reference to the protection of consumers, mortgagees or borrowers in the entire text of the document.

Take it from the top: "A debtor should be able to participate in the life of the community, as other citizens do. It should be possible for  the debtor ‘to eat nutritious food …, to have clothes for different weather and situations, to  keep the home clean and tidy, to have furniture and equipment at home for rest and  recreation, to be able to devote some time to leisure activities, and to read books,  newspapers and watch television" according to the Guidelines.

In other words, from get-go, a debtor is not to be allowed to plan or provide for the retirement, to arrange for health cover, to build functional (as opposed to token) precautionary savings, or to have incentives to better their lives. 

Presumably, Irish social inclusion does not provide an allowance for dental care either. At EUR5 per week in allowed savings, a debtor would have to wait around 140 weeks in agonising pain before they can get a tooth cap. Children braces will take as much if not longer. And you better not dare go to a doctor more than once every two months during your dental affordability waiting period.

Now, let's give it a thought - we are releasing households with children into the wilderness of living without providing a single cent for uncovered (beyond those stipulated by the guidelines) eventualities - e.g. dental emergency or a breakdown of the sole family vehicle. And we give them no capacity to acquire such means by working harder or undertaking different jobs which pay more.

When it comes to access to car, the guidelines do not distinguish between the need to commute to work and to commute to deliver children to schools or childcare facilities. The guidelines also appear to ignore the fact that shopping for a family is not the same as shopping for a single individual when it comes to transportation options allowed. There are no provisions for households that may require two cars. There are no realistic provision for caring for the old-banger vehicle that Guidelines allow for and which cost more in repairs than newer vehicles which the households will be forced to sell.

The real flaw in this approach is that we start from the point of allowed disposable income and work our way back to earned income. This means that a household has absolutely no incentive to earn more, no allowance is provided for them to take up risk and become entrepreneurs, no capacity to fund change in employment. 

This is precisely what wage slavery is all about. And we are now putting people into it.

The Guidelines talk vaguely about the need to incetivise households to engage in economic activity, yet provide a cap on savings of EUR5 per week per adult. None allowed per child. 

In other words, suppose you satisfy the conditions of the Guidelines and you get a new job paying an extra EUR50 per week. You cannot save anything out of this, which means all of the additional income immediately accrues to the banks.

Now, imagine that a new job offer comes with the prospect of better pension down the line, greater promotional opportunities, better life satisfaction and other benefits you might want to have and that can significantly improve your and your family wellbeing, not to mention the economy. Alas, also assume that the new job requires you to commute to work by car while prior to that - with your old job - the Guidelines allowed only for public transportation option. You have no savings to buy the car and no access to new credit. Which means that you will either have to turn down the new job (at a loss to you, employer, the bank and the economy) or to borrower on terms and conditions from the bank with which you have arrangements in place (at a loss to you, as you can't keep the upside of the new job pay). 

This is like taking slave labour and forcing it to consume bank-provided services at prices set by the bank. In the 19th century this was the practice with monopsonist employers and it led to industrial unrest on a massive scale and even revolutions. Welcome to the New Ireland, folks.

Thus, even in theory, the Guidelines are not consistent with one of their intended purposes - that of supporting economic activity and participation in this activity by the households.

In a summary: From the beginning of this crisis I have argued that we need to import UK insolvency regime into Ireland, so as  to allow effective and efficient bankruptcy resolution. 

What we have done instead is put forward a modern-day, democratically legislated slavery in the name of protecting our banks and created an incentive for tens of thousands to convert current bankruptcy tourism into a permanent bankruptcy emigration. 

Welcome to the 21st century model of a Dickensian nightmare grafted onto, as Namawinelake puts it perfectly world's most exemplary Nanny State.


Updated:
Two excellent posts on the Guidelines that are a must read:

Brian Lucey's: http://brianmlucey.wordpress.com/2013/04/18/pettifogging-nanny-state-gone-mad/

and

Namawinelake's: http://namawinelake.wordpress.com/2013/04/18/hey-world-if-you-want-to-see-what-a-true-nanny-state-looks-like-look-at-what-ireland-has-just-done/

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...