Economics 07/04/2010: Another lesson from Greece

The lessons for Ireland from Greece are just keep on coming. In the weeks when the Irish Government is engaging in talks with the Unions concerning the reversal of budgetary reductions passed in Budget 2010, the Greeks are offering a somber reminder of what happens to the countries with runaway public finances.

The most important news in the last week or so was the renewal of the upward crawl in the spread of Greek bonds over German bund. The spreads have jumped from about 300bps to 400bps with Greek 10-year bond yields hitting a high of 7.161%.

Let us put this number into perspective. Irish Government currently is borrowing at around 4.6% per annum. This means that annually we are paying €46 million interest bill per each €1 billion borrowed. Through 2015, the total cumulative and compounded Irish Government cost of borrowing will equal, therefore, to €309.8 million per each €1 billion borrowed.

Now, were we borrowing at Greek rates, the same bill would be €514 million or 66% higher than current. Taking official projections for deficit, this means that at Greek rates of recklessness, Ireland Inc would be facing a deficit financing cost of €18.3 billion, as opposed to the current projected cost of €11.2 billion.

Short term borrowing would also be a problem, with Greek 2-year bonds yields jumping up by more than 1.2% to 6.48% overnight last – a record for any sovereign country.

Now, of course the Greeks are a basket case. Latest Eurostat revisions of its budgetary data show that actual deficit reached 13% of GDP in 2009. But Ireland is a close second here – with our deficit as a fraction of our real economy (GNP) being bang on with the Greek latest revisions. Worse than that, Greek economy has shrunk only by about 1/5 of the decline experienced by Ireland.

If you think that Greek rates extreme moves are a temporary blip on the market radar, think again. Greeks are preparing a Yankee bond offer in the US, and per Bloomberg reports, the markets are expecting pricing in the region of 7.25% yield for 10 year paper, or 410bps premium on the German bunds. Per Bloomberg report, Greek yields are now consistent with corporate junk bond yields.

And in a final note to the Unions here at home, Les Echos Jacques Delpla makes a very strong point that based on Fisher’s theory of debt deflation, it is a mountain of private debt, not public debt, that implies PIIGS are even in more deep trouble than the bond markets might suggest. Wage inflation (in real terms outpacing economic growth) and private debt increases (also in excess of real growth in the economy) during the boom times are now inducing a deleveraging withdrawal of consumers and investors from PIIGS. In the end, this is a much greater threat than the Exchequer deleveraging.

Good luck to all our Bearded Keynesians (or shall me say ‘Marxists’, for I doubt Keynes would have favoured an idea of piling up more Exchequer liabilities when deficits are running in double digits).

Economics 29/03/2010: PS productivity deal will cost us all

Per latest reports on the talks with the Unions, it now appears that the Government will yield on the Budget 2010 pay cuts and accept a premise that our vast structural deficit can be corrected through a long-term change in work practices in the public sector.

This position represents a drastic reversal of the attempted correction of the structural deficit and has the following long-run implications for Ireland:

1. Since productivity gains do not address the issue of reducing actual spend in the public sector, the entire burden of correcting the structural deficit can be expected to fall on the shoulders of the taxpayers;
2. If the deal commits the Government to no future cuts in public spending in Budgets 2011-2013, the deal will mean that the entire €13-14 billion in Budget adjustments needed before 2014 will have to be carried by the Irish taxpayers. This means taxes will have to rise by a massive €13,000 per annum per current tax payer - a move that would trigger a meltdown in the economy;
   
3. Since higher earning taxpayers are already paying more than half of the income tax bill, the new taxes will have to disproportionately impact lower middle classes, thus in effect inflicting pain on the very workers whom the unions are allegedly aiming to protect;
4. Since the structural deficit will remain unaddressed, Ireland will not reach 3% deficit target by 2014, or for that matter by 2020, implying that we will be facing excruciatingly high cost of borrowing through the next 10 years or so, a cost, once again to be carried by our middle and lower-middle classes.

Using a simple prisoners' dilemma game, one can easily show that the Government currently has all the incentives to run the economy deeper into depression. Such a move will ensure that the poisoned chalice the current Government passes to the opposition will be even more toxic, thus giving Fianna Fail stronger chances of election victory in the next 5 years.

In other words, if the Government does indeed sign up to the unions'-conjured 'plan' for 'efficiency'-exit from the deficit, it will be implicitly acting to derail any hope of a fiscal and economic recovery, while optimising its own political objectives.



PS: For all those who are keen on accusing me of being anti-Fianna Fail: nothing I write is designed to attack any political party in general or its members in totality. There are plenty of very good people in FF, and some of my friends are members of the party. There some competent, well-meaning and experienced members of the Government. Sometimes I disagree with them on policies, sometimes on ideologies, sometimes we agree. I express these views in public and privately. I always prefer an open debate.

The collective actions of the current Government, in my view, deserve very severe criticism. And that criticism I tend to provide: not behind the back, but in the open, publicly accessible fora.