04/06/2011: The 'Confidence' trick?

Updated below: In the update below I address one particular point raised by some readers of this blog relating to PMIs and my analysis of these.


As promised in the earlier post, for the fans of the 'If only we were confident in Ireland' school of economic thinking... The school of thought, also known as the 'Green Jerseys', maintains that if confidence is high, then growth and employment will follow, so to get Ireland out of the crisis, positive thinking is needed.

Let's take a look at the data.

Keep in mind that we only have data for the period of May 2000-present and only for Services sector. Of course, Services is the largest sector in the Irish economy and it is more labour intensive, so the conclusions drawn from these observations should be expected to remain broadly valid for Manufacturing as well.

If the 'Confidence' thesis holds, we should expect some strong relationship between Confidence reading in PMIs and employment sub-index of the very same PMIs as well as PMIs main index which captures activity. This relationship might be subject to lags, of course, as Confidence sub-index is self-assessment of the future some 12-mo in advance, while Employment sub-index reflects current staffing levels, and the core PMI reflects current activity. Now, keep in mind that the 12-mo in advance expectations is for a continuum, not spot, in other words, growing confidence means expectations for improving business over the 12 months horizon.

First, consider whether there is a coincident relationship between Confidence and PMIs and Employment sub-indices:
Yes, there is a strong positive relationship between expansion signaling readings of confidence today the future and current levels of economic activity as measured by employment and PMIs. In other words, things tend to be optimistic (pessimistic) when PMIs are booming (shrinking) and employment is rising (falling).

Sounds like the 'Confidence' theory working? Not really - what's happening here is that when things are great, we expect them to stay great, on average. Alternatively, when things are bad, we expect them to stay bad for some time ahead. Which, of course is consistent with the fact that data we have covers 2000-present - two periods of pretty much persistent boom and then bust.

So let's take a look at change from month to month.

• Does change in confidence imply change in current PMIs and employment? (If the 'Confidence' theory is right - it should, as future expected changes in activity should have a positive growth effect on current activity)
• Does change in confidence today imply a change in future PMIs and employment? (If the theory is correct, then it should, with some lag kick in in terms of positive real outcomes)

Sorry, but it appears that a change to higher Confidence in the future in any given month relative to previous month has virtually no relation to either present or future Employment changes or future PMIs. It has a tiny positive connection to present PMIs, however, but barely enough to be called 'significant' from statistical point of view. In other words, we might get all giddy chirpy about the great future we have, and yet it will be unlikely (highly unlikely) - according to the PMIs data - to translate into significant gains in either services activities or employment, neither today, nor in the near future (I tested longer lags up to 12mo and the results do not change by much).

This of course does not mean that positive sentiment is not a good thing for the economy. If positive sentiment is backed by something more tangible - reforms, improved exports, growth in consumer or investor confidence - some real productive fundamentals, then of course it will matter. But that is not the 'Confidence' theory. The 'Confidence' theory says 'negativity hurts economy'. No, folks - it doesn't. You can't talk yourself into a recession. And the 'Confidence' theory claims that if we get 'positive' about the future, things will improve (presumably improve significantly, otherwise, what's the point). This is not what the data is showing.

So what's going on, then? We know that Confidence is associated with performance, but we also now know that at least in Ireland, over the period looked at, changes in confidence are not associated with changes in performance either today or in the future.

Of course, Ireland is a small open economy. Which means it is volatile and is subject to constantly shifting external 'winds' of change. May it be the case that 'Confidence' theory doesn't work in Ireland because our real economy is subject to external forces and shocks? Ok, let's test this proposition. Let's control for contemporaneous backlog of orders, leaving only that component of Confidence that is not influenced by these backlogs. In other words, let's consider that part of our self-assessed optimism (pessimism) that is unrelated to the actual observed increases in new orders (decline in these orders). Furthermore, let's slightly smooth the series tor educe volatility by using a 2mo moving average on all variables.
An interesting result above. The link between confidence and contemporaneous PMI and Employment is now virtually gone (compare the results with Chart 1 above), which exactly supports my conclusions made following Chart 1. What matters to the turning of the economy, folks, is the real economic activity - rising backlogs, new orders, new export orders. What doesn't matter much at all, it appears, is 'Confidence'. So, please, go on, feel great - it might improve your smile, your utility, your view on life - all of which are great results. But don't hold much hope that it will improve the economy and reduce unemployment.

In the end, to achieve these two objectives, we need new businesses to be created, new markets to be accessed, new products and services to be developed and marketed, and so on, and new reforms implemented. Unfortunately, the 'Confidence' theory can lead us into complacency of avoiding making hard choice to have such reforms, to support our entrepreneurs, our companies and workers.

Ignoring the rain might make getting wet tolerable or even fun, but it won't make you any less soaked.

Update: Some websites contain references to these series of posts on PMIs. In particular, there is an occasional refrain to my view that (1) I would prefer seeing strong (above 60) readings in some sub-indices, and (2) my insistence that an 'improvement' in the sub-index reading from a number below 50 to another, higher number below 50 is not an improvement. Let me explain my views on these 2 points.

1. Readings above 60 are rare, that is true. But PMIs refer to comparative/relative performance metrics. Now, real recovery is not, I repeat - not - associated with growth returning to a long-term trend, but growth overshooting long-term trend as economy goes from negative growth (contraction) to expansion. Thus, for example in the Services series, near-recession of 2001 is returned to growth by PMIs reaching for 60.8 by April 2002. In Manufacturing series contraction in October 2001 to 46.1 is returned to growth with June 2002 reading of 54.5 (so -3.1 from 50 to +4.5 - a ratio of 1.45), contraction of July 2003 (45.8) is returned to growth with a peak of 55.2 in June 2004 (-4.2 to +5.2 - a ratio of 1.24). Now, bottom of the latest contraction was at 32.6 which should be consistent - if we take the above two episodes averages (ratio of 1.35) - with a rise to above 67. We've gone up to 62 in March 2010, but we have not seen this translate into overall economic growth. Hence, my preference would be to see more episodes of 60+ readings in PMIs. Either way, all of the episodes we have on the record so far are episodes relating to either 'near recessions' or temporary declines in the series not associated with a recession at all. Except for the current crisis, that is. O course, this 60 is not a 'hard' target. Read carefully what I said (here): "Either way, of course, I'd rather see PMIs at above 60 reading, than heading for a downward territory". This is a statement of 'truism' - as in: I'd rather see things improve than get worse. Sadly, some anonymous commentators on some of the forums out there are not getting even this simple concept...
2. When the series read below 50, the series show contraction. Thus, for example, a reading of 44 in one month followed by a reading of 46 in the next month does not mean that economy has improved from month to month. It means that the economy has deteriorated at a slower rate. If you are familiar with compounded effects of recessions (expansions), you would know that having a loss of 10% in month 1 followed by a 5% decline in the other month implies a cumulative decline of 14.5%. An improvement would be if following a 10% drop in on month, economy grows by, say, even 1% in the next month, thereby reducing the original decline to a cumulative decline of 9.1%. Let me quote Brad DeLong on this: "Getting worse more slowly is not the same as getting better".

04/06/11: Services PMIs - detailed breakdown

The last post on latest PMIs - this time detailed breakdown of Services data. In previous post I have covered:

• Manufacturing PMIs
• Manufacturing and Services PMIs - showing relationships between Employment and PMIs (the 'Jobless Recovery' slowing down story, as well as between Exports New Orders and Employment, showing that probability of having a jobless 'growth' through exports is over 40% for both Services and Manufacturing)

So no on to detailed Services PMIs analysis.

Headline numbers:

• Overall Business Activity has improved marginally to 50.5 in May from 50.2 in April. Both readings fall within the area above 50 which signals extremely weak expansion. Since 2000, Services PMI standard deviation was 7.966, and since 2008 - the beginning of the crisis it stands at 6.839. The latest move puts Services PMI at a level below both the 12mo average of 51.9 and the 3mo average of 50.6. Previous 3mo average was 52.1, while 2010 annual average was 51.
• New Business activity index stands at 48.2 in May, down significantly on 50.6 reading in April and crossing into a full contraction territory, breaking three consecutive months of signaling extremely modest gains. 12mo average stands at 50.3 and 3mo average stands at 50.2, but what is even more disappointing is that the latest monthly reading falls below the already poor index reading for the 3 months of December 2010-February 2011 which were adversely impacted by the inclement weather.

• There's been a clear (although volatile) side-ways flat trend around zero growth in Services New Business activity for some time now - from about the beginning (Feb-Mar) 2010. And it is not changing so far.
• Next, consider prices - the signal of profit margins. These were discussed in an earlier post and I produced a new sub-index using NCB PMIs data for Services and Manufacturing profit margins conditions (see the third chart in here).
  
• Output prices have posted deeper deflation in May, falling to 43.9 from April's already deflationary 45.4. Overall, this marks 34th consecutive month of deflation in output prices.
• Meanwhile, input price inflation has moderated slightly from 55.7 in April to 54.7 in May. This marks 6th consecutive month of continued inflation in terms of inputs costs.
• It is worth noting that the traditional metrics of 'competitiveness', based on unit labour costs fail to account for the non-labour inputs costs, thus missing the full picture of declining competitiveness in the Irish economy. My index (referenced above and shown here) clearly indicates that in terms of inputs costs relative to output prices competitiveness Irish economy has been trading at zero net improvement for both sub-sectors over the entire period since September 2002.

• Employment sub-index in Services sector has posted significant deterioration in May, falling to 48.1 from 51.1 in April. April above 50 reading was the first one since February 2008 and this glimmer of hope was now firmly erased by the latest data.
• For the fans of the 'If only we were confident in Ireland' school of economic thinking, Service PMIs show the fallacy of groundless hopes. Irish businesses in the Services Sector were showing high levels of confidence (in excess of 55 and most in the 60s) since August 2009. Every month after month. They still do - May reading of 62.3 was extremely robust, although down on 66.6 in April. Oh, yes, folks - 12mo average for Confidence is now at a blistering 64.8, matched by 3mo average through May and virtually identical to 3mo average for December 2010-February 2011 64.7. 2010 March-May average was 66.7. So does Confidence translate into growth? Or does Confidence translate in jobs? I will examine this in a separate blog post below.
• Lastly - New Export Business slipped marginally from 54.6 in April to 54.4 in May. Moderate growth continues in the exports territory - the only solidly good news over the last 5 months on Services side.
  

03/06/2011: Services and Manufacturing PMIs signal a slowdown

A quick post on some additional analysis of the PMIs released this week. Combining Services and Manufacturing PMIs.

As noted in the previous post, Manufacturing PMIs have posted weakening performance, declining to 51.8 in May from 56 in April and falling below 12mo and 3mo averages. Detailed analysis of Services PMIs is to follow in the next post, but the headline figure showed a marginal improvement to 50.5 from 50.2 in May, also below 12mo and 3mo averages.
Thus, as the chart above shows, both Manufacturing and Services PMIs reflect extremely slow rates of expansion. This is reflected in employment data:
Employment sub-index has now fallen to 48.1 from 51.1 in April for Services, which means that employment is now set to contract in the sector. At 48.1, employment sub-index in Services stands below 12mo, 3mo average, 3mo to May 2010 average and relative to 2010. Employment in manufacturing is also now in the contraction territory with a reading of 49.9 in May, down from 54.0 in April. 3mo average and 12mo average both were above 50.

Using PMI data, I computed my own index of profitability or index of profit margins based on the sub-indices for prices of inputs and outputs. Chart below illustrates:
What is clear from the above chart is that deflation of final output prices is being contrasted by slightly moderating inflation in the input prices, which in turn means that both sectors of the economy are continuing to operate in the environment of shrinking profit margins. This cannot be good. Also note that in the last 2 months, the rate of decline in profit margins is the third fastest for Services and fourth fastest for manufacturing since September 2002.

In longer-term outlook, we are clearly regressing relative to January 2011 in both Services and Manufacturing:
We are also operating in the environment of very weak recovery and continued growth in unemployment.

Lastly, lets look at some relationships between unemployment and exports orders. Remember the idea of exports-led recoveries?
Well, couple of things can be noted from the chart above. Firstly, as expected, there is a stronger relationship between stronger exports orders growth and jobs creation in the Services sector than in Manufacturing. This explains why we had months of booming PMIs on Manufacturing side and no serious new jobs creation. Second thing to note: historically (the data is since 1998 for Manufacturing and 2002 for Services), there is a 40.3% chance on Manufacturing side that an expansion in Exports orders is going to be associated with contraction in employment (a Jobless Recovery scenario). For Services sector this probability is 43%.

03/05/11: Exchequer receipts for May

Exchequer returns for May are in and the results are pretty much in line with everyone's expectations. On the surface things are improving, but in reality, our fiscal problems are not going away.

Here's the analysis of receipts (analysis of expenditure will follow in a separate post):

• Income tax receipts came in at €5.061bn inclusive of the USC, which is 9.2% above 2009 levels and 19.93% above 2010 level. How much of this is due to USC and how much was substituted away from other sources of revenue, such as health levies etc.

• VAT receipts offer a more direct comparative - VAT receipts stood at €4.867bn in May 2011 slightly down on €4.873bn a year ago.
• Corporate tax receipts - another gauge of economic activity, this time dominated by MNCs - are down: May 2011 level was €599mln, as opposed to €748mln a year ago. Thus Corporate tax receipts are down 19.92% on 2010 and 47.41% on 2009. For comparative purpose, May 2008 receipts were €1.357bn - more than double 2011 levels, while 2007 receipts were €1.484bn.
  

• Excise tax receipts came in at €1.791bn in May, slightly up on May 2010 when they reached €1.704bn, the variation of 5.1% yoy, the receipts are also up on May 2009 - by 2.11%.
• Stamps continue unabated decline - down to €235mln in May 2011 or 3.69% yoy and 20.07% on 2009. To put things into perspective, May 2007 stamps were €1.438bn.

• Capital taxes are really taking a serious dive. CGT is down 25.23% year on year and 56.09% on 2009, reaching just €83mln in May 2011. CAT is down 66.09% yoy and 63.21% on 2009 at €39mln in May 2011. Combined CGT and CAT stood at €1.168bn in May 2007, €744mln in May 2008, €295mln in May 2009, €226mln in May 2010 and €122mln in May 2011. Ouch - that global capex boom of 2010 has clearly passed Ireland untouched and this can only mean one thing - we are into the 4th year of collapsed investment now.
• Lastly, customs duties stood at €98mln in May, 18.1% up yoy

• Total tax receipts, therefore, came in at €12.795bn in 5 months through May 2011. This is 5.6% above the level of tax receipts for the same period of 2010 and 5.43% below 2009.
  

• The Exchequer deficit for the five months through May 2011 now stands at €10.231bn inclusive of €3.060bn promisory notes capital injections to INBS and Anglo in March. May 2010 deficit was €7.867bn (ex-banks) and 2009 deficit for the period was €10.588bn.
  

So on the net, tax receipts suggest to me that economic activity has stalled. All comparable tax heads across years relating to economic growth - corporate tax, VAT, capital taxes - are performing either in line with 2010 or below. The only significant increases in tax heads are where new taxes were implemented and some of these are in effect transfers from non-tax receipts side, implying that increase in tax receipts via USC, for example, includes transfer of health levy which has an effect of increasing expenditure side.

02/06/11: Manufacturing PMIs

A quick run through yesterday's PMIs for Irish manufacturing sector, released by NCB. A more detailed analysis will follow when Services PMIs are released.

As you have heard by now, May manufacturing PMIs have shown some surprising (to some) weaknesses. Here are the headline numbers:

• PMIs headline reading is now 51.8 down from 56 a month ago. Year ago, the same reading stood at 54.1. 12-mo average is 52.8 and latest 3mo average is 54.5. Hence, the slowdown in growth is quite pronounced indeed.
• Output index reading stands at 52.6 in May, down from 58.7 in April. 12-mo average is at 54.4 and over the last 3 mo average reading was 56.4. Again, strong slowdown in growth.
• New orders index declined from 57.3 in April to 52.9 in May and now stands below 12mo average of 53.6 and well below 3mo average of 56.0. Compared with the same period in 2010, the index has fallen 2.5 points, but it still significantly above the disastrous 37.7 reading for May 2009.
• New Export Orders index has declined marginally to 58.7 in May, from April's 59. Export Orders index is still above 56.3 12-mo average, but below 3mo average of 59. The index ia also lower than the reading attained in May 2010 - 59.5.
• Employment sub-index posted a strong decline from 54.0 in April to 49.9 in May, crossing back into negative growth territory for the first time since November 2010.

Charts to illustrate:


Quick note on interpretations of PMIs for Ireland. Overall, historically, Irish PMIs are highly volatile series. For example, for core PMIs:

• Full sample (1998-present) standard deviation is 4.667
  
• Since 2000, standard deviation is 4.619, and
• Since 2008 (crisis period) standard deviation is a massive 6.17

A similar picture applies to employment series (and indeed all other sub-components of the PMIs):

• Full sample (1998-present) standard deviation for Employment sub-index is 4.787
• Since 2000, standard deviation is 4.558, and
• Since 2008 (crisis period) standard deviation is a stronger 5.778
  

In terms of the rates of change mom:

• PMIs for Manufacturing dropped 4.2 points mom in May
• 1STDEV for full sample is 1.5 points
• 1STDEV for the sub-sample since 2000 is 1.574 points and
• 1STDEV for the sub-sample since 2008 is 2.289

So May change does seem to be signifcant. On the other hand, Manufacturing PMIs crossed the 50 points line into growth territory back in March 2010 and remained there with exception for September 2010. Yet, the economy didn't really show much of a turnaround. May be, just may be, that hope of an exports-led recovery is not as powerful as the Government thinks it is?

Either way, of course, I'd rather see PMIs at above 60 reading, than heading for a downward territory.

02/06/2011: Latest shenanigans at the banks

Two junior bondholders in Allied Irish Banks - Aurelius Capital Management and Abadi Co – are taking the Irish government to court today over the AIB plans to impose burden-sharing on some bondholders in failed banks. Aurelius is a distressed debt investment vehicle which also holds debt of Dubai World so it should be well familiar with the case of haircuts.

These are not investors who bought Irish banks bonds at their full value, but those who pick up distressed debt at a significant discount. However, it is their right to maximize their returns on such investments.

Let us recall that AIB is the sickest of the 4 banks reviewed under the original PCARs back on March 31 this year. Under the stress tests, AIB is expected to lose €3.07bn on Residential Mortgages (all figures refer to stress scenario, 3-year time frame), €972mln on Corporate loans, €2.67bn on SMEs loans, €4.49bn on Commercial Real Estate loans and €1.4bn on Non-mortgage Consumer loans and Other loans. The grand total expected 2011-2013 losses under stressed scenario is €12.6bn or almost ½ of the total expected stress scenario losses across IRL-4 banks of €27.72bn.

Of the €24bn capital buffer for IRL-4 required by the Central Bank PCAR exercise, full €13.3bn is accounted for by AIB.

Which implies that AIB – accounting for just €93.7bn of the €273.94bn of loans held by the IRL-4 at the time of PCARs (just over 34.2% of the total loans of IRL-4) is responsible for over 55.4% of overall capital demands. It is, by a mile, the worst performing bank of IRL-4... Really, folks, 'Be with AIB' as their old commercials would say.

So in the case of AIB, Finance Minister Michael Noonan – the majority shareholder in AIB – is now attempting to impose losses of between 75 and 90 percent on €2.6bn of the bank’s subordinated debt. This means that the bond-holders are expected to contribute just 15-16% of the total cost of the latest bank recapitalization programme. This, of course, is a drop in a sea of pain already levied against Irish taxpayers.

The problem in Ireland is that the so-called subordinated liabilities orders (SLO), which the government is using to force a deal on bondholders is untested in law. Bondholders can claim priority over shareholders in the event of insolvency. But the banks are now existing solely on government life-support. Although they are complete zombies, they are not technically insolvent. This in turn means their equity retains some – if only tiny – value. The Irish Government in the case of AIB driving bondholders’ haircuts can be seen as the means for improving that value to the shareholder at the expense of bondholders, since equity will benefit from lower debt and changes in the capital structure.

In the case of AIB this means two possible things:

• If the court finds in favour of Aurelius and Abadi, the deal is off the table or will be more expensive to execute (lower haircuts), which will in turn imply greater demand on taxpayers to step in. Of course, this also means the Gov in effect destroying a large portion of its own shares value.
• If the court rules in favour of the Gov, the deal is on and we have a precedent for aggressive burden sharing. This, however, will only benefit the majority state-owned banks, i.e. Anglo, INBS, EBS and AIB, and only with respect to savings on subordinated debt.
  

The problem is in the timing of this burden sharing – the previous Gov insistence on paying on bonds in full means that we, the taxpayers, are now on the hook for losses on our shares in the banks via dilution. You don’t have to go far to see what happens here. Just look at Bank of Ireland (below).

Normal process of banks workout should have been:

• Step 1 – Impose losses on shareholders, while preserving depositors by ring-fencing them via specific legislation to remove equivalent status between senior bondholders and depositors. Such legislation can be enacted on the grounds that depositors are not lenders to the activities of the banks, but are clients of the banks for the purpose of safe-keeping of their money. It is also justified from the point of view of finance, as depositors are being paid much lower rates of return on their money, implying lower risk premium
• Step 2 – Impose losses on bondholders via a combination of robust haircuts and debt-for-equity swaps, but only after depositors are protected
• Step 3 – For any amounts of capital still outstanding per writedowns requirements, the Government can then take equity positions in the banks.

This sequence of actions would have prevented depositors runs and repeated taxpayer equity dilutions. It would also have given the Government a mandate to take over and reform failed banks.

By doing everything backwards, we are now in a veritable mess. This mess was not caused by the current Government – it is the toxic legacy of the previous Government which made gross errors in managing the whole banking crisis. This mess is extremely hard to unwind and my sympathies go here to Minister Noonan who is at the very least trying to do something right after years of spoofing and wasting taxpayers money by his predecessor.

Note: The Government is aiming to cut around €5bn from the total bill for bailing out Irish-6 banks. Imposing losses of up to 90 percent on junior bonds in AIB, Bank of Ireland, Irish Life & Permanent and EBS Building Society is on the cards:

• IL&P said it would offer 20cents on the euro for €840m of debt
• EBS wants to pay 10c to 20c on the euro for around €260m of subordinated bonds
• Bank of Ireland is pushing up to 90% discount on €2.6 billion worth of subordinated debt. Bank of Ireland said it would offer holders of Tier 1 securities just 10 percent of the face value of their original investment, and holders of Tier 2 securities 20 percent.

It is revealing, perhaps, of the state of our nation’s policy making that over a year ago myself, Brian Lucey, Peter Mathews, David McWilliams and a small number of other commentators suggested 80-90% haircuts for subordinated bondholders. We were, of course, promptly attacked as ‘reckless’, ‘irresponsible’ and ‘naïve’. Yet, doing this back then would have netted taxpayers savings of more than double the amount hoped for today.

And this is before the savings that could have been generated from avoiding painful dilution of equity holdings acquired by the Government in Irish banks. How painful? Look no further than the unfolding Bank of Ireland saga.

Bank of Ireland's lower Tier 2 paper is trading at 37-40 cents on the euro post-announcement of the after the announcement that T2 will be offered an 80 percent discount alongside with a ‘more attractive’ debt-for-equity swap. Tier 1 paper holders are offered 10 cents on the euro cash ex-accrued interest. Shares swap will factor in accrued interest to sweeten the deal. The debt-equity swap is so powerful of a promise that BofI shares have all but collapsed over the last few days losing over 62% of their already minuscule value. Of course, with Government holding 39% of equity pre-swap, the taxpayers have suffered the same loss as the ordinary shareholders, all courtesy of perverse timing of equity injections by the previous Government.

And there’s more. Even if successful in applying haircuts and swaps to junior bondholders, Bank of Ireland will still need to raise additional €1.6bn from either new investors or existent shareholders (including the Government). Which means even more dilution is to come.

02/06/11: Central Bank Monthly Stats - IRL 6

This is the second post of two covering Central Bank stats for April 2011. The first post (here) focused on Domestic Group of banks. This post deals with Covered Institutions (the IRL-6 banks that are on a life support from the Government).

First up - central bank and ECB lending to banks was broken down into:

• Other assets held by the CBofI - aka lending by CBofI itself to Irish banks - declined from €66.7bn in March to €54.15bn, this mans that mom lending by CBofI fell €12.64bn (-18.93%) and year on year it is now up €40.5bn (+296.8%)
• Borrowing from the Eurosystem (ECB) declined from €79.22bn to €74.23bn - a drop of €4.985bn mom or 6.29%. Relative to April 2010, borrowing increased €38.31bn which almost exactly off-sets increases in CBofI lending, suggesting a transfer of risk from ECB to CBofI
• Total loans to Irish 6 from Euro system and CBofI amounted to €128.4bn in April 2011 down €17.63bn mom (-12.1%). Relative to April 2010, loans increased €78.81bn or 159%.
  

On deposits side:

• Total deposits in IRL 6 have increased from €224.17bn in March to €235.2bn in April an increase of 4.93% mom. Relative to April 2010, deposits are still down €14.07bn or 5.65%
• However, the main driver for these increases were deposits from the Irish Government. Government deposits rose €12.743bn in April (+148.4%) mom and are up €18.566bn (+671.5%) year on year - the very same €18 billion mentioned in the first post.
• Private sector deposits also increased, 1.81% or €1.93bn mom, but remain €20.92bn on April 2010 (-16.2%)
• Monetary institutions deposits dropped €3.63bn mom (-3.32%) and €11.72bn (-9.98%) yoy
  

On lending side:

• Loans to Irish residents fell €6.97bn (-2.2%) mom to €314.14bn. Loans stood at €27.97bn below April 2010 (a decline of 8.18% yoy)
• Loans to General Government were marginally up €47mln to €28.3bn, which means that IRL 6 are the dominant players in lending to Irish Government (as asserted in the previous post)
• Loans to other Monetary Institutions werte down €4.05bn mom (-375%) and
• Loans to Private Sector fell additional €2.97bn (-1.61%) mom and €33.633bn (-15.62%) yoy to €181.71bn.

Lastly, loans to deposits ratios:

• LTDs for all IRL 6 institutions improved by 10 percentage points to 133.56% in April 2011, which represents a decline of 4 percentage points yoy
• LTDs for Private Sector lending fell 6 percentage points in April to 167.9%, an increase of 1 percentage point on April 2010.

In other words, deleveraging over the last 12 months has been led by Government and other financial isntitutions activities, not by private sector pay-down of debt to deposits ratios.

02/06/2011: Central Bank Monthly Stats - Domestic Group

Ok, folks, with some brief delay due to computational complexities - here are charts on Irish banking sector health. These are aggregates from the CBofI monthly stats for April 2011.

This release is broken into 2 post. The first post deals with Domestic Group of banks (see note Credit Institutions Resident in the Republic of Ireland). The second post will deal with Ireland-6 Zombies... err... banks that is known as Guaranteed or Covered Institutions.

Headlines first:

• Total Private Sector Deposits are now at €164.9bn or €1.93bn up on April 2011 (+1.18%) and still €19.65bn down year on year (-10.64%)
• All of this increase is due to Overnight deposits which are up €2.09bn (+2.53%) mom and down just €1.52bn yoy
• Deposits with maturity <2 years declined to €54.94bn in April, down €57mln (0.1%) mom and €13.64bn (-19.9%) yoy
• Deposits with maturity >2 years rose €56mln (+0.52%) mom to €10.78bn, which still implies a decline of €1.71bn (-13.71%) yoy
• Deposits redeemable at notice <3 months were down €162mln (-1.1%) mom to €14.5bn and down €2.77bn (-16.05%) yoy

Chart to illustrate:
Now, take a look at total deposits by source:

Please note the above marking an increase in Government deposits as an important driver of deposits dynamics. Here are the details:

• Domestic Group institutions saw their total liabilities fall to €712.72bn in April - a decline of €10.22bn mom (-1.41%) or a drop of €65.18bn (-8.38%) yoy (see chart below)
  
• Deposits rose across the Domestic Group by €10.46bn mom (+3.7%) although they remain down €12.53bn (-9.63%) yoy
• Clearly, as chart above shows, the increase in deposits was due primarily to Government deposits with Irish banks (well flagged before by many other researchers, this is really a transfer game whereby the Government mandated transfer of some €18bn of its reserves to Irish banks, increasing the risk to these funds, but creating an artificial improvement in the banks balance sheets). Government deposits rose €12.781bn (+143.6%) mom in April and are now up - yes, you;ve guessed it - €18.52bn (+586.2%) yoy
• Another positive driver, albeit much smaller than Government, were Private Sector deposits, which rose €2.0bn (more accurately €1,999mln) or 1.32% mom, while still falling €21.85bn (-12.46%) short of April 2010 levels.
• Monetary Institutions deposits with Domestic Group banks were down €4.325bn (-3.54%) mom in April and down €12.534bn (-9.63%) yoy.

Now, consider loans to deposit ratios:

Thanks to Government deposits, the series are declining for overall Domestic Group:

• Overall LTDs fell 7 percentage points mom from 136.76% in March to 129.67% in April, yoy decline is 9 percentage points
• LTDs for Private Sector declined 4% mom to 155.15% in April, this was consistent with a 12 percentage points decline year on year.

Lastly, let's consider loans to Irish residents within the system:

• Overall loans to Irish residents fell from €386.3bn in March to €379.84bn in April a decline of 1.68% mom and 11.47% yoy
• Loans to Monetary Institutions declined by €3.31bn (-2.84%) mom and are down €11.23bn (-9.03%) yoy
• Loans to Government went up €45mln mom to €28.49bn (+0.16% mom and 150.75% yoy). Over the last 12 months Irish banks have revolved some €17.13bn worth of lending (bonds purchases) back to the State in what can only be described as a circular transfer of money from taxpayers underwriting banks to banks lending back to taxpayers to underwrite the banks
• Private Sector loans meanwhile declined €3.21bn (-1.33%) mom to €238.2bn. This means that over the last 12 months credit supply to private sector dropped a massive 18.8% or €55.09bn. Roughly 1/3 of the annual GDP has been sucked out of the real economy by the banking crisis within just 12 months.

Chart to illustrate:

29/05/11: Older workers and entrepreneurship

A good friend today raised an interesting question/issue - do older cohorts of workers offer entrepreneurship potential or is entrepreneurship a predominant domain for the younger cohorts?

There are several anecdotal or conventional ways of dealing with this question.

First, as Western populations age, even statistically the average age of entrepreneurs can be expected to increase. Second, the rapid rise of new technologies and new media suggest that younger generations now hold the key to future entrepreneurship. Third, again, as Western societies age and the age of statutory retirements is pushed back, entrepreneurship among older generations can be expected to rise for those who would tend to leave their workplace to start new business before the retirement, but decline for those who would normally start business after retirement.

Thus, despite conventional perceptions that all new entrepreneurs seem to be young ICT leaders, the economic reasoning would suggest that the answer to the question above can go both ways.

As far as evidence goes, US-based Ewing Marion Kauffman Foundation - a seasoned research think tank into entrepreneurship - recently (June 2009) published an intriguing study titled The Coming Entrepreneurship Boom, authored by Dane Stangler. The study is available here.

The main conclusions of the study are:

• Several facts have emerged in the course of Kauffman Foundation research that indicate the United States might be on the cusp of an entrepreneurship boom—not in spite of an aging population but because of it:
• As the economic recession plagues the job market, more and more "baby-boomers" are becoming entrepreneurs
• The decline of lifetime employment, the experience and knowledge of the age group, longer lifespan, and the effect of the current recession are all factors contributing to the increase in entrepreneurial activity in the baby boom generation
• Key findings: In every single year from 1996 to 2007, Americans between the ages of 55 and 64 had a higher rate of entrepreneurial activity than those aged 20-34, averaging a rate of entrepreneurial activity roughly one-third larger than their youngest counterparts
• The 20-34 age bracket has the lowest rate of entrepreneurial activity
• Long-term employment has fallen dramatically for people ages 35-64 over the past fifty years
  
• With longer life expectancies and greater health in later life, older generations may continue to start new firms—or mentor young entrepreneurs
• Since the first Internet-era recession, transaction costs and barriers to entry have fallen for entrepreneurs of every age
  
• The larger effects of the recession and economic trends—away from lifetime jobs and toward more new companies—will gain even greater cultural traction in favor of entrepreneurship by the older workers
  
• Emerging regulations aiming to prevent the rise of too-big-to-fail organizations also may help create a more market-oriented society. "We will see increasing numbers of new, smaller firms as they compete and cooperate; challenge incumbents; and, perhaps, rise and fall at faster rates", says the author.

This is a fascinating debate. Much of evidence suggests that even among immigrants to the US, entrepreneurship takes time to evolve, with the average tenure in the US for a non-US born entrepreneur being 13 years (see another study here). Again, this too suggests that older cohorts of workers represent significant pool of potential entrepreneurs.

Of course, one cannot make the same direct comparatives to the EU, where pension benefits are often much stronger, the market pricing of risks for entrepreneurs are much more distorted, returns to entrepreneurship are more restricted and overall culture of risk taking is less developed (except, as we have now learned, for the too-big-to-fail banks, of course).

29/05/11: Who's to be blamed?

Here's an interesting chart based on ECB data for lending rates charged on various types of loans:
What does this hart tell us? Several interesting things:

1. In so far as the euro area retail rates are linked to the ECB rates, it appears that the lenders were factoring in a positive risk premium on Irish companies for large loans and small loans alike 9as reflected by the positive premia on corporate lending of both types). throughout the 2003-2010 period, Irish companies borrowings were priced at a risk premium relative to the Euro area average.
   
2. This premium has declined (bizarrely) for larger loans (as the risk of borrowers rose during the crisis, the premium fell) and it rose for smaller loans (presumably the SME effect - with SMEs being more risky as borrowers in the crisis).
3. On the net, it is hard to make an iron-clad case that ECB was driving over-lending to Irish corporates, as these corporates did face a risk premium on their borrowings.
4. Where things really break down is in the housing mortgages lending. Here, there was and remains a deep discount on Euro area average when it comes to Irish lenders rates. Only during 2010 did this discount briefly turned to a premium. The trend is still on an increasing discount, which would be consistent with a lenders' perception that Irish house purchasers are lower risk than Euro area average. Which, of course , is a farce.
5. So the net result is that it is hard to make a real direct case that the ECB reckless interest rates policy was the sole or the main driver of Irish over-lending. Instead, the evidence suggests that it was our own lenders' (banks) enthusiasm for underpricing risk in housing finance that was at pay consistently before the crisis onset and since then.
   

28/05/11: A note on my appointment to GoldCore

As many of you have heard by now (see brief mention here) I have joined, in a non-executive capacity, the Investment Committee of GoldCore Ltd (link here).

In this capacity, I am looking forward to bringing additional expertise to the company's already rigorous and comprehensive internal processes designed to assure the quality and depth of market and product research, offered by GoldCore. In addition, I hope to be able to help the company in assuring that its core philosophy of well-diversified, client safety-focused, low cost/fee investing is consistently reflected in its research and structuring of its product offers.

Contrary to some erroneous assertions, I am not endorsing any products, nor providing any sort of investment advice. My independent opinions and views, supported by my best knowledge, error-prone sometimes, on-the-money on other occasions, will remain my own. I am stressing once again that this is a non-executive appointment.

I am on the record (in academic research and in applied analysis) in stating my views which, consistently over the years held that:
1) Diversification across asset classes (including, but not limited to precious metals) is the best risk management approach for all investors;
2) Diversification across various geographies and sectors of economies is the necessary risk management tool for structuring the investment portfolia that aim to simultaneously maximize returns and minimize risks;
3) Financial services providers should strive to deliver best suited products to their clients at a minimal possible cost to the clients;
4) Financial services should be offered on the fully legally compliant basis with all regulatory requirements and authorization requirements adhered to;
5) Regulation should strive to minimize unnecessary burden on those regulated and their clients, but provide meaningful, robust, transparent and unwavering enforcement of standards set. It should be effective, not maximal for the sake of being maximal.

If these principles are of value to some service providers in Ireland and abroad, I am happy to help. If not, I am not going to sacrifice them.

Several points worth making in relation to a couple of comments I have seen floated around:

Firstly, GoldCore provide a wide range of products as a part of their well-diversified investment offer. GoldCore philosophy is to deliver strong risk management ethos in products offered and to give investors a wide range of regulation-compliant investment products while minimising cost to investors and optimising risk-return tradeoffs inherent in any financial product.

All of the products that require regulatory approval and / or licensing offered by GoldCore are fully compliant with the Irish Financial Regulator requirements.

Secondly, the provision of precious metal product or service does not require licensing, authorisation, or registration with the Irish Central Bank and, as a result, it is not covered by the Irish Central Bank's requirements designed to protect consumers or by a statutory compensation scheme. In fact, physical purchases of commodities in general are not regulated by the Irish Central Bank, as confirmed by the Central Bank officer. This is the law of the land - no one offers investors 'Irish-regulated' sales of gold or other precious metals. Surely, no one sane enough would suggest that gold and other precious metals therefore should not be offered as an investment.

Client security in the case of precious metals investment is assured by the storage facilities where client assets are deposited. GoldCore works with the most secure storage facilities in Australia, Switzerland and the UK - as is required by the best industry-wide practices. In the current environment, these storage facilities have mechanisms to deliver security of client assets to the standards far in excess of the risk ratings attained by some European Governments, so while in the real world nothing is risk free, in my own humble opinion, and in the opinion of the majority of investors around the world, holding precious metals assets today may be safer than holding 'guaranteed' and 'regulated' government securities of some euro area Governments. (Note: please do not confuse this with an advice to buy gold at some price level or any given moment in time).

Thirdly, GoldCore are fully compliant with the Financial Regulator requirements set out for its operations. The company is listed on the Register of Investment Business Firms authorised under Section 10 of the Investment Intermediaries Act, 1995 (as amended) and Register of Investment Product Intermediaries maintained by the Central Bank of Ireland in accordance with Section 31(4) of the Investment Intermediaries Act, 1995 (as amended).

I am looking forward to working with GoldCore on providing the company with an independent, external 'sounding board' for ideas and new directions for research. GoldCore already have excellent research team and products in-house and my role is to help that team to strengthen its connections into cutting edge academic research that is being done around the world.

Note: the opinions expressed in this post are solely my own.

28/05/11: Retail sales for April 2011

As promised in the previous post, here's the analysis of retail sales for April 2011.

Headline figures:

• The volume of retail sales (i.e. excluding price effects - which in effect means excluding the revenue factor or margin factor for retail services providers) was down by 3.9% in April 2011 year on year (for the third month in a row).
  
• There was a monthly decrease of 0.8% for the first month after two consecutive months of increases (retail sales volume was up 3.1% in February and 0.8% in March with both increases attributed to the correction on big contractions in December 2010 (-1.5%) and January (-3.4%).
  
• Over the last 6 months, therefore, volume of retail sales was down cumulative 3.07%. since January 2008 the volume of retail sales has fallen total of 20.92%.
• The value of retail sales decreased by 3.5% in April 2011 year on year, marking a third consecutive month of annual decreases.
  
• There was a month-on-month decline of -0.7%. The wedge between value and volume decrease can be interpreted as being driven by inflation, suggesting modest inflation in retail sales sector. The monthly pattern of retail sales value is virtually identical to volume with April decrease coming after two months of moderate increases which compensated for the poor weather (and poor Christmas sales) in December-January.
• Over the last 6 months value of retail sales has declined by 2.56% held above the decline in volume index solely by rising prices. Since January 2008 Irish retail sector activity as measured by value of retail sales (turnover and margins being best reflected by this metric, rather than CSO-preferred volume index) has fallen by a cumulative of 26.1%.

Charts to illustrate:

• Excluding Motor Trades there was an annual decrease of 2.4% in the value of retail sales in April. This was the 34th consecutive month of annual decreases.
  
• Ex-Motors retail sales posted a monthly decrease of 0.3% in April, continuing up-down monthly cycle that started in August 2010.
• Over the last 6 months, value of ex-motor retail sales has increased by 0.1% and since January 2008 the value of core retail sales is down 18.3%.
  
• The data on value suggest that inflation is starting to pick up in core retail sales.
• Ex-Motors volume of retail sales fell a massive 5.0% yoy in April (again, supporting the assertion that the end of sales season saw price increases across core retail sales in 2011 relative to 2010, which means that with lower disposable incomes Irish consumers are now facing rising cost of living once again). This marked 12th consecutive month of volume decreases in annual terms.
  
• Month-on-month core retail sales were down 1.0% in April, after posting zero change in March and contracting 0.3% in February.
• Over the last six months, core retail sales volumes have declined by 2.16% and since January 2008 they are down 14.25%.
  

Charts to illustrate:
Sources of core declines were:

• In terms of volume: Fuel (-11.9), Pharmaceuticals Medical and Cosmetic Articles (-7.4%) and Furniture & Lighting (-16.2%) were among the ten categories that posted year-on-year decreases in the volume of sales in April. Books, newspapers & stationery fell 14.9%, Bars -6.0%, Food, beverages & tobacco were down 5.7%.
  
• In terms of value: largest annual declines were posted in Food, beverages & tobacco (-5.2%), Pharmaceuticals Medical & Cosmetic Articles (-6.2%), Furniture and Lighting (-19%), Electrical Goods (-8.5%), Books, Newspapers and Stationery (-14.4%), and Bars (-4.7%).
• The list of heaviest-hit sub-categories of retail sales in annual terms suggests that these might signal renewed push for shopping in Northern Ireland. In particular, large ticket items and higher cost items might be now more efficiently purchased outside ROI given the strength of the Euro. Another possibility might be continued drive by consumers into on-line sales channels which come from outside Ireland.
  

Lastly, some anecdotal evidence - reports by retail shop owners I had communications with - suggest that May might be another bad month for the sector already virtually decimated by the crisis.