Economics 03/08/2009: Lessons from Roubini for NAMA, Euro area GDP, Wages Falling in Ireland

NAMA has dominated newsflow in this country and on this blog. But the world around us still evolves to the laws that ignore the existence of the Senile Trio of Brian+Brian+Mary. So to recognize this - few housekeeping items that built up over the week.

First, the Eurocoin is out and it is time to update my Euroarea GDP projections. Chart below summarizes.Main features to note:

• Eurocoin improved in July, for the 5th month in a row;
• My forecast for Eurocoin to move in August and September marginally down from its current -0.42 position to -0.44-0.45 and stay there through September/October, awaiting a decisive move (either up or down - a 50:50 chance from this point in time) for either an W-shaped recession or something with a single (albeir of unknown duration) bottom;
• My forecast for June and July Euro coin came in relatively well -0.52 as opposed to Eurocoin measured -0.61 to -0.42. Bang-on in the middle.

Nouriel Roubini’s RGE Monitor also expects “the cyclical recovery in the eurozone [to be led by Germany and France and] to lag recovery in the US, the BRICs and non-Central and Eastern Europe (CEE) emerging markets”. This is relatively consistent with my expectation for Eurozne to bottom out in the sub0cycle around November-December 2009. Assuming there is no double dip. “Among the main factors muting Europe’s recovery in 2010 are a permanent decline in potential output; unwinding pressures of large internal imbalances leading to deflationary pressures; a more restricted monetary and fiscal policy response compared to the U.S. and especially to China; a leveraged financial sector with too-big-to-fail institutions and too-big-to-save features; and a strong reliance on bank funding by the corporate sector subject to a larger financing gap than that seen in the US.”

There are interesting NAMA-related bits in Roubini’s forecasts: “In order not to impair the banking sector’s lending ability permanently, a quick disposal of bad assets is warranted. Lending to the private sector is slowing quickly, and for small and medium sized enterprises with no access to capital markets, bank credit lines represent the only recourse for liquidity. Based on IMF and ECB estimates, total bank losses in the eurozone will amount to between $650 billion and $900 billion, implying substantial additional recapitalization costs.” So two things jump out:

1. NAMA is going to draw down ca €90bn of taxpayers funds to repair, hmmm €90bn in banks bad debts. Across the entire Eurozone, a 7% Tier 1 capital requirement against the backdrop of $650-900bn in total banks losses expected by Roubini will require (RWA inclusive) around €52-73bn in recapitalization costs – €37-51bn. The idiocy of NAMA is that we will spend more in recapitalizing our puny banking system than would be required to support the entire Eurzone! This shows why the IMF (see here) thinks that direct equity take over by injecting capital into the banks works more efficiently than what NAMA is proposing to do.
2. The second point of relevance to NAMA is that of speed of repairs. Roubini is clear that time is of essence. Of course, our Brian+Brian+Mary squad has sat on their hands for over a year now, doing preciously little other than panic-driven measures (blanket guarantees, rash recpaitalizations without proper equity transfers, nationalization of the dodgiest bank possible, followed by another rash recapitalization round, NAMA announcement, the extension of the guarantees…) But even more interesting is the fact that even if everything goes as planned by our Triumvirate, NAMA repairs will not bite in until January 2010 – 29 months after the crisis in the global financial markets started to unfold and 17 months after this Government bothered to recognize the reality of the challenges we face. If that is ‘a quick disposal of bad assets’ that ‘is warranted’ per Roubini, God help us.
   

In the mean time, ISME survey (2,000 firms participating) last week showed new rounds of wage cuts unfolding in Irish SMEs. main highlights are:

• 94% of SMEs have introduced pay cuts / freeze since the start of the year, 45% have introduced a pay cut, with 49% implementing pay freezes. Only 6% paid some wage increases;
  
• 50% of the companies cut working hours;
  
• Average pay cut was so far 13%;
• 26% of companies are still planning fresh redundancies in the next 3 months (August-October).

Summary tables (both courtesy of ISME):
Jack O'Connor of SIPTU was not available for a comment on these.

Economics 02/08/2009: An idiot's guide to tax policy

Remember that senile reply that the Irish Times has published to my conjecture that higher taxes in Irish airports will hurt Irish tourism and ultimately will cost the Exchequer? Feel free to refresh this case here and here - the original piece that caused the Irish Times editorial page implosion).

Well, don't take my word for it, or CSO's figures - these are not sufficient for our wise ex-IMF Directors. Here are the hard jobs...

"Ryanair, the World’s favourite airline, today (30 July 09) announced 20% flight cuts at its Dublin base for the coming winter schedule (09/10). Compared to winter 2008/09, when Ryanair based 18 aircraft, and operated 1,200 weekly flights, Ryanair’s Dublin schedule this winter will be cut by 22% to 14 based aircraft with 20% fewer flights at less than 1,000 each week. Ryanair estimates that its Dublin traffic this winter will decline by a further 250,000 passengers compared to last winter’s figures, as Dublin Airport loses over 2m passengers overall in 2009.

Ryanair’s decision to cut based aircraft flights at Dublin Airport is for the following reasons:
a) Dublin is one of Ryanair’s two most expensive base airports (Stansted is the other).
b) Costs at the DAA monopoly continue to increase at above inflation rates.
c) The Aviation Regulator continues to rubber stamp unjustified Dublin Airport cost increases while costs at most other UK and European airports are falling.
d) The Irish Govts €10 tourist tax makes Ireland an uncompetitive tourist destination at a time when other European Governments have scrapped their tourist taxes.
e) Traffic at Dublin airport is collapsing (down 11% or 1m fewer pax in the first half of 2009) under the weight of these high airport fees and this stupid tourist tax.

The fact that the DAA monopoly are proposing further price increases at a time when most other UK and European airports are reducing their prices, highlights the damage being done to Irish aviation and tourism by this high cost, inefficient, badly run airport monopoly. Ryanair has repeatedly called on the Government to scrap the €10 tourist tax which has had an equally devastating impact on Irish tourism. Ireland cannot grow tourism by taxing tourists. The Belgian and Dutch Governments have recently scrapped their tourist taxes, and the Spanish and Greek Governments have reduced their airport fees in some cases to zero this winter in order to reverse traffic declines.

Ryanair’s Michael O’Leary said: “...The high and rising costs at Dublin Airport, combined with an insanely stupid €10 tourist tax, are devastating tourism here in Ireland. These cuts come just one day after Ryanair announced 39 new routes to the Canaries this Winter where the Spanish Government has reduced airport fees to zero. Last week Ryanair announced 11 new routes to Oslo airports this winter where again airport fees have been substantially reduced. The response of the Government owned DAA monopoly to this 11% traffic collapse is to seek yet further price increases! The incompetent Irish Aviation Regulator has already proposed that Dublin airport charges for 2010 onwards will be “18% higher” than they would be if the DAA’s traffic was not declining. Sadly the DAA gets rewarded by the regulator with price increases for its abject failure to grow and stimulate traffic."

So how much revenue to the economy and the Irish Exchequer is being lost? May be Michael O'Leary can sum it up.

I have nothing to add, other than perhaps to ask the Irish Times editorial team to filter economically illiterate arguments out of its pages in the future - just because someone writing an article signed 'ex-director of IMF and career ex-civil servant from Ireland' doesn't mean that they actually have much to say that is valid. Quite likely, it means the opposite...

Economics 02/08/2009: Liam Carroll's case

For those of you who missed, here is my article from Saturday edition of Irish Daily Mail

An Irish person recently remarked to me in the context of NAMA that “If any other electorate in Europe, nay, the world, faced this scandal, their citizens would be on the streets.” They would. We have been led to believe that NAMA is a necessary solution for the banks having to write down the odious development debt acquisition of which over the years past was cheered on by the Government through tax breaks and the stamp duty widnfalls. In reality, NAMA is Ireland’s own financial Chernobyl – a self-inflicted devastation of taxpayers’ finances perpetuated for the sake of doing something about the crisis.

By denying the examinership to Liam Carroll’s six companies, the Irish High Court has put itself out as the sole branch of State that stands between the innocent taxpayers and this redlining reactor.

First, let me clearly state that I have no objection to proper developers who build what is truly demanded by the market. They too will be the victims of the NAMA debacle.

Pursued by a creditor, the ACC Bank, Liam Carroll has been languishing in the High Court for a better part of this week, awaiting a decision on whether he will be granted an examinership for six of his companies. An alternative for Mr Carroll was to face an appointment of a receiver – a sure bet that his companies will be shut down. This alternative has now come to its logical fruition – denying Mr Carroll the examinership, the court has forced him to face the music. Receivership is now all but inevitable.

The motivation behind this battle was NAMA. Mr Carroll would like his companies debt to be assumed by the state, allowing for them to continue as an ongoing concern. Mr Carroll even hoped to convince the folks running the bad bank to give him few quid to finish some of his
failed projects. A pipe dream for a businesses that, by his Senior Counsel’s admission generates just €22-23 million in annual revenue against the debts of roughly €1.4 billion. Now, do the maths – a company that was supposed to be bought by us, the taxpayers into NAMA will not be able to cover even 15% of its annual interest bill.

Mr Carroll’s case has serious implications for us all – the Irish taxpayers – as the underwriters of NAMA.

Mr Carroll’s Senior Counsel Michael Cush told the court that the six companies in question, had historically been very successful businesses. But he said more recently they had suffered credit problems, the downturn in the property market, and some “problems with investments”. Per Mr Cush, the companies are clearly insolvent and if liquidated, their unpaid debts will reach €1 billion. This indicates that there is no hope for a recovery of the business and that examinership was rightly denied to them.

But it also shows that there is not a snowballs chance in hell that NAMA will be able to recover any positive value from Mr Carroll’s companies, unless it forces his banks to write down at least €1 billion of some €1.4 billion in loans amassed. That NAMA will do nothing of the sorts, preferring to continue the circus of pretending that these businesses worth something in excess of their debts is clearly something that the courts disagree with.

The NAMA legislation published this Thursday states that the taxpayers will be paying for the current values of the banks loans, while the developers will be pursued for the original loans amounts. Mr Carroll’s case illustrates that currently insolvent businesses continue to accumulate liabilities (rolled up interest and fresh demands for continuity funding) that simply cannot be repaid, ever. These roll up debts are odious, for they are extended to the clearly insolvent companies in the hope that NAMA will simply cover them at a higher rate than the markets would were the banks to go out into the open trying to liquidate these development loans.
Which means that NAMA will be using our money to pay for the rolled up interest on top of already grossly overvalued loans of insolvent enterprises.

Do a simple math, with a 50% fall in the value of underlying assets, 11% interest charge on the non-performing loans and a 25% NAMA discount, the taxpayers will be overpaying for the assets they by to the tune of 70% plus. Put simply, imagine walking into a shop and seeing a TV set on sale. The sign reads: ‘Sale! Original price €100. Sale price €170”. That does look like Minister Lenihan’s bargain for the taxpayers.

Liam Carroll’s case also shows that over the last year, soft budget constraints for insolvent businesses, like Liam Carroll’s empire, were accepted by the banks solely on the anticipation of a state bailout. If not, these banks actively engaged in destroying their shareholders’ wealth by undertaking knowingly reckless decisions. Take your pick.

I have absolutely nothing against Mr Carroll's enterprises, other than the simple argument that if they are insolvent today, the should be shut down today and they should not be allowed to accumulate additional liabilities at our, taxpayers' expense.

The examinership case for Mr Carroll’s companies was not warranted from day one of his application to the court. Minimizing losses to the economy and the taxpayers resulting from his companies farcical ‘operations’ required an appointment of a receiver and no restructuring period under the examinership would have done any good to their solvency. If only the same wisdom of the courts can be applied to NAMA itself.

NAMA 3.0: A real alternative

I was bemused to learn that a number of my economics colleagues are apparently starting to 'discover' the idea of resolving the banking crisis through the use of a voucher-styled equity acquisition in Irish banks and disbursement of these to the taxpayers. Oh, it makes me glad that potentially some of them - possibly including even those who would not give me a fulltime job in their august departments - are now coming around to accepting some of my original ideas.

So to clearly draw a line in the sand, I espoused the idea of voucher-styled recapitalization of Irish banks on the pages of Business & Finance, with Prof Brian Lucey (the only person who saw, amongst academics, any merit in this idea from the start) in the pages of the Irish Times, in the Sunday Times and in the Irish Independent, as well as, of course, on this blog. But my entire view on how the banking crisis should be handled is summarized here:

Step 1: Require banks to take full mark-to-market writedown on their loan book;
Step 2: Travel down the capital ranks to draw down shareholder equity, deplete perpetual bond holders and so on to cover the writedowns;
Step 3: Force the bond holders into debt for equity swap;
Step 4: Open enrollment for a share-participation in Irish banks recapitalization to SVFs, vulture funds and any other form of private capital;
Step 5: Cover all remaining shortfalls in capital base with Government bonds swapped for equity after Steps 1-4 are completed and after an independent assessment of the value of the remaining loans is carried out to determine the true extent of banks under-capitalization;

Step 6: Hold equity in an escrow account (NAMA3.0) on behalf of the taxpayers, appointing a Supervisory Board to every bank recapitalized by the taxpayers money. The SB should consist of one appointee by the Minister for Finance, 3 direct independent representatives of the taxpayers, who are charged with explicitly guarding the taxpayers' interests, 1 representative of the bank board, 1 representative of NAMA3.0 and 1 independent director. Each member (other than those from NAMA3.0 and the bank) will hold a veto power. A requirement that risk and credit committees of NAMA3.0 include at least 51% majority of independent experts who cannot be employees of the state, NAMA3.0 or any other parties to this undertaking;

Step 7: NAMA3.0 accountability: no indemnity for negligence and incompetence for any employee or director of the escrow organization; no cross borrowing by the Exchequer from NAMA3.0 is allowed, so Brian Lenihan and his successors cannot raid the nest egg; ownership of shares in the account accrues to the taxpayers, not to the state or the public sector; NAMA3.0 cannot lend money to continue any of the banks' projects;

Step 8: NAMA3.0 transparency: full disclosure of all recapitalization acts and shares held in NAMA3.0 - on the web, updated live; full disclosure of all employment contracts, wages, bonuses etc, CVs of all managers and directors and disclosure of all potential conflicts of interest; full disclosure and updating of the comprehensive NAMA3.0 balance sheet, cost/benefit analysis of the undertaking and live weekly mark-to-market report on the value of shares held;

Step 9: NAMA3.0 operational efficiencies: NAMA3.0 can, with consent of the Minister for Finance and in orderly (market-respecting) fashion disburse all or a part of its shareholdings so as to maximize the return to the taxpayers. This disbursal should be fully notified to the public immediately post execution, with price achieved fully disclosed. NAMA3.0 will then have 30 days to issue every resident of this country - registered at the date of creation of NAMA3.0 - his or her share of the sale proceeds net of NAMA3.0 operating costs and a special withholding tax of 25% on CGT, in a form of the cheque;

Step 10: NAMA3.0 legal remit over assets: NAMA3.0 in recapitalizing the banks will have a mandate to help the banks collect on outstanding loans by aiding them in seizing requisite collateral. In doing so, NAMA3.0 will have to agree a procedure to address problems of cross-collateralization of specific assets. NAMA3.0 will have a right to impose seize borrower's property (applicable only to developers) when such property has been legally shielded from authorities or banks at any time after July 2008.

Step 11: Conditions for banks' participation in NAMA3.0 banks wishing to participate in this undertaking will be required to adhere to the following rules, including, but not limited to, the caps on executive compensation at the banks and the requirement to set up fully independent, veto-wielding risk assessment committee at each bank with a mandatory requirement for a position of a taxpayers' representative on the board that cannot be occupied by a civil servant or anyone who has worked in the Irish banking or development industry in the last 10 years;

Step 12: Re-legitimising the public system of regulation in Financial Services: as a part of NAMA3.0, the Government must address the ever-widening crisis of markets, investors' and taxpayers' trust in the Irish system of Financial Services regulation. Many steps must be taken to address this problem, and these can be worked out over time - suggest away. But in my view, there must be a stipulation that all and any regulatory authorities (and their senior level employees) that were involved in regulating the banking and housing sector in this country until now must be forced to take a mandatory pension cut of 50%, a salary cut to put them at -10% relative to their UK counterparts wages, and return any and all lump sum funds they collected upon their retirement. The Government must impose measures to prevent banks from beefing up their profit margins through squeezing their preforming customers. The measures to force the banks to reduce their cost bases by laying off surplus workers must be enforced. From now on, every regulatory office should be required to publish all minutes of its meetings, disclose all its voting, decisions and rulings to the public, create a public oversight board that must include members of the Dail from non-Governing Parties, a taxpayer representative and independent directors.

This is a sketch of NAMA3.0. Please feel free to build a bigger picture with me

Economics 1/08/2009: NAMA - alternatives Part IV

June 2009 paper from the IMF, titled The Economics of Bank Restructuring: Understanding the Options by Augustin Landier and Kenichi Ueda is something Minister Lenihan and indeed the entire Irish Cabinet should have read, and probably would have read if their economic advisers actually did their jobs. But, of course, the readers of this free (unlike Alan Ahearne's advice) blog can read it here.

Here is a summary (italics are mine):

"This note ...evaluates various restructuring options for systemically important banks. The note assumes that the government aims to reduce the probability of a bank's default and keep the burden on taxpayers at a minimum [a tall assumption for own Government, but hey...].

...If debt contracts can be renegotiated easily, the probability of default can be reduced without any government involvement by a debt-for-equity swap. Such a swap, if appropriately designed, would not make equity holders or debt holders worse off. However, such restructurings are hard to pull off in practice because of the difficulty of coordinating among many stakeholders, the need for speed, and the concerns of the potential systemic impact of rewriting debt contracts.

When debt contracts cannot be changed, transfers from the taxpayer are necessary. Debt holders benefit from a lower default probability. Absent government transfers, their gains imply a decrease in equity value. Shareholders will therefore oppose the restructuring unless they receive transfers from taxpayers.

The required transfer amounts vary across restructuring plans. Asset sales are more costly for taxpayers than asset guarantees or recapitalizations. [We know thi - NAMA will ask us to pony up €60bn in bonds, plus another €10bn+ in recapitalization funds on top of already awarded €7bn+ - all for bailing out a system that in its entirety is worth no more than €10bn]. This is because sales are not specifically targeted to reduce the probability of default. Guarantees or recapitalizations affect default risk more directly. Transfers can also be reduced if the proceeds of new issues are used to buy back debt.

Depending on the options chosen, restructuring may generate economic gains. These gains should be maximized. Separating out bad assets can help managers focus on typical bank management issues and thereby increases productivity. Because government often lacks the necessary expertise to run a bank or manage assets, it should utilize private sector expertise [Now, if you read NAMA legislation, the system will rely on NAMA-own employees to run risk and credit committees - what 'private sector expertise'?]. Low up-front transfers can help prevent misuse of taxpayer money [Well, NAMA will have up-front transfers of some €60bn!In contrast, my proposal for the banks to take market-driven writedowns before NAMA transfers would minimise this.]. Moreover, the design of bank managers' compensation should provide incentives to maximize future profits.

If participation is voluntary, a restructuring plan needs to appeal to banks. Bank managers often know the quality of their assets better than the market does. This means banks looking for new financing will be perceived by the market to have more toxic assets and, as a result, face higher financing costs. Banks will therefore be reluctant to participate in a restructuring plan and demand more taxpayer transfers. A restructuring that uses hybrid instruments - such as convertible bonds or preferred shares - mitigates this problem because it does not signal that the bank is in a dire situation. [Of course, NAMA is all about one instrument - taxpayers' cash] In addition, asset guarantees that are well designed can be more advantageous to taxpayers than equity recapitalizations. [Well, of course we had no 'well-designed' guarantees - we have a blanket guarantee. And thus we also have subsequent recapitalizations. And now NAMA. And after NAMA - more recapitalizations... I mean this Government and its advisers wouldn't last long in a junior policy research job at the IMF...] A compulsory program, if feasible, would obviously eliminate any signaling concerns. Information problems can also be mitigated if the government gathers and publicizes accurate information on banks' assets. [NAMA is a compulsory programme. And yet, despite the IMF advice, it is reliant on a sweet-heart deal for the banks with total disregard for the taxpayers' interests. Reckless? Venal? You decide.]

In summary, systemic bank restructuring should combine several elements to address multiple concerns and trade-offs on a case-by-case basis. In any plan, the costs to taxpayers and the final beneficiaries of the subsidies should be transparent. [NAMA legislation makes its operations fully concealed from any public scrutiny and fully indemnified against any charges of reckless waste of taxpayers' resources. It even makes it impenetrable to the courts.] To forestall future financial crises, managers and shareholders should be held accountable and face punitive consequences. [This is explicitly prevented in the NAMA legislation] In the long run, various frictions should be reduced to make systemic bank restructuring quicker, less complex, and less costly.

I rest my case. In a nutshell, even by IMF standards, NAMA is a monster that will willingly or recklessly defraud the Irish taxpayers.

Economics 01/08/2009: Wealth Tax

Someone asked me recently to confirm my assertion - made few months back on TV 3 programme - that a 100% tax on wealth of the Irish members of the Sunday Times Rich List 2009 will last this Government, oh, well, under 5 months.

After actually computing the total ROI-based wealth from the List and taking some adjustments, Table below shows clearly the break down of such a (extremely foolish) tax. Of course, this is a fantasy land, but it does highlight for me the idiocy of our Left wing fanatics.

As you can see, a brutish calculation puts the net take from such an exercise at a maximum of €30bn one-shot gain for the Exchequer - or an equivalent of 4 months and 22 days of Government spending (I was pretty much on target in my original statement).

Factoring in the fact that large chunk of this wealth is held by property investors and construction firms owners, whose wealth has been evaporating since December 2008 when the list was compiled and that the list reflects their wealth as assessed on last filed accounts (2007 or earlier), and taking into account that any half-sane person would diversify her holdings geographically, putting a share of her assets out of reach of the Irish Exchequer, this figure drops to €18bn, or 2 months 25 days worth of Government spending planned for 2010.

Taking into account legal costs and assets seepage during the process of collection, the entire Irish Top Rich List 2009 wealth, if it were seized by the Government, would last our Exchequer no more than 2 months and 17 days.

But, one has to take into the account the facts that:

• public spending economic multiplier is zero, while
  
• private spending multiplier is a positive number dependent on the Marginal Propensity to Consumer out of Wealth, Marginal Propensity to Invest out of Wealth-generated income, the returns to wealth and the velocity of money in this economy; and
• the fact that the Exchequer collects revenue from this wealth

all of which will be foregone if the Exchequer were to seize this wealth in one swoop.

When these factors are accounted for, the Exchequer will be covered for only 1 month and 27 days by the 100% levy on all wealth of the ROI Top Rich List 2009.

What a pack of morons represent economic arguments of the Left of this country!