Economics 22/02/2010: Detailed analysis of Live Register

Updated (below)

CSO published its analysis of the Live Register Data for 2009 which shows some interesting details.

Per CSO data, reproduced below, the highest risk of unemployment by sector was found in:

• Construction (with LR contribution from the sector reaching 170% of the sector own contribution to total employment);
  
• Hotels and Restaurants (with Live Register contribution from the sector standing at 161% of the sector weight in overall employment);
• Other Production Industries (136%);
• Financial & Other Business Services (131%) and
• Wholesale & Retail Trade (120%).
  

All state-dependent or provided jobs were the safest ones (see above marked in blue bold).

Update: since both Health and Education sectors are heavily reliant on public sector workers, we can consider a broader definition of the Public Sector to include the above sectors together with Public Administration & Defense. In this case, broader PS accounted for 23.1% of total employment in Q4 2008 and 6.9% of total number of new LR signees in Q1 2009, implying a 29.9% relative incidence of unemployment by sector - a number that is more than 3 times smaller than the average for the entire economy.

The above relative incidence number for the broader PS is actually biased in the direction of overstating the overall incidence of unemployment in the PS, as a number of employees who lost their jobs in Health and Education sectors were most likely from private firms providing these services.


And here is another table, also slightly adjusted by me. This time around, I am adding several categories together - people who are left on the Live Register (aka the Unemployed), people who moved from the LR to illness benefit (aka also the Unemployed), people who have retired from the Live Register to a state pension and people who are unaccounted for (aka - emigrants who left Ireland, immigrants who left Ireland and people who just dropped off Live Register into gray economy 'entrepreneurship').

Notice couple of things here - virtually the same number of foreigners and Irish who have joined LR in Q1 2009 stayed in some sort of 'Unemployment' by the end of Q2 2009. Actually, this percentage was slightly higher for the Irish LR signees, but the difference does not appear to be statistically significant.

Those over age 25 tended to remain on LR with higher probability than those who are under 25. The trick part here is that many under 25-year olds went off to training and education, dropping off the LR. One hopes they will have a job to go to, once their Fas-run courses and college programmes end.

Males were more likely to remain broadly unemployed (83.46%) than females (80.26%) but the difference is small and there are several factors here. One might wonder how the birth rate increase affects this number and also how it depends on transition to single parent family supplement. Also, younger women are more likely to undertake new training and education than younger males. Can these three factors explain the difference between men and women in re-employment rates?

Once we look at differences across sectors, one striking detail shown in the table above is that sectors with higher wages and better jobs are suffering the largest non-returns to jobs by the Live Register Signees. Table below details:
So in the nutshell - the jobs our LR signees are getting after they lose their primary occupation are of poorer quality and in less productive sectors.

Economics 22/02/2010: Leading indicators of an Irish recovery

For those of you who missed my Sunday Times article yesterday, here is the unedited version (note: this is the last article of mine in the Sunday Times for the time being as Damien Kiberd will be back with his usual excellent column from next week on):


The latest Exchequer results alongside the Live Register figures clearly point to the fact that despite all the recent talk about Ireland turning the corner, the recession continues to ravage our economy. And despite all the recent gains in consumer confidence retail spending posted yet another lackluster month in December 2009. Predictably, credit demand remains extremely weak, with the IBF/PwC Mortgage Market Profile released earlier this week showing that the volume of new mortgages issued in Ireland has fallen 18% in Q4 2009.

Even industrial production and manufacturing, having shown tentative improvement in Q3 2009 have trended down in the last quarter.

As disappointing as these results are, they were ultimately predictable. Economic turnarounds do not happen because Government ‘experts’ decide to cheer up consumers.

Instead, there is an ironclad timing to various indicators that time the recessions and recoveries: some lead the cycle, others are contemporaneous to it, or even lag changes in economy.

In a research paper published in 2007, UCLA’s Edward E. Leamer shows that in ten recessions experienced in the US since the end of World War II, eight were precluded by housing markets declines (first in terms of volumes of sales and later price changes). The two exceptions were the Dot Com bust of 2001 and the end of the massive military spending due to the Korean Armistice of 1953. Residential investment also led the recovery cycle.

Despite being exports-dependent, Irish economy shares one important trait with the US. Housing investments constitute a major proportion of our households’ investment. In fact, the weight of housing in our investment portfolios is around 65-70%. It is around 50% in the US. As such, house markets determine our wealth and savings, and have a pronounced effect on our decisions as consumers.

Consider the timing of events. Going into the crisis, Irish house sales volumes turned downward in the first half of 2007. House prices declines followed by Q1 2008, alongside changes in manufacturing and services sectors PMI. A quarter later, the whole economy was in a recession.

House price declines for January 2010 indicate that roughly €200 billion worth of wealth was wiped out from the Irish households’ balancesheets since the end of 2007. With this safety net gone, the first reaction is to cut borrowing and ramp up savings, to the detriment of immediate consumption and new investment.

So, if housing markets are the lead indicator of future economic activity, just where exactly (relative to the proverbial corner) are we on the road to recovery? Not in a good place, I am afraid.

Per latest data from the Central Bank, private sector credit continues to contract in Ireland, with December 2009 recording a drop of 6% on December 2008. Residential mortgage lending has also fallen from €114.3 billion in December 2008 to €109.9 billion a year later. This suggests that at least some households are deleveraging out of debt – a good sign. Of course, the decline is also driven by the mortgages writedowns due to insolvencies.

Worse, as Central Bank data shows, the process of retail interest rates increases is already underway. In November 2009 retail interest rates for mortgages have increased for all loans maturities and types. Irish banks, spurred on by the prospect of massive losses due to Nama, are hiking up the rates they charge on existent and new borrowers.

And more is to come. Based on the current dynamic of the interest rates and existent lending margins for largest Irish banks compared to euro area aggregates, I would estimate that average interest rates charged on mortgages will rise from 2.67% recorded back at the end of November 2009 to around 3.3-3.5 % by the end of this year, before the ECB increases its base rate. This would imply that those on adjustable mortgages could see their cost of house financing rise by around 125 basis points, while new mortgage applicants will be facing rates hike of well over 150-160 basis points.

On the house prices front, absent any real-time data, all that we do know is that residential rents remain subdued. Removing seasonality out of Daft.ie most recent data, released this week, shows that downward trend in rents is likely to continue. Commercial rents are also sliding and overall occupancy rates are rising, with some premium retail locations, such as CHQ building in IFSC, are reporting over 50% vacancy rates.

Does anyone still think we have turned a corner?

The problem, of course, is that the structure of the Irish economy prevents an orderly and speedy restart to residential investment.

First, there are simply too many properties either for sale or held back from the market by the owners who know they have no chance of shifting these any time soon. We have zoned so much land – most of it in locations where few would ever want to live – that we can met our expected demand 70 years into the future. We also have 350-400,000 vacant finished and unfinished homes, majority of which will never be sold at any price proximate to the cost of their completion. To address these problems, the Government can use Nama to demolish surplus properties and de-zone unsuitable land. But that would be excruciatingly costly, unless we fully nationalize the banks first. And it would cut against Nama’s mandate to deliver long-term economic value.

Second, there is a problem of price discovery. Before the crisis we had ESRI/ptsb sample of selling prices. Based on ptsb own mortgages, it was a poor measure. But now, with ptsb having pushed its loans to deposits ratio to 300%, matching Northern Rock’s achievement, there is not a snowball’s chance in hell it will remain a dominant player in mortgages in Ireland. Thus, we no longer have any indication as to the actual levels of property prices, and absent these, no rational investor will brave the market. The Government can rectify the problem by requiring sellers to publish exact data on prices and property characteristics.

Third, the Government can aid the process of households deleveraging from the debts accumulated during the Celtic Tiger era. In particular, to help struggling mortgage payers, the Government can extend 100% interest relief for a fixed period of time, say 5 years, to all households. On the one hand such relief will provide a positive cushion against rising interest rates. On the other hand, it will allow older households with less substantial mortgage outlays to begin the process of rebuilding their retirement savings devastated by the twin collapse in property and equity markets. Instead of doing this, the Government is desperately searching for new and more punitive ways to tax savings. Finance Bill 2010 with its tax on unit-linked single premium insurance products is the case in point.

Fourth, the Government can get serious about reducing the burden of our grotesquely overweight public sector. To do so, the Exchequer should commit to no increases in income tax in the next 5 years. All deficit adjustments from here on will have to take a form of expenditure cuts. Nama must be altered into a leaner undertaking responsible for repairing banks balancesheets, not for providing them with soft taxpayers’ cash in exchange for junk assets.

Until all four reforms take place, there is little hope of us getting close to the proverbial corner for residential investment, and with it, for economy at large.


Box-out:

Back in January 2009, unnoticed by many observers, a small change took place in the Central Bank reporting of the credit flows in the retail lending in Ireland. Per Central Bank note, from that month on, credit unions authorized in Ireland were classified as credit institutions and their deposits and loans were included in other monetary financial institutions. This minute change implies that since January 2009, Irish deposits and loans volumes have been inflated by the deposits and loans from the credit unions. Thus, a search through the Central Bank archive shows that between November 2008 and February 2009, the total deposits base relating to resident credit institutions and other MFIs rose from €166 billion to €183 billion, despite the fact that the country banking system was in the grip of a severe crisis. Adjusting for seasonal effects normally present in the data, it appears that some €14-15 billion worth of ‘new’ deposits were delivered to the Irish economy though this new accounting procedure. Of course, deposits on the banks liability side are exactly offset by their assets side, which means that over the same period of time more than €16 billion of ‘new’ credit was registering on the Central Bank radar. Now, this figure is also collaborated by the credit unions annual reports which show roughly €14 billion worth of loans issued by the end of 2007 – the latest for which data is available. This suggests that the credit contraction in the Irish economy during 2009 is understated by the official figures to the tune of €14-15 billion. Not a chop change.

Economics 21/02/2010: Planes, Buses and Swedes

A crucial difference between the Swedish 'socialism' and Irish Government's 'pro-market Partnership' is that the two are misnomers.

Take airline industry:

• Irish Government owns a share of Aer Lingus - 25% and together with its friends (although sometimes quarrelsome) - the Unions the state controls 40% stake in the 'National Flag Carrier';
• Irish Government monopolistically owns the entire airports system in the country allowing no competition whatsoever into the sector - presumably in line with the Irish Government's pro-private enterprise stance;
• The LFV Group that owns and operates main Swedish airports is similar to our DAA / Aer Rianta and is also state owned - clearly in line with the Swedish Government's socialist credentials;
• But in Sweden there are a private airport and a number of independently (municipalities) owned smaller airports;
• The Swedish State currently owns 21.4% of the SAS - 'Flag Carrier Airline' (less than the shareholding by the pro-private enterprise Irish State in Aer Lingus) and
• Earlier this week, Swedish deputy PM (Mary Coughlan's counterpart) announced that her Government is selling all of its holding in SAS. How come? “In the long run we don’t see any intrinsic value in owning shares in an airline,” she said.
  

Actually, in terms of monopolization of the service provision, Irish Airports stand at 100% monopoly ownership, while Swedish airports are close fringe challenging central monopoly, to the situation in terms of services competition one find in Irish bus services. Funny thing - we claim to have a deregulated bus market in Ireland...

Hmm, Bertie Ahearn had a point saying he was the last standing real socialist in Europe.

Economics 20/02/2010: Greeks ahead

Want to understand the extent to which politicians and the public sector workers are failing to understand the fundamental principles of the markets? Look no further than Greek debt issue looming on the horizon.

Some background first. Less than a month ago, Greece put on the market an €8 billion 5-year bond package at a 6.1% interest rate. Seemingly, it was able to attract initial interest of investors - the early bidders were keen on taking high yield paper. Of course, the country bond issuers had no idea why institutional investors had sudden interest in Greek bonds. And this led to a bottleneck emerging in later days of the placement.

Institutional investors, especially diversified portfolio managers, might want a bond for its default risk-adjusted returns. This hardly constitutes a significant proportion of the demand for Greek bonds in recent months. Alternatively, they might down-weight the consideration of the default risk and use the bond purchase to simultaneously hedge their FX exposure elsewhere and earn high returns. It is the second component of the market that drives most of the demand for Greek bonds, aka portfolio management side of demand. This second source of demand is by its nature extremely shallow – there are fewer investors in this complex hedging space and those that are in it have many alternative (to Greek bonds) strategies available to them. It does, of course, help the Greek bond issuers’ cause that their yields are the highest in the Eurozone, making their bonds a solid target for single risk hedging on FX side. But it does not help them that the Euro is at risk of substantial devaluation going forward against the dollar and sterling.

In short, the demand for Greek bonds is not fundamentally driven (i.e not based on pure default risk v yield analysis). Adding insult to the injury, if one should rationally anticipate that Euro is going to continue falling against the dollar in the current scenario of contagion from Greece to the rest of PIIGS, then less faint-hearted amongst us might want to take a short position against the Euro. This can be done by not hedging existent non-Euro exposures. The effect of such implicit shorting is to further reduce demand for Greek paper. The folks at the Greek Treasury have missed these simple points. Thus, the aforementioned issue was simply too large for the markets and failed to sustain prices achieved on placement – within just two days after the issue, price fell 3.5%.

Which brings us to the next week – it is expected that the Greeks will be at the markets again, this time with a €5 billion of new 10-year paper. Even to have a go, the Greeks will have to push spreads on their paper over the German bund to a stratospheric height. Currently – 10-year Greek bonds are yielding 6.5%, up from 5.8% back in the end of December 2009 and 1.5 percentage points above their levels in November 2009. But this will have to rise. 7% anyone? Possible.

Short positions in Greek bonds are also signaling that the demand for new issue will be weak. Shorts in Greek bonds have risen to 9.82% up 0.24 percentage points in the first two weeks of February and 1.58 percentage points relative to the end of December 2009. But now they are being closed off. Closing the short means that demand for bonds rises, artificially, in the market – as bonds are being withdrawn for a return to the lender. But this demand is not about market appetite for bonds. Instead it is about a technical need for a re-purchase. With this demand pathway becoming more exhausted in recent days, there will be added pressure on new bond pricing – another aspect of the market the Greeks seemingly do not take into account.

But politicians and their public servants, ignorant as they may be of the markets, might have something else on their minds. Greek’s reckless and silly issuance patterns are driven by more than markets considerations. They are driven by gargantuan deficits and debt overhang – with €20 billion of maturing debt that needs to be rolled over around April this year alone - and the willingness of the Greek Government to sacrifice its own taxpayers (remember – higher yields mean higher cost of borrowing, to be carried by the future taxpayers) in order to force the EU to bailout the country. This strategy, similar to the game of chicken in which both participants hold equivalently credible threats, but one faces asymmetrically higher costs in the case of ‘no bailout’ outcome) is something that the EU leaders themselves do not seem to comprehend.

While the EU is sitting on its hands and issuing conflicting and irresolute statements on the matter, the Greeks are heading straight into a fiasco, should they fail to place new bonds at yields proximate enough to the current 6.5%. At the same time, failure to place this issue will push the Greeks even closer to a direct default on debt, imposing even more pressure on the EU to urgently deal with the matter.

If the EU fails to bail out the Greeks on this round, the Euro will be equivalent to the Titanic grinding against the iceberg. The Greeks will always have an option to walk away from the common currency and default outright – the consequences will be tough, but more palatable than the ones which will hit the country should it go down alongside the Euro. First move advantage is real in the game of chicken.

Economics 19/02/2010: Bank of Ireland deal

And so it comes to pass - the saga of missing dividend from Bank of Ireland, and the taxpayers are left holding the bag... The background to the story is here. Karl Whelan's post here gives the relevant links to the documents. And my analysis is as following:

Following the conversion of dividend due (€250 million) from the Bank of Ireland preference shares owned by the state to ordinary shares on 22 of February, the state will emerge as an almost 16% owner of the bank equity.

The relevant ISE document stipulates that:
"As a consequence of this and, in accordance with Bye Law 6(I)(4), the Directors of the Bank of Ireland announce that on 22 February 2010 it will issue and allot to the NPRFC 184,394,378 units of Ordinary Stock being the number of units equal to the aggregate cash amount of the 2010 dividend of €250.4m divided by 100% of the average price per unit of ordinary stock in the 30 trading days prior to and including today's date. Application will be made in due course for the listing of these units of stock. This increases the units of Ordinary Stock of Bank of Ireland in issue to 1,188,611,367. As a result the NPRFC will own 15.73 per cent of the issued Ordinary Stock (excluding the NPRFC Warrant Instrument)"

Which means a massive shareholder dilution and a significant set back to the BofI ability to raise equity. Recall that the BofI was planning for a €1 billion rights issue which would have meant roughly a 38.6% dilution of existent shareholder rights. Now, with a preemptive 16% dilution by the state, a rights issue planned will mean a 44% dilution post-rights should the price of the shares remain constant at Monday. And this is before we factor in 25% option on ordinary shares that is held within the preference shares we already have.

Of course it won't. A rational valuation model of shareprice will require that the price declines roughly 15% on Friday close post State dilution. Which means that market cap of the BofI will fall, at current average to €1,353 million, implying the post-right dilution of 48%.

In a way, Government taking the stake in BofI prior to rights issue at current valuation means the taxpayer is buying an asset that is likely to drop in value almost 50% within months after the State takes its stake. With one sweep of the pen, Minister Lenihan just signed off on an investment - using our cash - that will be worth 1/2 of its current value once BofI goes into equity raising.

Of, course, a much grimmer reality beckons should the State move tonight spell the end to the BofI equity issue prospects. In this case, today's announcement forces the Government to fully recapitalise the bank out of taxpayers funds, leading to a 90% plus State ownership and a massive liability to the taxpayers.

Irony of all ironies - the Government will end up transferring bad assets from its own bank to its own holding entity - Nama. What can possibly go wrong?


PS: In their September 3, 2009 note titled "Irish Banking - Crossing the Rubicon", Bloxham Stockbrokers said: "There is already a €825 million benefit to taxpayers from recovery in the market value of Allied Irish Bank and Bank of Ireland: Holding options worth a 25% stake in both AIB and Bank of Ireland, the taxpayer has benefited by €825 million as a result of the shareholding. This is apart from the benefit of the annual 8% yield from the €7 billion injection into the two main banks, which adds a further €560 million to the return per annum."

Run this by us, please, Bloxham - €825 million? Again? Crossing the Rubicon it was.

Wanna see some more fantasy estimates from the brokers? Davy:
"19 June 2009 17:26 Bank of Ireland could raise €1.5 billion in September and pay off some of the €3.5 billion in Government preference shares, according to stockbrokers Davy. ...In a report on Bank of Ireland today, Davy Research says the effect of a rights issue, in which the bank would issue more shares, could be used to pay funds back to the State and potentially leave the Government with a stake of 7%. "

7%? Run this by us, please, Davy Research - 7% state ownership? Right.

Economics 18/02/2010: Ryanair are releasing actual evidence

Another chapter in 500 jobs saga at Dublin Airport: remember that claim that RTE aired that Ryanair could have been planning to use Hangar 6 as a monopoly-busting Terminal 3?

Earlier today Ryanair released its letter to IDA, dated July 2, 2009 - which commits Ryanair to the specific, narrow use of Hangar 6 and suggests DAA can impose a clause that would restrict Ryanair use of Hangar 6 only to heavy maintenance work. Here is the letter:

At the very least, one has to be fair to Ryanair - they are the only party to the entire debacle who are backing their claims with real evidence. DETE or DAA might want to follow the lead... I am certainly going to give them space on this blog, if they need one.