Seeing that the skivers over at irisheconomy.ie seem to have taken a few days break, this is a brief entry on recent revelations about the lead-up to the application for a bailout byIreland in November, 2010.
First up, we had a BBC Radio 4 programme from Irish Times economics editior, Dan O’Brien broadcast today. It’s 30 minutes long and can be accessed at the BBC here. This blog operates using proxy masking software so I can’t tell if the programme is available outside the UK but if it isn’t you can fool the BBC into thinking you’re in the UK by using free proxy masking software like this. The programme was called the “Bailout Boys go toDublin” and is a quick run-through of the events which led up the application for a bailout on 28th November, 2010. Dan interviewed, amongst others, former Minister for Finance Brian Lenihan, Central Bank ofIreland governor Patrick Honohan as well as the usually taciturn Ajai Chopra, the deputy director of European operations at the IMF who has come to represent the face of the IMF’s bailout inIreland. There isn’t much that is new in the production but it does confirm the pressure brought to bear by the ECB to apply for a bailout – “Ireland needed to be totally nailed down” was the ECB view according to Brian Lenihan. It is not clear why the programme was given the title it was, but the ECB comes across as “bully boys” in the piece which might have been the association Dan was seeking to make. One new piece of information was about a letter sent by the ECB to then-Minister Lenihan in November (from 6:00 in, on the programme)
Dan O’Brien says “Finance Minister Brian Lenihan has told us – in fact – that he had received a letter from the Jean-Claude Trichet President of the ECB on the Friday (12th November, 2010). And so before those government denials. In it he says the ECB spelt out its concerns about the amount of money it was owed by Irish banks and suggested that the country should be looking at applying for a bailout” and then Minister Lenihan says “Mr Trichet wrote to me. He raised the question about whetherIrelandwould be participationg on a programme at that stage. I rang Mr Trichet after receipt of the letter. But it was clear to me that there was a serious issue forIreland. I said that it was important we discuss his concerns and we agreed that on the following Sunday there would be an official level discussion about these issues inBrussels”
There is an emerging narrative that it was the ECB which strong-armed the Irish government into applying for a bailout. Secondly, in the Irish Sunday Independent today Colm McCarthy claims that the ECB may have effectively, if not intentionally, prompted a bank run in the lead-up to the application by the Irish government for aid. The letter referred to above might shed more light on the tone and degree of pressure being applied.
Taking a step back from the details of the bailout, the reason the ECB’s position is relevant is that it is the ECB that is stopping Irelandfrom forcing bondholders with €36.5bn of bonds in insolvent Irish banks – banks which depend on the support of funding from citizens via the bailout – from taking haircuts. But is the ECB providing a premium service to Irelandin return for a commitment not to “burn” unguaranteed senior bondholders? After all, Irish banks are in receipt of some €117bn (at the end of March 2011) from the ECB which only charges the banks 1.25% for accessing these funds so doesn’t Ireland owe some debt of gratitude to the ECB? Absolutely not – in return for this €117bn of funding, the ECB is provided with collateral by the banks and the ECB has high standards for the collateral it will accept, set out in some detail here. So all the ECB is doing is its job and no more.
This issue was touched upon on here, two weeks ago & it seems lamentable that there hasn’t been any challenge fromIreland about the ECB’s apparent extortionate threat to withdraw its role as lender of last resort. Although membership of the euro constrains our monetary policy, membership was also supposed to give us a colossus of a central bank inFrankfurt to provide a lender of last resort service. So as long as the assets in Irish banks were eligible then the ECB had to, that is, didn’t have discretion, provide liquidity funding to those banks. There seems to be an acceptance inIreland that we are somehow getting a premium service from the ECB in it providing a lender of last resort service – this isn’t the case at all, it is the role of a central bank to provide a lender of last resort service on eligible assets. But in return for this perceived premium service, we have promised, in return, not to burn bondholders. If we hadn’t joined the euro and relied wholly on the Central Bank ofIreland, I cannot imagine that institution demanding that bondholders in insolvent Irish banks be repaid with funds provided by Irish citizens, in return for providing a national lender of last resort service.
YouTube version here – will be available longer than 7 days (the limit the iPlayer puts on it) and is GeoIP-free:
The Banking Putch formerly known as the European Union deserves a lot of blame for the current banking crises. However, I sense a very broad attempt by Irish society to shift the blame entirely from Ireland to Europe.
Certainly the ECB is by now a pathological organisation whose policies are only making the situation worse. But they are NOT entirely to blame. Senior Irish figures are also deeply a fault, and in particular Brian Lenihan should not and must not escape responsibility for his actions as Minister for Finance by simply claiming he was “bullied” or “pressured” or what have you. He was the Minister; the ultimate decision was his, and so is the responsibility for it.
That said, the ECB is very culpable in all this. As main Putsch backer, it has lead the charge to destroy the EU from within by pawning it off to bankers and market traders. If the ECB continues to dominate this crisis, I foresee irreparable–truly irreparable–damage to the European Union as an institution, social model, and ideal for the continent. It is possible that this damage has already been done, in Ireland at least.
Certainly the ECB’s conduct should be challenged, but the criticism should be grounded in a clear view of what central banking is supposed to be about. I’m with Bagehot: faced with a bank-run, a CB should only lend to solvent banks and it should do so at penal rates. By all means give possibly-insolvent banks the benefit of the doubt. But in the case of the Irish banks there really wasn’t much doubt. If they were forced to pay penal rates for any length of time, even their very indulgent auditors would probably have questioned whether they were going concerns.
So for me, the real sin of the ECB is not the unreasonable demands it made in return for propping up the banks, but the fact that it sought to prop them up at all. AFAICT that’s where some of the German critics also stand.
Re “If we hadn’t joined the euro …”:
If we had not joined the euro then we could wreck our national currency as we pleased and any bondholders would know that the Irish nation was the lender of last resort and the regulator of the value of its currency.
However, we share a common currency and the lender of last resort and the regulator of the value of the currency is the ECB and it does not wish to wreck the Euro as our recent national policy makers might please.
So, given that we joined in the common currency we should exercise a social conscience towards it.
My philosophy system “Effectuationism” has to this to say:
“Ethics: The individual as an individual in tension with the individual as a member of a community.
In the case of a society: the society as a society in tension with the society as a society amongst societies.”
Maybe our academic philosophy departments should take more of an open interest in this philosophy system. I see it as a major upgrade from the Bronze Age informed concepts that prevail pretty much globally.
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G’day Friends,
We are in thrall to the ECB et al precisely because we have failed to rein in our domestic spending. This situation will continue until we take the necessary measures, to wit, cut Public Sector earnings by about 30%, effect a similar reduction in the overall cost of social supports and increase taxation to the point of balance.
This latter can include a judicious adjustment in corporation tax, for example, increasing the rate applicable to the FIRST €1m profit per accounting period to about 25%.
Those measures taken, we can toast whom we wish.
Were we to carve out such a halcyon disposition our esteemed friends in Frankfurt would stand absent any significant influence in our affairs.
They could of course make noises about their “support” for “our” banks but should it not suit their convenience to wait then let them come try collect.
We have it in our own hands to restore our sovereignty and provided we concede merely fair play to all citizens, we could do it now.
All the best to all,
Sincerely,
Eric.
“This latter can include a judicious adjustment in corporation tax, for example, increasing the rate applicable to the FIRST €1m profit per accounting period to about 25%.”
I don’t like that particular suggestion as the proposed rate is too high and it would penalise SMEs who need to retain earnings. My suggestion is to to alter the CPT rate on a temporarty basis by means of a levy* in order to help secure acceptance of a “rescue” plan based on the existing EU/IMF/ECB bailout terms but incorporating a restructuring some of bank bonds and slashing the interest rate* on bailout loans.
* For example, a levy on top of the current 12.5% CPT rate of, say, 3% to apply for the duration of the EU/IMF/ECB deal.
** Based on the ECB rate (currently 1.25%) applicable to the liquidity support measures for Irish banks rather than the current 5.8%.
IMHO, measures of this magnitude are required to prevent Ireland defaulting on its sovereign debt. More at http://www.planware.org/briansblog/2011/04/changing-corporation-profits-tax-rate-is-a-red-herring.html
@Brian, on corporation tax it seems financially illogical to raise CT rates in return for a reduction in bailout rates as both measures would lead to short term boosts to national income. The only logic to such a deal would be the trade of an appeasement of French/German demands for an increase in CT rates which would help their economies in return for a reduction in the interest charged on our bailout funds. If that is the logic however then why would Germany/France agree to a temporary levy – wouldn’t they want a permanent removal of what they see as an anti-competitive tax rate?
Secondly, what impact do you think a 3% levy would have on CT income? If our CT income is €4bn today then on a very simple basis, increasing the rate from 12.5% to 15.5% might add €1bn a year to our state coffers. But how would the behaviour of corporations change? Would Google etc just divert income to Cyprus and Malta so that the income on which CT was charged reduced? Are you confident the reduction in income on which CT is charged (as that will inevitably be a consequence of increasing rates) will be substantially offset by increase CT receipts? If the income on which CT is charged were to reduce by 10% for example because MNCs routed their income through lower taxation EU countries, then the €4bn tax receipts would only increase by €464m, if income reduced by 20% then the €4bn tax receipts would *decrease* by €32m to €3.968bn. It seems like a risky strategy to me and correspondingly if we defend the CT rate to the death, then MNCs will see how serious brand Ireland is about keeping the 12.5% rate.
@Eric, I totally agree that we need get our national income and expenditure back in check so that we spend only what we earn. It seems scandalous that our political establishment is taking nine years – yes nine years, 2008, 2009, 2010, 2011, 2012, 2013, 2014, 2015, 2016 to reach a 3% deficit (and by 3% deficit I mean that what we spend less what we earn is 3% of our GDP – in 2011, it’s likely to be 10%). No wonder our neighbours laugh at us. Of course countries experience shocks from time to time, war, oil prices, asset bubbles bursting, internal political turmoil. I have not done any detailed study of countries reacting to shocks but I can’t think that many of them took nine years to rebalance their economies – I have a feeling that most economies had reacted to the 1973 oil crisis by 1981, the depression in the US was finished by 1938 – as I say I haven’t studied the matter in detail but it seems to me that we are taking forever to rebalance our economy, and for once that must unequivocally be laid at the door of our government. Because a country running a large fiscal deficit is inherently weak because it will need rely on “the kindness of strangers”, and like Blanche Dubois in a Streetcar, there is something inherently tawdry, immoral and irresponsible about being in such a position. And by the way, I note the IMF now don’t think we will get below a 3% deficit before 2017. Ten years to rebalance an economy?
Cutting salaries and social welfare by 30% may indeed be what is needed but for many families and citizens who are barely surviving at present, this will finish them off. What we need is the cost base of citizens – food, energy, transport, housing, clothes, education, health etc – reduced and we need have some better mechanism for dealing with legacy debt, that is debt for housing which will not be recoverable for decades. We need the rapid development of personal bankruptcy legislation and a change in mentality that bankruptcy = mortal sin. If we can deal with our costs and legacy debt then we may indeed be able to get 30% reductions in public sector salaries and social welfare without anarchy on the streets. We have two well staffed competition authorities in the State which are as useful as chocolate teapots. We need competition authorities that will be “in the face” of retailers/suppliers in the state to get the cost adjustments we need so that we can cut state expenditure.
As for CT changes, I see the current provocations from Germany/France as an opportunity for Ireland to display and parade its commitment to the rate, and a change to the rate should only be contemplated if the benefits will clearly outweigh costs over a 10-20 year period.
@NWL
Yes, the logic for the increase in the temporary CPT rate would be to purely to appease Germany, France etc. and more importantly provide a basis for seeking a much lower interest rate on the bailout package (i.e 1.25% vs. 5.8%) as well as agreement on restructuring of some bank bonds. The idea is we offer something that they might sell to their electorates (even if it is only a temporary thing) and in return we seek support for measures that should head off a sovereign default (which IMHO is inevitable based on projected debt/GDP %, prospective growth rates and cost of servicing the debt). If default is not inevitable, the chances of it are very high and consequences would cost far more than early treatment. In my blog I refer to the prospect of MAD (mutually assured destruction) if all sides don’t concede something significant.
On your second point, I was advocating increasing allowances etc. to offset any increase in tax receipts arising from the levy so that it would have a broadly neutral impact. The levy would be purely a political measure and not intended to be a revenue raiser. I know that the French and German electorates are not stupid but it would give their politicians something to show.
Of course, we would have to agree to execute the updated MOU to reduce the Exchequer deficit with no backsliding. This includes tackling (still) extraordinary salaries and pension arrangements in parts of the public sector; curtailing ridiculous high fees and prices in some professions and non-traded sectors; applying further cuts in social welfare; introducing property and water taxes; and so on.
G’day Brian and NWL,
@Brian,
1) My suggestion would impose additional taxation at maximum of €125,000 per annum per corporation and is not therefore likely to impact unduly upon FDI concerns.
2) My suggestion not aimed at generating a concession from the ECB et al. It is my precise point that we must remove ourselves from any need for such a “concession”. It is a mathematical certainty that we cannot restore balance without recourse to some additional taxation. Corporation taxation must be prevailed upon to make some addition.
3) Our corporation tax comprises a shelter for many high-rate taxpayers. It allows income which would otherwise attract direct taxation at up to 54% to be retained at the discretion of the taxpayer – provided she does not actually spend it on personal outgoings.
4) All companies, save those actually engaged in trading activity, currently already pay 25% corporation tax. Even at 25%, in the context of personal marginal direct taxation rates aforementioned, it is still a gross concession.
5) The fundamental problem facing most SME’s currently is that they lack, not taxable profits but rather empowered customers. Customers will spend conditional upon two prerequisites, firstly, that they can be assured that the financial sky is not about to fall upon then and secondly, that they actually have some money in their pockets. Profits taxable at 25% will be of far greater use to SME’s and other enterprises than zero profits at any low rate you might care to nominate.
@NWL,
6) Learned commentators(eg “This Time It’s Different) suggest that it will take typically ten to eleven years to recover from our type of difficulty. Our fabled Four-Year-Plan at Appendix A.1.1 indicates that our difficulty commenced towards the end of 2005 when the current fiscal structural imbalance first came to attention. On this basis, a 2016 re-balancing date just about conforms with the norm in such things.
I suggest there is no good reason why we should faff around in this process and that we should move directly to rectification, no passing Go, no collecting £200, just get on and fix things.
7) Currently, average earnings in the Public Sector are about 50% in excess of those in the Private Sector. True, cutting Public Sector salaries by about 30% would impose much hardship but this is merely to point to the average hardship experienced by those working in the Private Sector. It is this to which I refer in seeking fairness amongst citizens. It is simply outrageous that 80% of us should fund the (comparatively) profligate lifestyles of the other 20%.
8) Such profligacy would be bad enough were it funded out of taxes but, as it is, we are to be required to borrow to pay for it. This is simply unjust.
9) When I suggest a 30% cut in social protection expenditure, I do not say that we should cut all rates.
10) I would certainly suggest that we eliminate child benefit payments. On such an account we should consider a progressive reordering of the FIS scheme so that only those in need of child benefit payments receive the same or some of it. Similarly, child dependent payments could be increased. The essential point is that we should not under any circumstances make transfer payments to those who do not need them. “Need” in this case may be a relative term. Better perhaps to think in terms of “those least worst off”.
11) I would also suggest that we should moderate reductions in favour of those in receipt of whole-of-life payments, disability, blind and State (Old Age) pensions.
12) Average Private Sector earnings are running at about €31,000 per annum. Working life protection payments should not exceed about 27% of such payments, let us say about €150 per week for a single unemployed or temporarily disabled person.
13) The cost of energy, transport, housing, education and health are, in substantial part, a product of excessive Public Sector earnings. Various figures have fallen into the public domain in recent days as to the ESB, Bord Gáis and so on. One which is not recently mentioned is that average earnings in Irish Rail are fully 10% in excess of the Public Sector average ! The aggregate impact of re-coupling earnings in these industries would be to reduce hardship. It would also radically improve competitiveness.
14) The processes driving food and clothing prices are a little more indirect and arise in the first instance through excessive municipal rates driven by, you can guess it, excessive Public Service Earnings.
15) Chocolate teapots ? Public Sector chocolate teapots ! There really is no way around this. Unless we cut Public Sector pay as I suggest, we will not rebalance our budget.
16) The bottom line is this. We are in thrall to the ECB et al because we wish to borrow money. These borrowings are to be used to perpetuate the payment of grossly excessive salaries to our Public Sector employees. There is every reason in fairness to cut back on these excessive payments. That done, there is no reason to borrow.
17) The ECB’s stranglehold thus disarmed, we can then make a reasoned choice from within our own preferences and priorities as to what we should do with bondholders of all descriptions. Sadly and as to those which were guaranteed by Minister Lenihan, I think we have no choice but to strike some sort of deal, longer term, higher rate maybe, conditional, for example, upon a satisfactory out-turn on NAMA, or a GNP average of 4% over the ten years to 2021. As to those unguaranteed and subordinate debt besides, I have a tune for them:
“I wish I was in the land of cotton,
Old times they are not forgotten;
Look away! Look away! Look away! Dixie Land.”
(Chorus to be whistled……..)
All the best to all,
Sincerely,
Eric.
@Eric, sad to say I have not read Carmen M. Reinhart & Kenneth S. Rogoff “This Time Is Different:Eight Centuries of Financial Folly”. I did study in 2007 Charles Kindleberger’s “Manias, Panics, and Crashes: A History of Financial Crises” but don’t recall anything in it which would predict the time taken in a modern economy to recover from a crash.
I don’t suppose you have more detail to hand on what R&R say on the subject. 10 years seems like a very long time for a modern developed country to restore a balanced budget.
@NWL,
R&R are a bit drier than Kindleberger, not such a good “read” but worthwhile as a dipper-inner-outer.
I have to say I found some of their stats, particularly their total for our external indebtedness to be quite surprising.
To answer you, fundamentally they point to an expanding economy as being prone to “overshoot” in the period leading up to a crisis, too many bagel bars and barber shops, with the result that the climb-down is all the more difficult as these excess enterprises are sifted out of existence. As I read it, I could almost smell the excesses on our high streets and in our other various markets.
Their estimate as to timespan, roughly 10 years to peak and ten years to contract, is based upon their statistical analysis of the experience in, I think, about thirty economies besides. If I recall correctly, it is a little while since I read it, they do not forecast fiscal balance as such but rather the time taken to return to ‘normal’ economic growth.
There was a later paper, about one year after, which updated the statistics including as for Ireland, with one of the authors as collaborators. Search each separately and you will find it. This paper will give you the essence of the book, more or less.
E.
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