Traditional Extortion (scene from HBO’s The Sopranos)
Mafiosi Patsy and Burt enter what looks like a half-empty Starbucks coffee store
Patsy [peering at name badge] Manager Adare. Welcome to the neighbourhood [shakes hands] We’re from the North Ward Merchants Protective Co-operative
Manager: I’m kinda busy. Are you guys looking for a donation?
Burt: Let him finish
Patsy You may have noticed, not to denigrate anyone but this is a transitional neighbourhood; I mean demographically speaking, you still have a lot of marginal types
Burt And we Merchants have found that you really should have some round-the-clock security here
Manager Isn’t that what the police are for?
Patsy They do their best but they got their hands full. Your weekly dues to us will give you all the supplemental safety net you’ll ever need
Manager I can’t authorise anything like that. It would have to go through Corporate inSeattle
Patsy We Merchants prefer to deal on a personal one-on-one basis
Manager I don’t have any discretionary funds. It’s gotta go through Corporate
Burt How do you think Corporate would feel if, for the sake of argument, somebody threw a brick though that window
Manager They’ve got like 10,000 stores inNorth America. I don’t think they’d feel anything
Patsy [menacingly] What if, God forbid, it wasn’t just vandalism. What if an employee – even the manager, say – was assaulted
Manager Look, every last fucking coffee bean is in the computer and has to be accounted for. If the numbers don’t add up, I’ll be gone and somebody else will be here
Patsy [giving up, walks back outside with Burt in disgust and laments] It’s over for the little guy
ECB Extortion
“In the meantime, we may have to come to the conclusion that it doesn’t really make sense for the ECB to keep putting €100 billion into Irish banks. What we are doing is actually illegal, but we have being doing it because we want to helpIreland. Maybe we might come to the conclusion that we should stop,” said the ECB source (Sunday Times inIreland– Sunday 19th June, 2011, not available online without subscription)
Spot the difference between the above two threats? The main one is that in the fictional Sopranos example, the manager of what looked like a Starbucks store told the mafia to get lost. In the second example,Irelandagreed to repay some €57bn of bondholder debt in banks in return for the ECB agreeing to continue to provide liquidity to our banks. This entry has a stab at exploring the economics of both.
Now traditionally, and in certain venues still in this country, extortionists demands a weekly protection payment. Otherwise the owner or their family gets harmed or the venue is damaged or destroyed. The demands are usually fixed sums of money, extortionists don’t usually do percentages of revenue and audit management accounts. So the owner does a calculation and works out if the venture can still return any value to him whilst paying the extortionists. If the extortionists demand too much then the owner might walk (quickly and far) away. But the point is, there is a calculation where the victim weighs up the costs.
The second example of extortion is what now appears to be what governor of the Central Bank of IrelandPatrick Honohan referred to as “influence” brought to bear by “the people” during Ireland’s bailout negotiations in November 2010. This “influence” didn’t make it into the Memorandum of Understanding, though it might have made it into the secret side letter. By way of background, as we all know, Irish banks relied less on customer deposits during the boom and sought funds by issuing bonds. And both the customer deposits and bonds were lent out to customers, often to buy or invest in property and again, as we all know, these days those loans are in bad shape. Worse, depositors have withdrawn much of their funds and our banks can’t get any new funding from the bond market that regards Irish banks as close to basket cases. So our friendly “North Ward Merchants Protective”, the ECB steps forward and sympathises with our predicament and offers us €100bn (from the Sunday Times article above) to replace lost deposits. It provides the €100bn at cost, 1.25% today, which is very good value indeed because Irish banks can’t get funds at that rate or at all. In fact the ECB might be, God forbid, breaking the law by providing this non-standard liquidity to what might be insolvent banks. The non-standard liquidity is provided mostly on a week-to-week basis and the ECB has extended the programme a few times, most recently to September 2011. So as things stand today, Irish banks should be able to remain liquid until September 2011 (at least). The ECB refuses to offer us a medium term facility even though the IMF says it would be appropriate.
But, in return for that funding, the ECB demands that “we” repay all senior bondholders in Irish banks – €21bn of guaranteed, €20bn of unguaranteed secured and €16bn of unguaranteed unsecured. And the “we” is effectively the Irish citizen because the banks are bust and we are putting €70bn of “our” money into the banks. So how are we dealing with this extortion, what calculation do we make?
Like the victim of traditional extortion we should be weighing up the costs. Walking away would mean the ECB withdraws its cheap money (which doesn’t cost it anything remember) and the Irish banks would collapse and remaining depositors would lose their money and we would have social unrest as we got used to living in a cash economy (the cash being what people had squirreled away under their mattresses). Of course potentially there would still be a post office and credit union network and local branches of foreign banks but Bank of Ireland and AIB (and their associates Permanent TSB and EBS) would disappear. In fact the fallout might be so great that we might have to leave the euro which might mean any deposits in Irish banks might be converted at €1=IRL £1 but if you tried to exchange your IRL £1 you might only get €0.50 and because we import a lot, costs would shoot up, petrol would perhaps cost you twice as much which would be a difficulty if your wealth was mostly in savings. Of course wages and social welfare would also increase in IRL £ but many would see their standard of living fall. If you mention all of this to most economists, they will roll their eyes as if you are talking fantasy – yes, it’s the theoretical nuclear option but in practice it will never happen. And if we lose the euro, our image will certainly be tarnished by foreign investors who seeIrelandas a small, flexible economy in the EuroZone and the EU with a decently-educated workforce, low corporation tax, okay infrastructure and English-speaking. If we lose the euro, the foreign investors will see currency exchange risk but also more broadly regulatory and political risk.
So what’s the calculation? How much is it worth to us to keep our existing banking system and potentially the euro? €1m, €1bn, €10bn, €57bn, €100bn, €1tn? Logically there is an answer. And I don’t think it is anywhere near €57bn. By the way, why €57bn when only €16bn is unguaranteed, unsecured? Well, we can potentially legislate to undo the guarantee and we have such powers under the Credit Institutions (Stabilisation) Act that we can play about with the notion of “secured”. Add into the mix that there might not be a EuroZone in the next six months as we confront the Greek crisis and as the larger EU countries get to grips with their own banking issues – Spain and Germany being good examples of countries with different types of difficulty, Spain being suspected of nursing undisclosed property-related loan losses and Germany brushing the losses under the mat and hoping things improve before losses need be crystallised. InIrelandat least, we have confronted full-on our banking losses with NAMA, stress tests, intense IMF/ECB/EU supervision and a beefed-up regulatory system. Add also to the mix that the ECB might withdraw its non-standard liquidity arrangements in September 2011 (or August or July 2011 if it feels like it) and anyway the ECB says it might be illegal to provide Irish banks with any liquidity; there are also rumours that a medium-term facility might come from the EFSF which might end up charging is 3-4% for a three year facility.
This entry didn’t set out to quantify the extortion cost which would tip us towards one course of action rather than the present course. It just set out the principle that at a certain point, we walk (fast and potentially far) away. Maybe in our “re-negotiations” we should have a good idea of that cost, because from this perspective if we are committing to €57bn of senior bond repayments in bust banks, then we should be walking away, even if it means all the mess outlined above.
NAMA Wine Lake 
So if we walk away does that mean that we would have to reduce our deficit to zero quickly and Morgan Kelly would once again be proved right in his prediction? Maybe we should be preparing for the worst now but that would require some foresight and forward planning skills in our Government. Can anyone recommend a safe place for deposits other than under the mattress?
@bolshevik, we have a Memorandum of Understanding with the EU and IMF which provides Ireland with up to €50bn over the period 2011-2013 to fund the day-to-day deficit. That MoU compels us to deliver a reduction in our deficit and we are on target with that (in fact probably slightly ahead). So in terms of that agreement, no we don’t need reduce the deficit to zero immediately, it looks like our creditors believe it will take another six years during which time our GDP will grow by a compound 13-16% and with 6 years of emigration taking the strain off the system here and another 13-16% of national income which we can tax, there will be a cushioning of our efforts to reduce the deficit. There will still be a LOT OF PAIN, in terms of cutbacks and new taxes, so the key Morgan Kelly question is whether the cushion over six years is sufficiently valuable to not reduce the deficit today – there are differing opinions about the answer.
The Memorandum of Understanding does not mention the repayment of bondholders and we know the IMF is supportive of burning the bondholders
Is the memorandum of understanding with just the IMF and the EU or is it with the Troika.
ie. the ECB as well as the IMF and EU?
The troika,
Here it is
Click to access cr10366.pdf
I’ve been following your blog for some time. Just excellent. Thankyou so much for taking the time to investigate & inform us.
Your point in this post is very well made. Just exactly whose interests are being served by the ECB deserves widespread scrutiny imo.
A little tangential to your post, but still relevant I think, is the question I’d like to raise. It’s about the current Greek crisis, but highly relevant to Ireland’s situation.
We are told by ‘authorities’ that there must be no default (by Greece, or us) otherwise the ripple effect would be calamitous to the Euro/EU banking system. (One would think that the ‘media’ might show some interest in examining precisely why this should be the case, but that’s another can of worms for another discussion.) So… if that’s case, why has there been no discernible movement in the exchange rate of the Euro to other major currencies – certainly the $US & £Stg? Barely a ‘nudge’. Surely the financial markets ‘insiders’ know what the true picture is? Well, I’m tempted to conclude this means one of two things… A) there really is no great risk of contagion from a Greek default/departure from the Euro..or B) the contagion risk is more or less identical across banking in the US, UK & probably other countries too (Japan? Korea? others?) that are highly connected in our globalised world.
If the snippets of information about the US (Timothy Geithner) and other areas talked about on other blogs like Golem XIV (don’t know if you read it?) are any indication, then conclusion B) seems the obvious choice. And if things are that serious then what we’ve seen so far of the horrendous levels of toxic debt, sheer incompetence (being kind) of ‘authorities’ in banking, its regulatory bodies, politics & media, over many years, is only the tip of the iceburg.
So, to refer back to the ‘calculation’ of your post, just how much ‘debt peonage’, how long & encompassing which country’s populations’ (in their ‘turn’, as the skittles fall) is to be endured by ordinary citizens, demonstrably not responsible, to repay the losses of this near global financial sector casino/’pyramid’ scam? (And to keep obscured the true responsiblities.) Would the debt peonage ever be reversed? What is to stop the next casino bubble? Is this effectively the end of even the deeply flawed ‘democracy’ we have now, is anyone really representing the interests of ordinary citizens where decisions are made?
But if all (or most of) the world’s major currencies (& banking systems) are equally up to their necks in ficticious balance sheets, then why can they not get together and agree, as currency soveriegns, to issue a one-off program of interest free ‘loans’? Loans to clear all the toxic debts off the system. Loans, that in fact never need to be repaid – the prerogative of any sovereign currency issuer that possesses a computer keyboard. (Tho’ the keyboards need to be retrieved from the private banking cartels.) Of course, this may involve some very public admissions, myth busting & ‘free lunch’ busting reforms that the banking elites have kept to themselves for a rather long time.
@Mike, a very good question, my tuppence worth is that the inflationary quantitative easing in both the US and UK coupled with the fact that the core of Europe is economically performing quite well has kept the exchange rates relatively stable. If Europe signalled quantitative easing to deal with legacy debt I think we’d have dollar/euro parity tomorrow.
On QE – yeah the stock answer is a weaker currency, but I’m not convinced. I think the euro could strengthen as the markets might view it as providing a workable solution. At present there’s the possibility of a euro break-up, of member states defaulting and very low growth rate outlook for the periphery.
If you introduce a QE programme that relieves these problems, it may more than offset the printing effect. That, and I don’t think markets know how to price for QE ;)
“If the numbers don’t add up, I’ll be gone and somebody else will be here…”
It seems our democratic prescription missed out on this element.
Ireland’s leadership have not and will not be making decisions based on the economics of the situation. They’re also not thinking long term.
The deal is this: if you don’t burn our bondholders, we’ll lend you the money to repay them and kick in some extra cash to fund your bloated public sector for a few more years.
Just like in the boom years, Ireland is living for the moment. Like a primitive people.
Shut down all the quangos in the morning and cut the remaining public sector’s pay to that of a second world country. Voila – no more deficit, no need to borrow!
“Shut down all the quangos in the morning and cut the remaining public sector’s pay to that of a second world country. Voila – no more deficit, no need to borrow!”
Aren’t you missing something?…What about Social Welfare?
As regards the strength of the Euro, the Euro core is very solid and the possibility that the PIIGS will be stripped away over time is good for the currency.
This post reminds me of this:
http://www.waterfordwhispersnews.com/article.php?id=249
The “burden sharing” allowed by the memorandum of understanding with the troika covers only the subordinated debt in Anglo Irish Bank. It is completely delusional to assume that Ireland has funding until 2013 if it breaks the conditions of the MoU. Just like Greece, you have funding until the next review…in case of default, you have no funding.
@jck, what condition of the MoU would Ireland break if it refused to pay, for the sake of argument, senior unguaranteed unsecured bondholders at Anglo?
The burden sharing is explicitly limited to the subordinated debt in Anglo Irish Bank. To do more you need to put the banks in administration, and wipe out equity and everything else junior first. The problem of picking and choosing outside of bk court is that it will make it more difficult to return to mkt. UIt’s not a wuise option (depositors will lose and gov can’t pay guarantee without outside help)
I believe the ECB would very likely let you do whatever you want to bondholders, if the funding received under “non-standard” monetary measures is moved to ELA, that is at your (Ireland) risk instead of Eurozone taxpayers.
@jck, so you’d agree that there is nothing in the MoU to prevent burden-sharing with the illustrative Anglo snr ungteed unsecured bondholders? Remember Anglo has no deposits, just some loans. So to place Anglo in administration would hardly be the worst move, or indeed a very painful move. Would you agree? You seem to take the position that there is some MoU agreement not to burden-share with snr unguaranteed bondholders, I was just wondering where you explcitly found that commitment.
@NWL
Ahem ! Promissory Notes…………….zzzzzzzzzzzzzzzzzzz
You say administration but presumably you mean liquidation.
We could buy back the notes, I assume.
That would certainly be a step forward, depending upon price of course; and the ‘currency’ we use to pay for them.
@Eric, indeed liquidation as it seems agreed there is nothing there that might warrant examinership or receivership. I incorrectly used administration as that is the term used by jck which might betray UK roots?
As for the promissory notes they are exactly that, IOUs which the Central Bank of Ireland deems acceptable to advance funding to INBS and Anglo. As to their status as part of national debt, that’s not quite clear. They are generally regarded as part of the General Government Debt, but since we own Anglo and INBS they could indeed presumably be bought back at what ever we dictated, or nil.
An Interesting Article.
“They rule from a moveable, intangible palace: Sometimes the orders seem to come from Brussels, sometimes from Frankfurt or Berlin, sometimes from a Luxembourg castle or maybe just via a dinner-time teleconference over a dodgy line and lukewarm coffee.
But wherever these masters of the European universe happen to be hovering at any one moment, the refrain in effect is the same: ‘Of course, there is no question that you are still allowed to vote however you like. Nevertheless, the policies absolutely cannot change even if the government does.’
And in seeing how easy it is to intimidate democracy, they have have now gone so far, it appears, on the verge of decapitating a government.”
http://euobserver.com/9/32501
There would be no problem IF as the minister has said Anglo is no longer a bank, but it is still a bank de facto, if it gets funding from the CBI. If it’s only ELA, then it should be possible to work something out with the ECB since this is on your tab, not theirs and that “bank” is clearly being liquidated.
@jck, where does the MoU say that snr unguaranteed bondholders in de facto banks must be repaid?
It doesn’t say it, it says explicitly what is subject to burden sharing and that’s “subordinated debt” in Anglo Irish Bank.
@jck, that being the case that the MoU doesn’t say it, then under contract law there is no obligation, is there, for Ireland as a party to the MoU to pay snr ungteed unsecured bondholders in Anglo (a de facto bank without deposits). Would you agree with that view?
@NWL
On the other hand…
Who is holding the blessed things currently ? Is it the CBOI ? Or the ECB ? Let us assume we have nine equal installments falling due. At YTM of 11%, we should be able to re-acquire at a rate of 58.4% of face. Offering thirty year bonds at that value with a coupon of say 3% (Well, either we are a Euro-area country or we are not) would comprise a significant reduction (c.€12Bn) on our National Debt. Supplanting 5% pa plus a yearly “repayment” obligation with merely a lesser coupon and repayment fobbed off into the dim-and-distant seems to be precisely the sort of thing we need right now. If on the other hand, the monies advanced on foot of these IOU’s by the CBOI comprises our fabled cash reserve………
It would be nice to be paid the compliment of being told precisely how it is that our National Finances are being managed right now, including in particular the extent to which our hard-earned is out on trust to the equivalent of a tontine society.
I agree, I just don’t think it’s wise to proceed that way, at least if you value the implied subsidy to your banks coming from the ECB “non-standard” measures funding (€100 bln of it that’s worth easily €4/5 bln a year, and started long before the IMF came in).
@jck, that’s the point. It’s not part of the agreement but it seems to be emerging that it is the quid pro quo with the ECB to continue to secure 1.25% €80bn of non-standard liquidity. The point of the entry above was to pose the question : how valuable is that facility? Remember it might disappear in September and might be replaced with the EFSF charging 4% for 3-year money. Plainly it is a valuable facility. But if Ireland played the cute hoor with bondholders there might be €57bn that might come into play. That would involve a revocation of the guarantee – remember the guarantee is to the banks, it is not sovereign debt as exists between bondholders and the Irish state and some draconian intervention under the Credit Institutions (Stabilisation) Act to “unsecure” secured bondholders.
How much do you think the ECB’s protection is worth?
ECB’s protection is worth a lot of money. If Ireland goes completely bust, banks and collateral completely worthless, you exposure to the €100 bln funding is 1.59% and the ECB/ESCB (eurozone taxpayers) 98.41%. Alternatively, if you put all this funding under ELA, you have €100 bln exposure under EU law, which means you will still owe euros if forced to leave the zone and go back to the punt. Extremely unlikely but nothing can be ruled out.
@jck, absolutely the ECB protection is valuable, no dispute there at all. But Ireland won’t go completely bust, we’re funded for the next 24 months and if it looks as if there will be no bailout no 2 or access to the markets then we will need balance our budget in two years, not 5 (or 6). Our banks would go bust if the ECB withdrew its non-standard facility and there was no replacement (eg the EFSF). And if our banks were to go bust, we would either have to learn to live with the credit unions, post office and local subsidiaries of foreign banks plus deal with depositors that mightn’t get their money back plus have huge social turmoil. Or exit the euro. Normally at this point, eyes glaze over at what seems like armageddon but how much is all that worth? €1bn, €5bn, €10bn, €57bn?
If the ECB withdraws the non-standard facility liquidity, the CBI will provide liquidity through ELA, so the banks won’t go bust because of that, they will just have to pay a bit more, and it is likely that by then the ELA will have a term facility.
Nobody has an incentive to put Ireland in trouble and normally everything should be fine (this is not Greece), but there is a “freeriding” problem here.
Ireland receives a massive benefit from the “non-standard” facility and it is rational for the gov. to postpone the recap of the banks as long as possible and equally rational for the ECB to want to get out of the situation.
@jck, aah but does Ireland receive a massive benefit at a cost to anyone else? The ECB is getting 1.25% on funding it creates itself, so the ECB isn’t financially losing out though plainly it has risk. The entry above tries to explore the cost of telling the ECB that “it has to be okayed by Corporate in Seattle”. It doesn’t look at the situation from the point of view of the extortioner, and that might merit another entry.
NWL, Love your, by now indispendable, blog. Avid reader since being pointed in your direction by Karl Whelan on IrishEconomy.ie some time ago
Doesn’t jck have a point here “If the ECB withdraws the non-standard facility liquidity, the CBI will provide liquidity through ELA….”
If the ECB take their €100bn football off the field and sulk off home, surely the CBI can continue the smoke and daggers operation whereby dead, guaranteed Irish banks which are unable to borrow, issue bonds to themselves which they then hock with the CBI. Understanding the price of everything and the value of nothing, the CBI gives them ‘real’ cash balances, the €100bn required, in return.
I’m sure I’m missing the obvious. This ELA trick had me stumped from the beginning. I’m sure the ELA-Emporer has no clothes, but we’re too polite to notice.
@NWL
Well done on this for describing this as extortion. I would have thought blackmail may have been closer to the reality, but what the hell.
To threaten the implosion of a country’s banking system, was a full on threat of economic war by the ECB. It should have been treated as such. I note that the ECB has not denied it yet. The Irish governement are so supine that they have not the temerity to protest. We have become a nation of cowards and beggars. Well done to that cleaner in the Sofitel hotel and to the NYPD. They had balls. The Irish don’t. All the fine calculations about low cost ECB bank funding is just a coward’s calculation that he will survive until the next time by keeping his head down and crying or praying.
As for the ECB, as another blooger said, ‘Go ahead, make our day’.
Could not believe my eyes when I read the article on the front page of the Sunday Times brazenly saying that the money advanced to Ireland was “actually illegal”. Well when are the arrests going to be made? I am sure the Herr Professors who are going to the equivalent of the German Supreme Court to have all these aid packages declared “illegal ” will have very wide smirks on their faces after this massive admission of wrong doing.
If it is money advanced “illegally” then are we under any obligation to pay interest on illegal money and are we under any obligation to pay it back? What court can they go to and say we were acting ultra vires, we knew it, now Ireland refuses to hand the money back can you force them to. Maybe, we should call in the CAB to seize it and put it in a special suspense account while we are having one of those Tribunals that take 15 years to reach a determination as to whether there is a case to answer or not? Better again, Morgan’s idea of walking away and leaving them with the whole rotten caboodle of Irish banks may not be such a bad idea. I also believe we should cut our deficit immediately for strategic and survival reasons otherwise Ireland is definitely heading towards a chaotic default situation not too far down the road.
[…] to how Ireland has not undertaken a cost/benefit analysis of playing along with Frankfurt's way: https://namawinelake.wordpress.com/2011/06/20/the-ecb-and-the-north-ward-merchants-protective-%E2%80%…ichael Noonan on believing a threat that has never been openly made (and which lacks credibility […]