Kevin O’Rourke on the Irish crisis

by Henry on December 2, 2010

“Live at Eurointelligence.”:http://www.eurointelligence.com/index.php?id=581&tx_ttnews[tt_news]=2973&tx_ttnews[backPid]=901&cHash=484db55c3a An extract.

bq. The reaction to the news that Irish taxpayers are to be squeezed while foreign bondholders escape scot-free has been one of outraged disbelief and anger. At the start of last week, it was possible to make the argument that ‘burning the bondholders’ was irresponsible, since it would inevitably lead to contagion, and the spread of the crisis to Iberia. That argument has at this stage lost all validity, since contagion has happened anyway. Besides, the correct response to the possibility of contagion was never to engage in make-believe, but to extend taxpayer protection to other Eurozone members as required. Swapping debt for equity in a coordinated fashion across Europe would show ordinary people that Europe is on their side; but like the PLO of old, the European Union never misses an opportunity to miss an opportunity. It could have provided a means of kick-starting a new post-crisis growth strategy based on investment in the infrastructures we will need in the future; instead it has transformed itself into a mechanism for forcing pro-cyclical adjustment onto countries that are already sinking. It could have led the way in reining in an out-of-control financial sector; instead it now embodies the discredited principle that banks must never, ever, default on their creditors, no matter how insolvent they may be.

{ 43 comments }

1

Tim Worstall 12.02.10 at 4:25 pm

“The latter decision is the one that sank the country. It was the last great act of hubris of the Celtic Bubble, and was immediately denounced by one of the heroes of the crisis, my old UCD colleague Morgan Kelly. On the night the guarantee was announced, Kelly pointed out that while it was the right policy if the Irish banks were facing a liquidity crisis, it was a terrible policy if they were insolvent, which was in fact the case.”

That’s the takeaway point I think.

Without the guarantee it still wouldn’t be pretty but it would be manageable. With it, current events were inevitable.

2

mpowell 12.02.10 at 5:53 pm

So how have those bank bonds been handled? Are they indistinguishable from normal government debt at this point? Or are they still marked in some special vehicle carrying different rates than normal Irish debt? I understand at some point that if you guarantee the debt at any time there is no truly going back because it will deliver a huge kick to the value of that debt and allow the people who should be taking a haircut, to unload it on other suckers. But why no consideration at all of revisiting that decision and forcing those bondholders to accept some loss? Is anyone clear about the status of Irish bank bonds at this time?

3

mpowell 12.02.10 at 5:55 pm

Also, I don’t know what to call it (ironic sounds far too nice), but it seems that Germany is now requiring Ireland to pay reparations of greater magnitude than the former refused to pay post WWI. These people have lost their minds.

4

StevenAttewell 12.02.10 at 6:02 pm

mpowell – well from the firestorm piece, it seems that the bank bonds got put into something called NAMA (National Asset Management Agency). So that seems like one could revisit this part at least in theory.

5

Myles SG 12.02.10 at 6:18 pm

Swapping debt for equity in a coordinated fashion across Europe would show ordinary people that Europe is on their side;

How on earth do you swap sovereign debt for equity? I thought when you swapped sovereign debt, you got a big fat zero.

6

roy belmont 12.02.10 at 6:20 pm

Too big to nail.

7

IM 12.02.10 at 7:24 pm

reparations? Very funny. All I see is the other european countries paying huge sums to Ireland to finance their tax haven. Not to forget that Ireland was a net recipient in the EU from 1973 until… well, did they ever made net payer?

I did not vote a party in power because my great-grandfather did shot at somebodys else great-grandfather in a civil war in effing 1922.

Playing the insolent debtor and delusional bankrupt is a venerable irish tradition, but one can take ones culture a bit to serious.

8

Walt 12.02.10 at 7:38 pm

IM: You really think all of that money is staying in Ireland?

9

P O'Neill 12.02.10 at 7:41 pm

About the bank bonds.

The bonds covered by the guarantee are listed and tradable securities whose price can rise and fall with expectations about the credibility of the guarantee — so they have had a tough time recently. As these bonds become due, the banks have had to dig into other resources to pay them off, which in practice means finding other stuff that can use as collateral for ECB loans, and then rolling these loans over. The collateral could be Irish or other European sovereign debt, or other loans that meet ECB ratings requirements. Recently added to the collateral are the NAMA bonds i.e. the paper that the banks get from the government in return for their dodgy loans, which the government purchases at a discount. So the original bank bonds are still out there, albeit being retired over time with de facto European assistance, while there are also the new NAMA bonds which are the flip side of the government’s bad bank operation.

The big picture is that over time, the composition of Ireland’s creditors is changing from other banks, investment funds etc, to official institutions — ECB, the EU (once the new loan is activated), and IMF. Which will make any restructuring even harder.

10

IM 12.02.10 at 7:52 pm

No, when you borrow from a new creditor to pay off your other creditors, you don’t keep the money. Why should you ? And why do you blame the new creditor?

You keep the half-finished palace you never could afford anyway, though.

11

IM 12.02.10 at 7:55 pm

-> 9: So not paying the bond holders means right now: Not paying the Irish government and the ECB?

12

P O'Neill 12.02.10 at 8:10 pm

#11

Increasingly, yes. If an Irish bank in the morning decided on its own not to pay bondholders, the guarantee would get called and Irish government would have to pay. And they don’t have the money — they would have to borrow it at hostile yields of the moment. They can stave it off by pumping these NAMA bonds into the banks, which they then use as a collateral for ECB loan to keep servicing the bonds. But it’s unsustainable, which is why the loan was necessary.

The country got sandwiched. The ideal time to not pay the bonds was September, 2008. But that was when everyone said the lesson of Lehman was that you have to pay. As Tim says above, once the guarantee was put in place as a solution to that problem, the options dwindled ever since.

13

roy belmont 12.02.10 at 8:31 pm

Oddly the “get Assange” push seems to have ramped simultaneously with his threat to release “the documents of one of the largest banks in America”.

14

EWI 12.02.10 at 10:02 pm

@ Roy Belmont

Oddly the “get Assange” push seems to have ramped simultaneously with his threat to release “the documents of one of the largest banks in America”.

Assange for Nobel Peace Prize next year? myself and some co-workers were talking about Wikileaks today (between the banksters and the weather, there’s nothing else to be cheery about in Ireland right now). Assange and his associates have blown the lid off what I’d call the “political black economy”, and the world ought to thank him for it.

15

ChrisB 12.02.10 at 10:36 pm

The argument that the bankers lost the money but the taxpayers are stuck with the bill is appealing but surely misses the point. The billions that have been lost overwhelmingly didn’t go on paying inflated salaries to bankers. Yes, the salaries were inflated, but the losses came from making unprofitable loans. Which means that the borrowers were getting money at a lower rate than they should have been paying. The bulk of the benefit, in those terms, went to the people who borrowed for home loans, and the fact that they then pissed the money up against the wall is perhaps a second-order problem. If the money had gone exclusively to bankers the solution would be quite simple – skin the bankers and get it back. As the money was instead spread across everybody who was involved in any way in the property market it’s rather more difficult.

16

EWI 12.02.10 at 11:07 pm

The bulk of the benefit, in those terms, went to the people who borrowed for home loans

Hang on a second, here; let’s not forget that the banksters were lavishing money at the other side of the property transaction, namely the developers (where they weren’t ‘the developers’ themselves!).

17

elm 12.02.10 at 11:47 pm

@ChrisB

The bulk of the benefit, in those terms, went to the people who borrowed for home loans

Those lucky ducks. How I envy the borrower on a €300,000 mortgage for a house that’s worth €150,000.

18

y81 12.03.10 at 1:08 am

I know little about Irish government structures, but how is it that the Irish government could assume such huge liabilities with (unless I misunderstand) no legislative authorization? In the U.S., committing the full faith and credit of the United States requires Congressional authorization, which could never have been obtained for–the mind boggles–a guaranty of absolutely all bank obligations. (The proportionately much smaller TARP was contentious enough.)

Is this score one for separation of powers? Alternatively, is it score one for the superior intelligence of Paulson and Bernanke over the lords of Ireland? Or is there another explanation?

19

elm 12.03.10 at 2:17 am

y81, Oireachtas Éireann did act to nationalize Anglo Irish Bank, to support failing banks, and later to create NAMA (the National Asset Management Agency).

It may be a sign of Fianna Fáil’s corruption or loyalty to Anglo Irish Bank & property developers. TARP passed pretty quickly in the U.S. (after, IIRC, one vote that failed on account of Republican game-playing). Governments can act pretty quickly and decisively when the wellbeing of the financial elite is at risk.

20

P O'Neill 12.03.10 at 2:58 am

In addition to elm’s list (of which the 2nd link is the infamous guarantee), another important item is the legislation making the National Pension Reserve Fund (previously a predominantly overseas investor) into the government’s investment vehicle for ailing banks. In addition to the parliamentary power to ram through whatever they want once they had a majority, it doesn’t help that Irish legislation is nearly always done as amending legislation, which makes it unintelligible, especially given the stakes involved in this case.

21

hix 12.03.10 at 9:39 am

“Those lucky ducks. How I envy the borrower on a €300,000 mortgage for a house that’s worth €150,000.”

People that bought a home to live in it couldnt care less if the market value. Only real estate gamblers care about market value.

22

ajay 12.03.10 at 9:44 am

Hix makes a good point. If the house was worth €300k in the owner’s opinion when he bought it, there’s no reason it shouldn’t be worth exactly the same to him now (unless the roof has fallen in or the ground’s given way or the house next door is now inhabited by the infamous Molloy family, who play drums at 3 in the morning and keep a live walrus in the front garden). And lucky for him, interest rates might be even lower now than they were when he bought it.

23

Zamfir 12.03.10 at 10:06 am

Ajay, that’s only partially true for real estate. If I buy a piece of land worth 100K in a stable market, the price I am willing to pay is the interest on 100K, and the illiquidity of having 100K locked up in land. It doesn’t mean I was willing to consume the full 100K.

Uncertainty about future prices clouds this matter, but the principle stays. When you buy a house, you expect that most of its value will still be there when they leave, and you factor that into the price you are willing to pay. Virtually nobody buys a house expecting to consume it down to zero value.

24

Jim Livesey 12.03.10 at 11:10 am

The other shoe is going to be an election. Remember Ireland has a relatively small electorate and is capable of very rapid change (remember the collapse of the Home Rulers in 1919) and if Fianna Fail collapse (which seems likely) and if Sinn Fein run proposing a unilateral default (which they would be crazy not to), then they become the necessary element and Ireland will default. Leaving aside all the issues about whether or not this is a good idea the political reality seems to be that this deal will not be politically viable in Ireland. There will be an election next month so the options are narrowing to structured default or unstructured default. Any takers for an Atlantic Union (Ireland, Greenland, Iceland, Scotland, Nova Scotia)?

25

Ivy Squash 12.03.10 at 1:26 pm

“People that bought a home to live in it couldnt care less if the market value. Only real estate gamblers care about market value.”

This assumes that you don’t have to leave the home in order to find employment elsewhere. Suddenly the home you bought “to live in” becomes a serious concern as far as its market value.

26

guthrie 12.03.10 at 1:48 pm

#24 reminds me – has anyone looked at the lower flexibility inherent in a society where most people own their own homes and there are costs associated with moving house to find work? In theory, moving to find work should be retarded by the extra costs and effort involved?

27

elm 12.03.10 at 1:52 pm

Ivy Squash, nobody will ever need to move in/from Ireland to find work.

After all, GDP grew by -7% last year, the official unemployment rate is a low 12%, & the Hoovernomics tax + austerity plan is going to work wonders.

28

ed_finnerty 12.03.10 at 2:13 pm

“People that bought a home to live in it couldnt care less if the market value. Only real estate gamblers care about market value.”

This is, of course, insane. People hate feeling like chumps. No wonder your country is going down by the bow with reasoning like this. How can you sit there like proles while they steal your pension fund. The mind boggles.

29

Kevin Donoghue 12.03.10 at 2:28 pm

No wonder your country is going down by the bow with reasoning like this.

I don’t think hix is Irish. But s/he is certainly no Hicks.

30

Barry 12.03.10 at 2:40 pm

hix: “People that bought a home to live in it couldnt care less if the market value. Only real estate gamblers care about market value.”

Ivy Squash: “This assumes that you don’t have to leave the home in order to find employment elsewhere. Suddenly the home you bought “to live in” becomes a serious concern as far as its market value.”

Or need to sell the home and move to smaller quarters, for your retirement.

31

elm 12.03.10 at 3:38 pm

The flip side is that the Irish fellow who owes €300,000 for a house that’s worth €150,000 actually got screwed/screwed up back when he bought into the bubble. The property bubble was obvious even to the Irish government in 2006 and it wasn’t hard to see earlier.

From what I could tell, it was expected that you could, should, and would borrow 4X your annual income and pay nearly no money down. Ludicrous home prices (and the debt necessary to pay them) kept this expatriate from returning.

32

Kevin Donoghue 12.03.10 at 4:30 pm

Many of us foresaw that the property bubble would burst. What I certainly didn’t foresee is that the banks’ risk management, auditors and regulators would fail so abysmally to prepare for that inevitability, nor that the state would guarantee their liabilities, thereby putting its own solvency at risk.

33

y81 12.03.10 at 4:38 pm

@25: There is a good deal of economic and sociological literature on this issue. I don’t know that it contains any unexpected insights, however.

34

Major Alfonso 12.03.10 at 6:53 pm

“People that bought a home to live in it couldnt care less if the market value. Only real estate gamblers care about market value.”

That’s quite ignorant on a number of points:
-Negative equity definitely stops labour moving to better jobmarkets.
-Negative equity preclude other consumer borrowing eg vehicles, hire purchase, credit cards. It creates a credit chokehold.
-Negative equity feeds up through financial institutions and instruments to pension funds etc, (US of all places know this!)
-Negative equity gets crystalised as wealth destruction in an economic environment such as Ireland where a huge store of wealth was thrown in on top of international credit in the market. Job losses, lower wages etc. mean the debt doesn’t get serviced. There’s a flood of defaults stored up I believe
Look at it from a macro POV: Mortgages can effectively be seen as way of leveraging future productivity in an economy. Right now the Eurozone periphery is going through a de-leveraging process. In Ireland the credit boom was stuffed into a housing market ultimately creating non-productive debt. The process of de-leveraging in Ireland is probably going to be more painful than countries where that credit generated corporate debt etc (a market which is infected by market uncertainty and lack of liquidity right now)
Another key aspect of negative equity in Ireland is that you cannot walk away from the debt here. It follows you, whether you dispose of the property etc. The equivalent of “jingle mail” in Ireland would mean leaving the jurisdiction. This may be acting as stop on a wave of defaults. The debt is currently totally embedded in the country. And Citigroup amongst many others consider Ireland insolvent as an entity, unsurprisingly. Taxes are going up to service debt taken on to maintain banks that are carrying deeply suspect mortgages and obligations to bond holders. It’s a dismal dismal sight

35

Phil Ruse 12.03.10 at 7:50 pm

“…a new post-crisis growth strategy based on investment in the infrastructures we will need in the future.” – not heard that one before!

36

hix 12.03.10 at 7:54 pm

“-Negative equity preclude other consumer borrowing eg vehicles, hire purchase, credit cards. It creates a credit chokehold.”

This ones sounds particular problematic and non gamblerish .

“The equivalent of “jingle mail” in Ireland would mean leaving the jurisdiction.”

The Irish enjoy life in some third world country without extradition threaty so much?

37

James Wimberley 12.03.10 at 8:02 pm

ajay in #22: ¨ the infamous Molloy family …. who keep a live walrus in the front garden..¨
What´s the evidence that garden walruses depress property values? Local residents in Headington (Oxford suburb) rallied round the rooftop shark.

38

piglet 12.03.10 at 8:10 pm

The flip side is that the Irish fellow who owes €300,000 for a house that’s worth €150,000 actually got screwed/screwed up back when he bought into the bubble.

Here’s the interesting part (drum roll): somebody got paid those €300,000.

Let’s go back to ChrisB: “The bulk of the benefit, in those terms, went to the people who borrowed for home loans”. This is not quite right. The benefit dodn’t go to the borrower, at least not the one left holding the bag, but to the seller(s). It went to the people who profited from the real estate bubble, including but not limited to the banks. Where did all those billions go?

39

piglet 12.03.10 at 8:26 pm

To be precise, some borrowers borrowed against inflated property values to finance consumption. In that case, the borrower was of course a beneficiary.

40

Tim Worstall 12.04.10 at 10:54 am

“has anyone looked at the lower flexibility inherent in a society where most people own their own homes and there are costs associated with moving house to find work? In theory, moving to find work should be retarded by the extra costs and effort involved?”

Yes: the usual outcome is that owner occupation above a certain level increases unemployment by some other amount. Usually thought that both the UK and Eire are above this point where unemployment is increased.

One of the sadnesses of the situation though is that this is sometimes used as an argument in favour of more social housing. If ownership makes labour immobile then a larger rental market should make labour more mobile.

Well, yes, but mobility within social housing (subsidsed, like council or housing association) in the UK is even lower than owner occupation. It’s more difficult and takes longer to move from one local authority to another in such subsidised housing than it is to sell and buy a house.

41

Steve Williams 12.04.10 at 2:45 pm

Major Alfonso @34

‘Another key aspect of negative equity in Ireland is that you cannot walk away from the debt here. It follows you, whether you dispose of the property etc. The equivalent of “jingle mail” in Ireland would mean leaving the jurisdiction. This may be acting as stop on a wave of defaults.’

I agree with all the rest of your points, but how long will this one be true for? Presumably there will come a point in the not too distant future where people have to choose between mortgage repayments and true essentials like food, and how are the banks going to pursue litigation when they’re effectively insolvent? Particularly if enough people do it; they can’t very well pursue tens of thousands of cases at the same time, at any rate.

42

elm 12.04.10 at 5:26 pm

I agree with all the rest of your points, but how long will this one be true for? Presumably there will come a point in the not too distant future where people have to choose between mortgage repayments and true essentials like food, and how are the banks going to pursue litigation when they’re effectively insolvent?

Steve: Until last year, Ireland had the perfect solution for that debtor’s prisons. Sadly, that law was found unconstitutional, but presumably with a Constitutional amendment & some help from the ECB, that can be fixed.

43

elm 12.04.10 at 5:38 pm

@42

Whoops, it looks like I misread. Ireland will still imprison you for debt, the change was that apparently you can no longer be imprisoned for debt if you don’t have the means to pay.

Anyway, Steve, that’s the solution: debtor’s prisons. Perhaps we can expect a boom for the Irish prison industry.

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