Monday, 29 November 2010

Implications of the IMF deal

Tom O'Connor: The IMF deal which has just being announced should be filed under fairy stories. It is economically unrealistic and would be an impossible burden on the country.

Let’s take the figures. The interest rate on the deal is 5.8% and the deal takes €17 billion from National Pension Reserve Fund and National Treasury Management Agency. Remember, the Greek deal was only 5.2% over five years. The longer time period on the Irish deal forces a significant hike in interest rate. The longer time frame increases the amount of interest significantly also.

Let’s put this figure in to the macroeconomic framework. In 2014 our national income measured by GDP, the measure used by the EU, will be €183 billion. At the end of 2009 our national debt stood at €75 billion. This year’s deficit plus the deficits to 2014 plus the bank recapitalisation will bring the national debt up to 183 billion by 2014, 100% of GDP, according to the government’s four year plan.
Now this 183 billion is the principal owed and doesn’t include the interest. This bailout will fund the 35 billion bank recapitalisation and 50 billion in deficit repayments and is in line with the governments own projections in its four year plan.

The interest on the deal will be €45 billion. The total €69 billion plus interest amounts to €114 billion. This is to be paid by the start of 2020 and covers 9 years. This forms part of the national debt from next year onwards. A further €50 billion will be added to the €100 billion which is not part of the IMF deal and which already exists. The total government debt in 2019 without anything paid off it will be €264 billion.

Now, the government’s own four year national recovery plan shows it will run a deficit by until 2014. It will be lucky to break even in 2015. Even during the best year of the Celtic tiger, the maximum surplus run by the government was €3 billion.
So, the government would be lucky to gather €1 billion a year in surplus from 2016 to 2019. This will give them a tiny repayment capacity of €4 billion to the IMF who with interest will be owed €114 billion. Even the sale of all semi-state companies would only pay off another €5 billion.

The fact that we will owe €114 of our national debt to a ruthless organisation like the IMF is a very worrying prospect indeed, given its track record in Eastern Europe, Africa and Latin America.

Given that all the taxation increases will have been used up to bring down the deficit to 3% by 2014 to please the EU and taxes will then by quite high, there is no other avenue for the government to raise the rest of the money. The government cannot come even remotely close to paying. There are no Houdini tricks.

The government projects GDP will be €183 billion in 2014, based on its growth projections. Now, taking the very optimistic scenario that the economy will grow by an average of 3% in GDP terms to 2019, nominal GDP at that stage would be 205 billion. At that stage the €264 billion in national debt will be 129% of GDP.

This figure would include nine years of economic hardship and cutbacks. At the end of the period, Ireland would still owe one and a third of everything we produce in the country in one year, with the IMF being by far the biggest creditor.

The justification for the bailout is to save the euro and bring our economic figures in to synch with the EU’s Stability and Growth Pact. This is nonsense. True, we will be down to 3% in terms of our general government deficit by 2014. However, in that year our debt will still be 100% of GDP. Five years later it will be 129% of GDP. To achieve a worsening debt, we will have sacrificed hundreds of thousands to the emigration markets and unemployment will stay high.

In addition, at 2014, the government’s own four year plan shows that the amount of taxes going to service the interest on the national debt will be 20%. This is based on a rate of interest of 4.7%. This will rise to 25% just to pay the national/IMF interest bill only!

To make matters worse, by 2019 the pension bill will have risen considerably, given the ageing of the population. In fact, the National Pension Reserve Fund was set up to cover some of this cost. Even when the NPRF hadn’t been rifled by the government to recapitalise 7 billion to AIB/BOI and Anglo in the past two years, its total assets then of 25 billion was only equivalent to covering 25% of the pension bill by 2025.

This means that taking the NPRF money to pay the banks under this plan is ludicrous. There would be a strong case to take 8 billion from the fund to stimulate the economy and replace it in five years. This would drive down unemployment by 10,000 for every 1 billion spent and would improve the government finances. Squandering it on the banks, having already taken 11 billion from it for them, is nothing short of a national disgrace.

Even if we achieved an interest rate of 2% from the IMF, sold our semi state companies and ran an exchequer surplus of 6 billion by 2019, our debt GDP ratio would be still 107%. We need to fully nationalise the banks, burn the bondholders, amalgamate the big two banks and start afresh. Only depositors should be guaranteed.
We need to use some our NTMA and NPRF cash reserves of €40 billion to stimulate the economy. A partial long term loan without interest with our own un-borrowed reserves needs to be used to cover the deficits. Any partial EU loan should be without conditions over 20 years.
These are real alternatives - this deal isn’t. This deal is a monumental mistake. The deal cannot be passed until legislation goes through the Dail after Christmas to legalise it. It would be a national scandal if this government’s last sting of a dying wasp was to legally impose this deal on Ireland.This is an edited version of an article published in today's Irish Examiner


Paul Hunt said...

@Tom O'Connor,

I agee with your diagnosis - if not your cure. Ireland is being sacrificed - as Greece was before it - on the altar of political expediency to protect politicians in the major Eurozone economies from confronting their voters with the reality of the fantasy they have created which has now turned into a nightmare. Having crafted and sustained this elaborate currency union fantasy without a proper fiscal and governance structure and without voters' direct consent, they dread having to ask their voters to consent to dipping into their pockets via higher taxes or reductions in their savings pots) to bail out their banks and pension funds which made really stupid investment decisions in the periphery of Europe.

However, it is deemed to be OK to force citizens in the peripheral countries to suffer economic pain to keep these stupid investors whole. The object of attack should be the EU attempt to sustain this damaging fantasy.

In the short term, there is no alternative. Low-interest or interest-free (and/or condition-free) loans are not on offer. But, ironically, the bond market is now our ally. It will not rest until the gap between this EU fantasy and economic reality is closed to provide a basis for rational long-term investment.

The major EZ banks and pension funds will be forced to confront the losses they are hiding and their governments will have to deal with the fall-out - irrespective of how much that will annoy their voters.

So, however hard it might be, the progressive-left should cheer on the bond market.

seafóid said...

The idea of the plan was to give the Government enough financial backup to bring 10y yields back down below 6% to allow the NTMA to re-enter the market and continue borrowing . Yields today are at 9.25% and are only going in one direction.

So I agree with Paul Hunt. The bond markets are not buying this deal either.

Paul Hunt said...


Indeed. Where, how and when they will strike again is their call (Portugal, Spain, Belgium, even Italy?); but strike they will.

The economic reasoning is simple. Investors in sovereign bonds rely on governments to be able to pay the coupon and to repay them in full. They will need to have a full understanding of any contingent liabilities that might impair a government's ability to pay. At present governments in the major EZ economies are facilitating the salting away of major loss exposures in their big banks and pension funds. (That is why Ireland is getting screwed becasue many have a big exposure to Ireland.) If these losses were crystallised they could impose a major fiscal burden on the state. Bond investors simply want these contingent liabilities on the state to be made explicit so that they can price the risk involved. While the major governments (in particular France and Germany) refuse to do this, the market will keep going after them - either directly or indirectly.

Anonymous said...

This seems correct to me but you slightly lost me here:

"A further €50 billion will be added to the €100 billion which is not part of the IMF deal and which already exists."

Does the 100 billion refer to the existing national debt?

What is this about a further 50 billion?

I'm also curious about the status of the 130 billion provided by the ECB as liquidity support to the banks. What's supposed to happen there? No mention of it in the govt. statement.

seafóid said...

Austerity doesn't seem to have any effect on the Government deficit projections of the EU, looking at the figures for 2011 and 12.