Thursday, 11 November 2010

Running out of logic

Michael Burke: The Finance Minister's statement that, if the government's Budget is not passed the country will run out of money, has been examined in an earlier post, and found to be politically untrue.

It is also untrue from a simple matter of accounting.

It is also not what investors have been told by NTMA, the body responsible for managing the national debt. This piece on IE has a link to an NTMA presentation which shows that NTMA has cash balances of €20bn, somewhat greater than the €19bn shortfall referred to by Mr Lenihan. It's true that a further €4.4bn in bonds fall due for repayment next year, but NTMA alone could fund all government financing requirements without further borrowing until about September next year.

Then there is the €24bn in assets at the NPRF, which have been identified as a potential source of increased investment. The returns on the NPRF assets need boosting, having achieved a paltry 1.7% annualised since inception in April 2001 (NTMA Annual Report 2009). What better returns are available than the 14%-18% of the National Development Plan projects? This would boost the NPRF holdings in real terms, which are actually declining annually under current investment policies.

Then there are the assets of the central bank, €129bn in 2009, €93bn lent to banks. This is achieving an even lower return than the NPRF, just €1bn in 2009, less than 1% (Central Bank Annual Report 2009).

Finally, it should be pointed out to the Finance Minister that the government is not the same as the country. In 2009, the income of the private sector was €71bn, compared to household income which was €73bn (CSO Institutional Sector Accounts 2009). Yet taxes on production were just €15bn and could rise to prevent any ‘running out of cash’. Of course, an increase in the level of economic activity would multiply the effects of any increased tax rates on production.

According to the DoF, the sensitivity of government finances to changes in GDP is 0.6. We are told that €6bn in cuts are needed this year. On the DoF’s maths, a €10bn increase in GDP would achieve the same, based on the 0.6% sensitivity. Now, because the economy is in a Depression, that is a tall order, a 6.3% nominal growth rate. But increasing the notoriously low levels of taxation on output at the same time would help. Let’s say taxes were increased to Iceland’s disastrously low levels, 15% corporate tax from 12.5% currently. That’s an increase of 20% if repeated across the board. That would bring the required nominal growth rate down to 5%, which is eminently achievable from 2.5% growth and inflation. And investment would help to achieve that. Deflation won’t.

Now, Mr Lenihan doesn’t seem mind giving one last push, even when the economy is standing on the cliff edge. So the soft option of investing to revive the economy, combined with a modest adjustment in taxes is not for him. Clobbering the poor, the unemployed, lone parents and the blind is his preferred option.

Mr Lenihan either knows these basic facts about the assets of key government agencies, like any Finance Minister should, yet has decided to say the opposite. Or he is actually unaware of them. It's uncertain which is the more reprehensible.


Paul Hunt said...

I'm sure you're familiar with Keynes's aphorism along the lines that the market can remain irrational for far longer than you can remain solvent. The MoF is playing politics to drum up support for a severe fiscal adjustment, but he is concealing a wider more serious issue. This bluster is damaging the access of all Irish entities who require access to the international capital market and that of governments and entities in the other peripheral EU member-states. For example, the CER is proposing to increase the fictional cost of capital it applies to the ESB networks by 20% (extracting another €200 million from Irish consumers over the next 5 years) for this very reason.

I don't think the market players are being irrational - they've rediscovered how to price risk and Ireland is the weakest link. The game is nearly up.

Michael Burke said...

The market is not irrational- it is responding to the threat of partial default made by Mrs Merkel. In the case of Greece, the agent was the ECB, but the effect is the same- to attempt to secure the assets of Europe's banks by saddling the population with ever-greater impositions. If anyone else made the false claims that the MoF has, they would be accused of anti-patriotism.

You are right that this also hits corporate access to bond markets, but it's a stretch to regard the ESB's €200mn in excess charges as a 'more serious issue'.