Time to Stand on Our Own Feet: Burn the Bondholds and Invest the Difference
Simon Johnson and Peter Boone are writing in the New York Times‘ Econmix blog about Ireland again.
Johnson is, of course, a former Chief Economist of the IMF, an institution that has largely endorsed Ireland’s austerity measures and suggests more may be needed.
However, Johnson and Boone’s comments are that current government policy isn’t working, and this is largely because of a political reluctance to make the shareholders responsible for creating the crisis pay for it.
“Ireland had more prudent choices. It could have cut the budget deficit while also acknowledging insolvency and requiring creditors to share some of the burdens. But a strong lobby of real estate developers, the investors who bought banks’ bonds and politicians with links to the failed developments (and their bankers) prefer that taxpayers, rather than creditors, pay. The European Central Bank, the European Union and the International Monetary Fund share some responsibility; they advocate these unlikely programs so that European and global banks, which provided the funds to the Irish banks, do not suffer losses from such bad lending decisions.
The Irish government plan is - with good reason - highly unpopular, but the coalition of interests in its favor seems strong enough to ensure that it will proceed, at least until it either succeeds and growth recovers, or ends in failure with the default of banks or the nation itself.
Under the current program, we estimate that each Irish family of four will be liable for 200,000 euros in public debt by 2015. There are only 73,000 children born into the country each year, and these children will be paying off debts for decades to come - as well as needing to accept much greater austerity than has already been put into force. There is no doubt that social welfare systems, health care and education spending will decline sharply.”
Over on Progressive Economy Michael Taft has taken Jim Stewart’s suggestion that the Irish government negotiate with the senior bondholders of Anglo Irish and offer a considerable discount, between 50% and 90% of the original value in order to reduce the amount that Johnson and Boone calculate that each Irish family will be liable for once everything is revealed about Anglo’s debt.
Michael, however, takes Patrick Hohohan at his word when the Central Bank Governor told an international audience, and no doubt investors, that borrowing this money [to pay for the banking crisis] is ‘affordable and manageable’.
“Now, if it’s ‘affordable and manageable’ to borrow money in order to burn it in Anglo’s balance sheet, then how much more ‘affordable and manageable’ would it be if we used that money for investment - with all those benefits mentioned above accruing to the economy and society.”
Michael calculates, using the Lane-Benetrix multipliers that
“If we were to discount 50 percent of the debt and redirected it to investment spread over five years, economic growth would climb - by up to €7 billion by 2015 (an increase of nearly 3.5 percent in nominal GDP). What’s more, tax revenue would increase by nearly €8 billion over the five year period - a significant return on the initial investment.”
See the rest of his post for more details on this.
Brian Lucey writing in the Irish Times today also argues that there is no reason (apart from the political - see Johnson and Boone above) why we can’t negotiate with Anglo’s bondholders.
Lucey’s suggestion, however, is that we throw ourselves in to the merciful arms of the EU:
“There is an argument that this decision to withdraw the guarantee should be taken in conjunction with another. The State is now paying more for money than it would if it were to access the EU stability fund. The judgment of the bond markets is that the combined banking and fiscal crises are such that Ireland is no longer a sound bet. A very large part of this is the increasing concern that there is not the political will to deal with either of these problems, never mind both.
Pulling the plug on further taxpayer involvement in Anglo may best be done at the same time as announcing that we are to seek the assistance of the EU in restructuring our fiscal position.
It is time to seek to place ourselves in the hands of people who can run the State effectively - and in the long-term interests of the citizens. Political or indeed national pride should not stand in the way of this.”
We have to wait and see how the EU Commission responds to the government’s plans, but a good bank/bad bank scheme will require further capitalization if even part of it is going to be viable and a ’slow wind-down’ would mean simply stretching the time taken to make repayments at their current value over a longer period.
The EU has accepted almost all of the governments plans so far - and as Johnson and Boone argue, do so largely to protect the interests of the larger banks within the Eurozone (mainly French and German) do not suffer unduly. It’s also safe to argue that the EU would demand further austerity should they have to provide money from an EU rescue fund - although it seems unlikely that they could actually go further than the present government.
Lucey is one of those economists who complains that the government is protecting bondholders and their clients in property development while at the same time championing their fiscal decisions to deflate the economy, reduce jobs and cut back public services. He and others seem to think that the current danger of default comes from the scale of the bank bailout alone.
So Michael’s idea provides the best of both worlds.
- It follows Honohan’s comment that the level of debt, though difficult is manageable. It makes bondholders share the cost of what is ultimately a level of risk that the took on themselves (with the understanding that they may loose their investment - Jim Stewarts suggestion of 90% discount means they get at least 10% back).
- It provides money to invest in the economy which would reduce unemployment and bring growth back in a more realistic way than simply reducing the deficit marginally.
- And in the end, it will reduce the level of risk that we, as a nation, will default within the next five years. This will result in a lowering of the yield, and make the cost of the level of borrowing that we are forced into by the wrecklessness of government and business cheaper.
As Michael said himself when he described the idea:
“win, win and won”.
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Comment by: Pope Epopt
Sep 3rd 2010 at 08:09
Johnson is an interesting character. Coming from the heart of the beast, he nevertheless realises that time is up with the current form of capitalism.
Now I think about it, it shouldn’t be too difficult to sell Michael’s plan to EU. Especially if it was delivered with a subtext of ‘nice banking system you’ve got here, squire, shame if someone was to ape and default…’.
Perhaps that card has already been played.
On the positive side, stimulus is not a dirty word in the non-anglophone parts of Europe. The EC(B) and the wider EU would, I suspect, rather deal with a member country with a plan, than with one that is perversely determined to make itself a basket case through austerity sadism and refusal to face facts about insolvent banks.