Monday 26 September 2016

Brendan Keenan: OMG, OMT will require monitoring of fiscal fitness

Published 28/11/2013 | 16:36

Noonan under pressure
Noonan under pressure
Lord Palmerston

MICHAEL Noonan as Lord Palmerston, the 19th century British Foreign Secretary and prime minister?

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Palmerston famously remarked that only three people understood the Schleswig-Holstein question -- Prince Albert, who was dead, a German professor who had gone mad, and himself -- and he had forgotten all about it.

Mr Noonan went one better. Himself and Mario Draghi, president of the European Central Bank, understand Outright Monetary Transactions (OMT), and he has not forgotten all about it. But it is often beyond top economic brains in Ireland.

There was even a mad German professor on stage -- in the sense of being very, very angry ("mad as a wet hen"), rather than irrational. This was Hans-Werner Sinn, head of the Ifo economic institute, who complained trenchantly in the 'Financial Times' about Mr Draghi's peripheral printing press, cranking out euro for distressed states.

He was not complaining about OMT, which has never been tried. On Mr Noonan's definition, given to the Dail last week, it probably never will be tried. But if it were, it is likely that Dr Sinn's fury would know no bounds.

Many of the best economic brains in Ireland thought it would be tried when Ireland left the bailout and returned to the markets. OMT, after all, is the thing held to have saved the euro.

What better way, you might think, to build on that by applying it to a country leaving a bailout? If the troika deemed the country fit for the markets, and provided the country retained that fitness, the ECB would endorse that judgment by backing its bonds.

Ongoing fiscal fitness would be required of course, so there would be conditions and monitoring. This is where the precautionary credit facility, which was the major theme of Mr Noonan's speech, comes into the picture.

It too would require conditions and monitoring, but the best economic brains, such as those of the Fiscal Advisory Council, thought such monitoring would also meet the conditions for OMT.

Mr Noonan set out a rather different picture. What most of us had not understood was that OMT was designed for a systemic euro crisis, of the kind we saw last year. It would still be country-specific, and require conditions and monitoring, but could be exercised only if the euro again looked like it was going down the pan.

I have wracked my brains without success (admittedly probably not among the top ones Mr Noonan mentioned), trying to imagine the circumstances in which all this could be done in the middle of market panic over the euro or a run on a major bank.

But I can see what might work. A new systemic crisis would most probably involve Italy or Spain -- or, terrifyingly -- both. ECB purchase of their bonds, while some programme was cobbled together, might well do the trick but would represent the worst nightmares of Prof Sinn and much of German opinion.

This is not how OMT was sold, so the misunderstandings are hardly surprising. Mr Draghi made much of the fact that in a properly functioning monetary union, like, say, the USA, bank interest rates are the same everywhere. Clearly that is not happening in the euro area.

The impression given at the time was that, if a country were meeting euro rules, the ECB money machine would be used to counteract such irrationality on the part of markets and bring interest rates more into harmony. It was just a money transmission issue, not a solvency one.

It is true that it was only an impression, probably designed to soothe German opinion. Any German still labouring under that impression would be pretty shocked reading Mr Noonan's exposition, but most are probably already with Dr Sinn.

One group of Germans has gone to the core of what is wrong with all of this. Eleven economists, political scientists and jurists, calling themselves the Glienicker Group, recently produced ambitious ideas for a political union, complete with government.

Whatever about the wisdom of that, their introductory remarks struck a chord. "The European Union is a community of law." Well, not at the moment it isn't: not where handling the crisis is concerned.

Government leaders explicitly say that things will be treated on a case-by-case basis. If the need arises, action will be decided by a bunch of government leaders and finance ministers, meeting in secret and probably in the dead of night, exhausted and panicking.

As the Glienicker group put it, "Heads of state and government have so far set the tone. But this 'intergovernmental' (their italics) is not up to the tasks that need to be done in a monetary union."

At least it can be said that dealing with a failed bank is a really difficult business. There should have been much less difficulty establishing rules for a country exiting a bailout.

There was plenty of time to do so, but Europe's politicians cannot face politically difficult choices until they are forced into them. It is now too late to set out agreed procedures for returning to markets -- although not, alas, too late to find out what will happen if the return comes a cropper.

The Glienicker group's ideas are ambitious to say the least. It proposes a European executive which can negotiate reform packages with crisis countries, decide on bank closures and ensure the provision of public goods. This economic government would have graduated rights of intervention in national budgetary autonomy.

This will be widely seen as totally unrealistic. Perhaps so, but that leaves the very open question as to whether the euro can survive without some such political union. One way round the conundrum comes from our old friend Ashoka Mody, who seems to have been deeply influenced by his experience heading the IMF team at the start of the Irish bailout.

In his latest publication, "A Schuman Compact for the Euro area," Prof Mody is even more critical than the German group, talking of "complex structures that have encouraged costly delays, deceptions and half-measures."

He goes in the opposite direction, saying fiscal policy should be the responsibility of the member states, where the sovereignty lies. This would be accompanied by a credible "no bailout" regime to ensure that private lenders bear losses when government debt becomes unsustainable.

Weak "zombie" banks would be closed, using debt-equity swaps, leaving more scope to strengthen viable banks. His argument is that such arrangements might be politically possible and not require treaty change; giving everyone time to ponder the creation of a proper, law-based monetary union -- if that is what they really want.

At least choices would be faced. The Irish experience of the past few weeks is further proof that the present way of going about things will not suffice.

Irish Independent

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