Friday 26 August 2016

Colm McCarthy: Back off Barroso, you did very little to help

Brussels should look closer to home for the reasons why the crisis lasted as long as it did, says Colm McCarthy

Published 22/12/2013 | 02:30

A protester wearing a Barroso mask at an anti-austerity demo in Brussels last week. Photo: Yves Herman
A protester wearing a Barroso mask at an anti-austerity demo in Brussels last week. Photo: Yves Herman

Since the crisis broke in 2008, it has been clear that only economic growth at a decent rate can guarantee sustainable public finances. Zero growth, the experience until recently, will see the debt burden continue to grow and sluggish growth will not do the trick either.

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Calculations by the Fiscal Advisory Council and the IMF stress that the key unknown, in assessing debt sustainability, is the future growth rate.

If the economy gets stuck in a rut the debt mountain will rise further and default risk will stay high. Only if the figures are re-worked with faster growth, say three per cent per annum, will prudent budgetary policy make the numbers come right over the next several years.

The medium-term plan released last Tuesday employs a 'baseline scenario' where growth averages around three per cent a year out to 2020 and, hey presto, the public finances look to be sustainable. There is even a scenario with higher growth, in which things look even better. Trouble is, the rate of economic growth, particularly over the shorter term, is not a policy instrument for governments.

It is something that just happens, largely outside their control. In Ireland's case the reliance on external demand to sustain recovery is unavoidable as domestic demand will be weak for many years to come. The medium-term 'strategy' is essentially an extrapolation of the recent upturn and its consequences for the public finances.

Downside risks, and there are plenty, are simply not addressed. The plan says that, if things work out nicely, everything will be OK.

This baseline scenario is not implausible: the economy could indeed recover as predicted. But performance could disappoint and there is no safety net. There is little in the way of policy reforms that might enhance growth prospects in the medium-term. Indeed the week was also marked by apparent cabinet disagreement over Justice Minister Alan Shatter's proposed Legal Services Bill, designed to cut the sizeable overhead cost imposed on the rest of the economy by the courts system and the legal profession.

Overdue reforms are always at risk of delay and the vested interests, in this case the Bar Library, have found an unlikely champion in the form of the Labour Party. The Government's strategy document contains only a superficial discussion of the continuing crisis in the banking system. A sustainable recovery is not likely, with wounded domestic banks limping along on life-support and foreign lenders reluctant to stay engaged with the Irish retail market.

Nobody seems to know what type of banking system the economy will have five years from now, or how the sector is to transit towards a better structure. It is natural for governments to accentuate the positive and to encourage optimism about future prospects. When they do so, commentators can be too cynical in attributing base motives, such as electoral advantage. But there is an unresolved dilemma for Irish governments when they paint too rosy a picture and it is this. Ireland has unfinished business with our European 'partners', specifically the European Central Bank and the European Commission, in that the burden of debt imposed on Irish taxpayers has been unreasonably inflated through their actions.

Expressing confidence about debt sustainability weakens the case for easing the burden of any debts that were improperly imposed. This is a trap: undue optimism about economic prospects invites eurocrats, unconcerned about Irish interests, to draw a line under their past transgressions.

Complacent and patronising statements after the bail-out exit from European Commission president Jose Manuel Barroso and economics commissioner Olli Rehn illustrate the dangers. Barroso, dismissing any retro-active deal addressing the costs imposed on taxpayers through bailing out unsecured bondholders in bust Irish banks, remarked: "In fact it was the Irish banks that created a big problem for Ireland but also the other countries in the euro area." What he called a "major destabilisation of the euro area" was apparently due to the collapse in the Irish banking sector and "happened under the responsibility of the national authorities of Ireland and the national supervisory entities".

He continued: "It would be wrong to give the impression that Europe has created a problem for Ireland and now Europe has to help Ireland. In fact it was the banking sector in Ireland that was one of the biggest problems in the world in terms of banking stability, let's be honest about this."

So there you have it, courtesy of the European Commission president. Ireland screwed up the eurozone, an otherwise flawless creation and impeccably managed to boot. The Commission under Barroso has displayed precisely zero capacity for self-examination, never mind leadership, and has made a bad situation worse throughout the crisis. Every action of the ECB which imposed bondholder losses on Irish taxpayers has been supported by Barroso's commission -- supposedly an institution committed to the defence of smaller EU member-states.

His assessment was disputed during the week by both of the IMF officials most closely involved with the Irish programme. Journalist Simon Carswell of the Irish Times interviewed Ashoka Mody, now an economics professor at Princeton University. He reported thus: "The economics professor says he has never fully understood the response of the Irish authorities when they question how they could have pressed a harder case with the European authorities. He believes another error was not burning bondholders, be they lenders to the Irish banks or the State, because a system of orderly debt restructuring -- write-offs -- is fundamental to the integrity of the eurozone. 'If that system is not an integral part of Europe, I think Europe is tying its hands in a very deep economic way with enormous social repercussions,' he said."

Mody's colleague Ajai Chopra, who is also retiring from the IMF, offered some valedictory comments on that institution's website which paint a rather different picture from the European Commission's version. He noted that: " ... Ireland's prospects will depend very much on the progress made to address demand and supply deficiencies in the eurozone, to achieve the ECB's inflation target rather than undershoot it, to reduce fragmentation, and to make more meaningful progress in improving the architecture of the monetary union." He added: " ... it is unfair to impose the burden of supporting banks primarily on domestic taxpayers while senior unguaranteed bank bond holders get paid out.

"This not only adds to sovereign debt but it also creates political problems, making it harder to sustain fiscal adjustment. Eurozone partners precluded the Irish from imposing haircuts on senior creditors of insolvent banks. But subsequent developments

in the principles of orderly resolution of banks, after Ireland had paid off these creditors at great cost, have shown that imposing losses on senior bank bond holders is now becoming more accepted."

It has been clear from the commencement of the Irish official lending programme in November 2010 that the IMF officials disagreed with their European Troika partners on the crucial issue of pay-outs to creditors of bust banks. The European Commission and the ECB have since executed a full policy reversal on this issue, as evidenced in the resolution of the crisis in Cyprus.

Their unwillingness to acknowledge that the path followed in Ireland was a mistake threatens further and unrepented mistakes in the future. It was reported yesterday that the European Commission is miffed at Ireland's ingratitude for the efforts of Barroso and his colleagues. the Irish Times reported on its front page that: "Senior Brussels officials are unhappy at the government's perceived failure to give Europe due credit for Ireland's successful bailout exit."

The performance of the European Commission throughout the crisis -- and not just in its treatment of Ireland -- has been marked by erroneous economic diagnosis, subservience to the position of the European Central Bank, excessive meddling in the domestic adjustment programmes of member states, constant political deference to the interests of creditor countries, particularly Germany; and monumental incompetence which reached its zenith in the shambles of the Greek banking resolution.

The ECB under Jean-Claude Trichet chose to place the interests of unsecured creditors in bust banks ahead of the interests of national solvency in the distressed member states. Whether its actions were even lawful remains unresolved and the support of the European Commission for Trichet has never been explained. Ireland's muted expressions of ingratitude have been a model of restraint.

Irish Independent

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