Monday 21 October 2019

The ECB is our best bet for any alleviation of financial burden

Angela Merkel, the German Chancellor, went to Athens recently but she bore no gifts for the Greek mortals. Her finance minister, Wolfgang Schaeuble, visited Dublin this week with equally empty hands.

Though he spoke kind words aplenty, he effectively narrowed our bailout options. Of course, it has been established that Ireland is "special" but apparently the word has two meanings in German and we seem to be in the less "special" class.

Schaeuble's message was two-fold. One, you are doing very well -- the subliminal text here is that others have more pressing problems, bailout resources are scarce and further bailouts are politically unpopular in the donor countries.

Two, Angela promised to help and we will do what we can but your best options lie in renegotiating the terms of the promissory notes with the ECB.

Transferring "legacy" assets to the European Stability Mechanism (ESM) is problematic, would necessitate a further bailout programme with appropriate conditionality, could not happen until 2014 when the new ECB supervisory system is effective and in any event must not set a precedent for others. These conditions are so tough as to virtually rule out this option.

Thus, we are now back where we were before the June Council Summit and the commitment to break the link between the banks and the State has been reneged upon.

Ironically, our best hopes of financial alleviation seem to lie with the ECB, which is subject to regular excoriation by the Irish commentariat.

In part, this reflects the widespread view that the ECB forced Ireland to bail out the bondholders. However, all the indications are that the original 2008 bank guarantee was voluntary and if the ECB had any part in it, this has not been revealed by any of the (very unsatisfactory) enquiries.

True, the ECB and others, such as the US Treasury Secretary, were influential in this respect two years later when the guarantee had expired. By then, however, the birds had flown the coop and the size of the bond holdings outstanding was modest.

Liquidity

At the start of EMU, in 1999, the only banking function assigned to the ECB was last-resort lending to solvent banks in need of liquidity. In this context, it advanced €30bn to IBRC (formerly Anglo Irish Bank and Nationwide Building Society) secured by promissory notes or IOUs issued by the Irish Government.

The ECB's basic function is to control inflation. To this end, it is more independent than any other central bank and the treaty explicitly prohibits it from lending to governments.

That is why suggestions that it should write off Irish promissory note debt, that is money owed by the Irish Government to IBRC and, ultimately, the ECB, which until recently were common, are very unrealistic.

Emergency Liquidity Assistance (ELA), the term for the funding advanced by the ECB (the Irish Central Bank is effectively a conduit only) is provided in "exceptional circumstances" to a "temporarily illiquid credit institution which cannot obtain liquidity through either the market or participation in (normal) monetary policy operations".

ELA is meant to be both rare and temporary and it is rolled over every week or so.

Contrast this with IBRC, which needs this assistance until 2020 when it is due to be wound up, and further contrast it with suggestions that promissory note repayments should be stretched out to 40 years. The ECB is also terrified of creating a precedent.

To date, the Irish banking crisis has cost at least €135bn. Some €42bn of this relates to the non-Irish banks, notably Ulster Bank and Bank of Scotland, which pound for pound, fared worse than their domestic competitors, leaving €93bn for the Irish "covered" banks.

Almost €30bn was borne by the unfortunate shareholders, with the bill to the Irish Government at €64bn.

Since the Government could not raise this amount, it resorted to promissory notes of €31bn, i.e. promises to pay the money over a 20-year period, and raided the National Pensions Reserve Fund (NPRF) for a further €21bn.

Only a relatively small amount, €12bn, was borrowed by the Exchequer and injected into the banks. The NPRF sold existing assets to fund its "investment" in the banks.

However, the remaining €43bn was added to the National Debt as the EU Statistical Office insisted on this treatment even though most of it (the promissory notes) has yet to be borrowed.

The effect was to double the debt ratio from 25 to 50pc -- the impact of the annual budget deficits accounts for the remainder, and the vast bulk, of the increase to 120pc.

Possibility

The June summit opened up the possibility of recovering some of these funds via the ESM taking over the State's equity shares in the viable Irish banks.

Hence the focus on what the banks might be worth with most estimates around the €8bn mark. However, this is a very partial estimate which relates only to the Pension Fund's holdings.

If we add in the Exchequer's investments, e.g. its recent purchase of Irish Life, and make some allowance for the Long Term Economic Value of the banks, the figure is twice that, about €16bn or 10pc of GDP.

Transferring the burden to the ESM would thus lower the debt ratio from 120pc to 110pc of GDP, a significant first step on the road to solvency, but one that now lies in the future -- at least until after the Autumn 2013 German elections.

The focus is now firmly on the promissory notes. We are told that the discussions with the ECB are proceeding but they have been ongoing for more than a year.

As the promissory notes are already included in the debt, it follows that the outcome will have no significant impact on either deficits or debt.

Instead, the objective is to alleviate the annual €3.1bn payments to IBRC.

Again, the obstacles are formidable but, suffice to say, the best outcome would be a lowering of the interest and/or principal repayment burden over the next few years.

This would reduce the amounts that have to be borrowed when the bailout programme ends next year.

The fear is that in the absence of such action, we might not be able to return to the markets and might need another programme.

However, the EU has long since promised that countries meeting the bailout conditions will get further assistance if they need it. This may well be the Government's best card. The problem is that neither the EU nor the Irish authorities want to play it.

Pat McArdle is an economist and non-executive director

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