Saturday 16 December 2017

Breaking open the IMF's piggy bank would be Greek tragedy for economy

One of the first maxims that a budding economist learns is that there is no free lunch. The saga of what happened to Greece over the past year, in requesting aid from Europe, should stand as a warning to the present Irish government.

EU aid will be no panacea for extricating Ireland from its budget predicaments. Indeed, there is no alternative -- other maybe than leaving the euro -- to public budget austerity.

Greece's radical left-wing government has now blown out the candles celebrating its first year in power. But even before becoming prime minister, George Papandreou was left in no doubt as to the severity of the challenges facing Greece.

The outgoing conservatives had allowed public spending to explode in the run-up to the election, in the vain hope of cultivating votes. The public deficit went into double digits, with the debt-to-national income ratio well over 100pc.

Mr Papandreou was horrified by the hidden hole left by his predecessors. Interest rate payments alone on the national debt would be more than 7pc of government revenue each year, he was told.


Mr Papandreou decided that massive austerity was neither feasible nor ethical. Greece then set about to ask for 'solidarity' from the European Union. This could be obtained without cost, or so it seemed. Other European countries borrowed at much lower yields.

So the plan was to simply get them to extend loans to Greece at the far better terms. That would have no upfront cash cost for the other governments, and it would keep foreign investors happy.

Mr Papandreou is a former sociology professor and a fervent internationalist. Burden-sharing with the rest of Europe to him seemed entirely rational in economic terms. It even seemed principled, given that Europe was gaining on trade with Greece. Thus began a campaign to request 'solidarity' from the EU that was to last months, and bring the EU to its most serious crisis yet. That crisis resulted in the establishment of a ginormous €750bn piggy bank that is now available to other eurozone governments, including Ireland, to tap into, should they ask for assistance with their funding.

My contacts in Greece were telling me, time and again, that once the solidarity came through, Greek borrowing rates would fall sharply. But the opposite happened. Yields skyrocketed, and Greece Inc was tainted with opprobrium.

Investors saw the provision of loans to Greece as just a blank cheque that opened the door to more fiscal irresponsibility. The direct involvement of Europe and the IMF in the domestic affairs of the country was seen as making the repayment of debt a political question, and an open question. Investors everywhere always abhor such uncertainty.

A call by Ireland now on the piggy bank provided by the IMF and the other eurozone governments would result in the death of the market for Irish bonds. Today it is very hard and quite costly for investment funds to either sell or buy Greek government bonds.

The Greek government no longer sells bonds, while many investors hoard the bonds they own. Even the ECB has been buying Greek bonds from some of the sellers. The end result is that the market for bonds hardly functions at all.

The easy part for the eurozone and the IMF was to dish out loans to Greece. The hard part, in a few years' time, is to envisage how it will ever get back to selling bonds in the market again. The same fate would befall Ireland as well if it were to seek 'solidarity'.

Worse than all of this would be the hit to reputation. Piggy banks are the preserve of kids. Blowing open the piggy bank is usually the last resort. It would be a signal to all of Ireland's trading partners that the risk of doing business is too high. A calamity for an open economy.

Yet Ireland's public deficit this year is running far above that of Greece, even without factoring in the cost of all the aid given to the banks.

The ratio of Ireland's public debt relative to national income could climb above that of Greece in a few years, under reasonable scenarios, unless there is a sharp change in government policies.

But borrowing from the eurozone/IMF piggy bank, probably at rates of around 5pc, is barely going to make a dent in the cost of rolling over the debt. So the only sure way for the Irish taxpayer to pay less in interest is to sharply rein in public spending and hike taxes over the coming years.


Ireland has many advantages over Greece. For one, it is far richer. Wages in Ireland are among the highest in the EU. Income tax is almost zero for salaries below €30k a year. Some welfare benefits appear extraordinarily generous, compared to the rest of Europe. Ireland has virtually no wealth or residency taxes.

Pension entitlements are generous. Indeed, the present Government felt so confident last year on the budget outlook that it cut taxes on alcohol -- the only country in Europe that went out of its way to support the drinks industry and drinkers.

Foreign investors, when they study the figures for taxation and spending in Ireland, are all convinced that the budget can be brought under control if the government sets about it.

Some of the investors -- especially those that hold Irish government bonds -- tell me that they have been surprised at the readiness of the present Government to support domestic property and banking interests.

But they agree that Ireland is rich enough to be able to pay for all this aid. At the same time, they are reassured at the state access to a pot of ready cash.

Such wealth can either be further squandered, or else it can be used to decisively improve the outlook for public finances. Investors are giving the benefit of the doubt to Ireland for now. Ten-year government bonds are back to 6pc, ahead of the budget powwows.

That's their lowest level in a month. But investors will need to know shortly which way budget plans are heading, and if the present and the subsequent government will be up to the game.

Ciaran O'Hagan is a fixed income strategist at French bank, Societe Generale

Irish Independent

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