Monday 22 July 2019

€220bn sovereign burden too big to carry Constantin Gurdgiev


Last week's events have finally brought to national and international attention the true extent of the solvency crisis we face. With the government estimates gradually approaching the true figure of expected banks losses and the forecasts for bank recapitalisation costs provided by the independent analysts, it is now clear that by the end of 2014 Ireland's sovereign and quasi-sovereign debt will be in excess of €210bn-€220bn.

Whether financed through the IMF/ECB facility or via borrowing in the markets or both, this debt will exert an unbearable burden on Irish taxpayers -- corporates and households -- who are already carrying substantial amounts of debt of their own. Using official figures and market estimates, the total interest rate bill for the government debt will be in the region of €13bn-€15.4bn a year. In effect, this makes the entire exercise with deficit cuts under the latest plan for recovery 2011-2014 an academic exercise.

In fact, the IMF/ECB deal will simply lead to an increased level of public indebtedness without addressing the underlying crisis.

It is painfully clear at this junction that Ireland cannot afford the levels of debt being piled upon our productive economy by the banking sector via the willingly co-operative Exchequer. Morally, the idea of underwriting banks' debts with taxpayers' money is simply an antithesis of a civilised functioning democratic society. But forget morality. Economically and financially, the proposition that the above levels of debt -- well in excess of 150 per cent of our national economy as measured by GNP -- can be sustained in the medium term is so out of touch with reality that those espousing it betray deeply rooted ignorance of simple principles of finance.

Irish society now faces a stark choice. Either we restructure our debts -- public, private, banking or any combination of these -- in an orderly fashion, through existing and well-established mechanisms, or we face a ruinous spiral of debt, leading, in all likelihood, to a catastrophic outcome of a disorderly default.

Restructuring of our banking debts is probably the least painful and most effective means to avoid becoming the first country in Europe to undergo a dysfunctional collapse. Irish banks hold more than €540bn in balance sheet claims against our economy. Based on current market yields on Irish banks' bonds and the cost of insuring these bonds, the markets already expect the losses of ca 33 per cent on this paper with the probability over 95 per cent.

In other words, no rational market investor, including those who hold these bonds really expects to collect more than 67 to 70 per cent of their value.

This means some €180bn worth of banks debts can be written off via a debt-for-equity swap. Discount this amount by the funds that the new equity holders in the banks will have to put into capital, and the figure falls to somewhere closer to €150bn. Not pocket change, even in our highly sardonic times.

Additional support to this restructuring should be provided via continued state insurance for all household deposits in excess of €200,000 to protect those who saved for their retirement and for private investment.

Restructuring banks' debts will stop the horror of contagion from the sick banking sector and recklessly spending Exchequer to the healthy sectors of Irish economy.

Currently, adverse newsflow surrounding the banks and sovereign finances is leading to a collapse in trade finance, putting pressure on our exporters. The same forces adversely impact households' and corporates' willingness to invest in this economy.

Our economy can get on to a path to robust economic recovery if we lift the burden of banks' debts and insolvent public finances off the shoulders of workers and entrepreneurs, exporting companies and domestic firms with exporting potential.

This can only be done by pushing an 'erase' button on our unsustainable debts. Far from triggering a panic in the markets -- a panic that is currently already running like a wildfire due to the unwillingness of this Government to deal resolutely with the debt crisis -- the orderly restructuring will most likely lead to a gradual, but fast-paced restoration in our own and markets' confidence in the future of this country.

Dr Constantin Gurdgiev is adjunct lecturer in finance with Trinity College, Dublin

Sunday Independent

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