Exiting euro won't cure our debt sickness

April 22 2012 04:47 AM

In my view, such a course as advocated by Paul Krugman, undertaken in cooperation with the EU member states and the ECB is a correct one for Greece, and possibly Portugal, but not for Ireland or Spain. Unlike Greece and Portugal, Spain and Ireland are suffering not so much from the sovereign debt overhang, but from private and banking debts crisis.

Resolution of these crises will not be helped by an exit from the euro, primarily because our debts are denominated in euro. In addition, exiting the euro will entail significant economic and reputational costs to an open economy, like Ireland, reliant on Foreign Direct Investment and high value-added euro-related services, such as the International Financial Services Centre, and the multinationals' goods and services trade.

Professor Krugman is correct in his analysis that "continuing on the present course, imposing ever-harsher austerity. . . is what's truly inconceivable". He is also correct in stating that "if European leaders wanted to save the euro they would be looking for an alternative course".

However, in my view, the alternative course that the European and Irish leaders must adopt is one that will preserve and strengthen Irish participation in the eurozone economy, not push Ireland out of the common currency. This requires steps to be taken by Irish and European authorities.

The first step is to recognise that Ireland's economy is suffering from a private (namely household) debt overhang and the incomplete nature of bank restructuring. This is the easy bit. The second step is to devise a solution -- most likely via the ECB -- to write down a significant proportion of Irish mortgages and other household debts while simultaneously allowing the banks to deleverage out of the household debts. This should be achieved by the ECB cancelling all of the Central Bank of Ireland Emergency Liquidity Assistance and a part of Irish banks' borrowing from the ECB itself and using these cancellation proceeds to write down household debt. This is the hardest part of the plan. The third step is to create a long-term warehousing facility to roll over existing government debt so Ireland will have a period of 10-15 years within which this debt can be reduced without the need to face the uncertainty of market funding.

Combined, these steps will be able to put the Irish finances on a secure fiscal and economic platform from which structural and longer-term reforms can take place. This, will ensure that Ireland can play an active and positive role in euro area growth and sustainable development in years to come. Exiting the euro is neither necessary, nor sufficient for restoring the Irish economy to growth precisely because such an exit will not address the core source of our malaise -- too much debt in the real economy.

Dr Constantin Gurdgiev is an economist in Trinity College http:// trueeconomics.blogspot.com