Monday 14 October 2019

Keeping an eye on debt best way to stay out of trouble

Brendan Keenan

Brendan Keenan

THE Organisation for Economic Cooperation and Development is not known for its pithy sayings. Yet, in just 30-odd words, it has managed to summarise all the dangers of belonging to the single European currency.

"The lack of control over monetary policy, the no-bailout clause, the absence of debt pooling, a higher dependency on foreign financing and difficulties in adjusting to shocks," are the words in question. Any newspaper sub-editor would be proud to get so much information into so little.

They come, not from a newspaper of course, but a recent report, in the more usual orotund style, on desirable debt levels for countries and the kind of budget rules which might enable them to be achieved.

This is part of continuing research by the Paris-based think tank to which this column has referred in the past. But, with Ireland now ranked as one of the most highly indebted countries, we are surely entitled to take a continuing interest in any such research.

Especially since not much attention has ever been paid to the dangers of belonging to a monetary union without transfers or a pooling of debt, federal style. The general belief that no such dangers existed went a long way to causing the Crash. One might have expected that disaster would push the issue to the front of policy - recognising that membership of the euro puts extra constraints on a country, not fewer - but there is little sign that it has.

The national debt did have its moment in the media sun last week, with the publication of the annual report of the National Treasury Management Agency (NTMA), which handles the €200bn borrowed by the State.

The occasion even produced what amounted to debt targets from Finance Minister Michael Noonan. Such targets are implicit in the Budget arithmetic, of course, but you have to do a little bit of trawling to find it. The main "Budgetary Projections" table deals only with balances. Debt is tucked away in little section of its own.

This does not matter to an analyst, but it may matter politically. The gist of the OECD paper is that the debt level should be the central target and a set of budgetary rules, especially on spending, should be used to realise it. Instead, in Ireland, debt is presented as a residual - what is left when decisions on tax and spending have been taken.

Next year, the minister said, the national debt will fall below the psychological 100pc of GDP level. That is four percentage points better than the forecast in the last Budget, reflecting the better economic growth.

It means the debt ratio will have fallen by more than 20 percentage points in four years. Ah, the magic of GDP growth, especially if GDP is revised upwards by the statisticians as well!

There are other remarkable figures, from the perspective of five years ago. The overall interest rate is less than 4pc, which is below the average for the whole of the last century. The mathematically-inclined will also immediately see that, with debt at 100pc of GDP, the interest bill is also an apparently comfortable 4pc of GDP.

Given the mystery that is Irish GDP, a better measure is the €7.5bn interest bill as a share of total tax revenue. That is a somewhat less comfortable 17.5pc. It's still a lot of money, in other words, but there is consolation in the fact that it was the same in the happy days of 1997.

The important point is that the debt burden was falling then, and is falling now. It bottomed out in 2007, when the interest bill required just 4pc of tax revenue. The question is, should we aim to achieve that kind of situation again, and if so, how?

The OECD thinks we should. Its analysts have devised statistical models to show how much debt countries can safely carry without the risk of being shut out of the markets in a crisis, as Ireland was in 2010.

For advanced economies, the figure is 70-90pc of GDP. For members of the riskier euro system, 50-70pc is needed for safety. But for countries like Ireland, which have already suffered a loss of market confidence, debt below 40pc may be needed as insurance against it happening again, they say.

Things have moved so fast that this estimate may already be a bit pessimistic. The success of Ireland's recovery is bound to have increased lenders' confidence in its ability to remain solvent. On the other hand, it would be naïve to assume that the same lenders have not noticed Ireland's habit of getting itself into trouble rather too often for comfort.

We may soon get a bit of hard evidence. Ingredients for the next downturn may already be in the pot, with the collapse in commodity prices and the stock market meltdown in China. One would rather not find out that way, but at least we would see if Ireland's standing is still weaker than those of countries which escaped insolvency.

The OECD wisely ducks the vexed question of whether high debt levels directly reduce growth. Its concern - one we can all share - is that they may prevent a country increasing its debt during recession to provide much-needed stimulus. That may well be the position Ireland finds itself in if there is serious global downturn in the next few years.

The EU rules, with their complexity and reliance on the fuzzy concept of the "structural" deficit are of limited help, quite apart from losing moral standing in the Greek debacle. The OECD's suggested rules, as well as being simpler, are more practical.

They require a medium term target for debt and the primary surplus, before interest payments, required to achieve it.

Debt should be allowed fall faster during periods of buoyant growth but, on the other side, budget plans could be left unchanged in a downturn and the primary surplus let fall, rather than trying to the calculate the theoretical "cyclical" position and framing budgets accordingly.

From that point of view, one cannot fault Mr Noonan's projections. Looking at the latest figures, the primary surplus is meant to exceed 4pc of GDP by 2018 and the debt ratio be close to 90pc.

That should certainly allow some freedom of action to combat a 2020 recession.

But it depends on the economy's value rising by 5pc a year from now until then and on getting through a general election campaign without wreaking havoc on the whole business.

In that context, the OECD recommended fiscal rule of a spending ceiling - where the increase in public spending is fixed in advance, irrespective of growth and deficit out-turns - might well be the best political defence against life in that dangerous monetary union.


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