Mittwoch, 6. Februar 2013

ESM and Banking Union - A German view of the Irish case. By Ansgar Belke

What does the German public really think of a country like Ireland? Until Lehman, Ireland was considered to be THE example of an economic “tiger economy”. But also in 2012 the picture conveyed is a very positive one as compared to other financially distressed euro area member countries – in spite of its currently higher budget deficits and stalled growth.

It is well known that remaining financing needs in the Irish case are not dramatically high. The EU-IMF financial assistance covers the Irish government's financing needs until the end of 2013. After 2013 refinancing needs will be very low. There is only one maturing government bond in the 2014-2015 period, which, if financed (e.g. due to new debt issuance or asset sales) would eliminate the risk of default until 2016. In addition, the Irish government disposes of substantial liquid reserves. Unlike for other programme countries, a delay in disbursement does not create immediate refinancing risks for the Sovereign due to the relatively high cash buffer.

It is also widely acknowledged that Ireland is exposed to limited solvency risk. Irish government debt is projected to peak at something around 120 percent of GDP. This represents a level comparable to other euro area countries (like Italy) and  seems manageable under realistic assumptions. It could be reduced to 100 percent by a primary surplus of 3 to 4 percent. Ireland's own historical track record which shows that such an adjustment is possible is well known to the German public.

What is more, the banking sector uncertainty has been significantly reduced. Ireland has achieved important progress in reforming its banking system. A bank stress test, based on an extensive and independent asset quality review of the banks’ loan portfolio and very conservative assumptions, has contributed to transparency and has sharply diminished the uncertainty with respect to further losses in the banking sector. Moreover, the deleveraging process in the Irish banking system is well under way. These measures lay the foundations of a significantly smaller and sounder Irish banking system which, in turn, might provide the basis for sustainable growth in the period after the crisis.

Like Germany, Ireland is highly integrated into the world economy. Especially for smaller economies but traditionally also for Germany this is a condition sine-qua-non for more growth and competitiveness. A high degree of openness also lowers the negative effects of fiscal consolidation on domestic demand and lowers the need for real depreciation because already small depreciations exert large effects on demand which substitutes foreign for domestic demand.

As stated by Chancellor Merkel and her spokesman on October 22, 2012, the Irish economy has undertaken an impressive economic adjustment process over the recent years which tends to foster its product and labour market flexibility. The house price bubble has been corrected. Commercial banks have enacted significant balance sheet adjustments. Decreasing unit labour costs contributed to an improvement of competitiveness and the current account turned from a large deficit into a surplus. 

Remarkably, Ireland is on track to record a current account surplus also in the second quarter of 2012 with the annual current account balance for 2012 being projected by the IMF to amount to a remarkable 2.3 percent of GDP. As a result of increased private savings, the economy does therefore not need any additional foreign funds. The country also has large external assets at its disposure. Since much of these assets are available in pension funds, they might be mobilized to curb Ireland’s financing needs.

In contrast to Greece and Italy, for instance, Ireland has a remarkable administrative and socio-political ability to adapt to increased demands on public finances – at least according to the recent ten-year-trends in the World Bank’s Governance indicators. The country performs well on measures of government effectiveness. Its fiscal data are transparent and reliable and corruption is not an issue. The latter increases the capacity of the Irish economy to generate further tax revenues.

Ireland is well-known to still offer a growth-friendly environment. The country is ranked top in nearly all of the global indices benchmarking political, economic, business and human capital climates. This pattern clearly increases the long-run potential growth of the economy.

Finally, it has been closely followed in Germany that Ireland has an extraordinarily high willingness to implement reforms. Ireland has a reputation as a law-abiding jurisdiction with a pro-business environment. Since its independence, the country has not recorded any sovereign default or restructuring. As illustrated by its close adherence to the low corporate tax rate, the Irish government appears to be strongly determined to stick to this growth-friendly environment. A sovereign default would damage this reputation and is therefore associated with high political costs. The same effect would emerge if Mr. Kenny would tell the EU right now that Ireland’s debt is unsustainable and thus, demands additional help. This increases the government's incentives to implement the necessary reforms.

As a consequence of all this, international investors have rewarded Ireland with its benchmark bond yields plummeting below the Spanish rates. This overall assessment by the potential paymaster Germany is particularly interesting considering the joint communiqué issued by Chancellor Angela Merkel and Taoiseach Enda Kenny over a deal on Ireland’s bank debt on 21 October, 2012, last Sunday after her comments on Spain on 19 October - although it is still unclear whether a deal is on the cards.

They discussed the unique circumstances behind Ireland’s banking and sovereign debt crisis, and Ireland’s plans for a full return to the markets. In this regard they reaffirmed the commitment from June 29th 2012 to ask the Eurogroup to examine the situation of the Irish financial sector with a view to further improving the sustainability of the well performing adjustment programme. Both Merkel and Kenny recognise in this context that Ireland is a special case, and that the Eurogroup will take that into account.

What kind of deal will Ireland get then? Merkel stressed on October 19, 2012, during the EU Summit in Brussels for the Spanish case that there will not be a retroactive direct recapitalisation from the rescue fund (whereas Mr. Hollande was much more positive on this issue). If direct recapitalisation is possible after the euro area had set up a unified banking supervisor to oversee all financial institutions in the common currency area, it will come onto the agenda in the future. There are significant consequences for Ireland contained in this statement.

Look at the fact that the Spanish government pressed hard in 2012 for its banks to be propped up through immediate ESM capital injections, and in June of the same year succeeded to persuade Angela Merkel to support the idea, but only conditional on the set-up of a unified banking supervisor. Ireland, in turn, achieved agreement that its bank debts amounting to €64bn would be treated similarly to the Spanish case. Hence, the obvious defeat for the Spanish government on the issue impacts directly on Dublin’s ability to emerge from its bank debt, i.e. to restructure the debts it took on to support its banks.

What is more, parts of the German political opposition such as the Greens claims that Ireland cannot hope for any special treatment with respect to access to the ESM as long as the country will continue its “tax race to the bottom”. Disregarding positive growth effects of tax competition on the EU level, they argue that German taxes should not be employed to make Irish tax dumping possible.

But given my above analysis of Ireland’s undisputable strengths, the main point for the Irish should be to consider that a banking union can provide more shock-absorbing capacity than could ever be provided by any ‘fiscal capacity’ that is currently being contemplated for the euro area. In the US, banking problems are taken care of at the federal level (the US is a “banking union”), whereas in the euro area, the responsibility for banking losses remains national. In this vein, Daniel Gros from the Centre for European Policy Studies recently came up with the interesting observation that Nevada and Ireland both experienced an exceptionally strong housing boom and bust. But he correctly stated that the main difference between Nevada and Ireland is that Nevada did not experience any local financial crisis and the state government did not have to be bailed out when the boom turned into bust.

Hence, Angela Merkel has not been overall imprudent to suggest that a eurozone wide bank resolution fund may need to be set up before banks can receive direct support from the ESM. This must not be interpreted as a “Judas kiss” of Chancellor Merkel by intentionally building up additional hurdles for ESM support for Ireland. Nor do Germans think Ireland doesn’t deserve a deal. As shown above, the Irish economy has enough substance – i.e. assets and liquidity – and the spirit to prepare for and contribute to the banking union to come.

Professor Belke is a Monetary Expert Panellist for the Economic and Monetary Affairs Committee of the European Parliament and is the Jean Monnet Professor at the University of Duisburg-Essen. He is also a member of Open Europe Berlin's Advisory Council.

Kommentare:

  1. Right, Merkel is not imprudent. But she must deliver on her promise to support Ireland. Until now, everything she did on the banking union can actually be interpreted as a "Judas kiss". I am afraid that Germany is actually NOT up to the task...
    http://lostineu.eu/the-new-german-question/

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