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Nov 13, 2010 - - An EU bailout doesn’t “make any sense” Lenihan: During the course of an interview with RTÉ Radio Minister Lenihan said “We’ve substantial reserves. We have the pension reserve fund. So this country is not in a situation or in a position where it is required in any way to apply for the facility. So why apply in those circumstances it doesn’t seem to me to make any sense?”
Ireland's EU/IMF Bailout: It is easy to blame the euro for Ireland's economic
woes and it's typical in situations like the current one to search for
scapegoats beyond our shores.
The issue of the responsibility for euro for Ireland's economic bust is 1) a
separate issue to whether Ireland should have joined in the first place, with
its clientist system of local politics that produces political leaders from
teachers, property auctioneers, small-town solicitors, hospital administrators
and farmers, coupled with vested interests from across the spectrum dedicated to
grabbing what they could from the public treasury, 2) the role the European
Central Bank may have had in Sept 2008 in forcing the Irish Government to
protect 'systemic' banks.
The Irish Central Bank publicly declared its impotence before launch of the
euro and futilely pleaded for restraint from the banking sector as fiscal policy
fuelled the boom. In contrast, Spain's biggest banks survived a huge housing
boom because the Spanish central bank insisted on additional provisioning during
the good years and other risk controls.
Simply put, in Ireland, there was no counter to reckless fiscal policy, from the
Central Bank, as it had declared its impotence almost two years before the
launch of the euro. The Spanish central bank took a diametrically opposite
Central Bank governor Maurice O'Connell,
Oireachtas Committee on Finance and the Public Service in early 1997:
"There seems to be a perception that the Central Bank can exercise some legal
authority in restricting credit. It has no such authority. Any restriction would
be inconsistent with European Union practice. Besides, it would be unworkable as
demand would probably be met by overseas lenders."
He said the Bank had warned financial institutions repeatedly of the dangers
inherent in high rates of credit growth and any relaxation of lending standards.
In the following years, as Finance Minister Charlie McCreevy stoked the property
boom with income and capital tax cuts coupled with a massive expansion of
property tax incentives, the annual reports of the Central Bank chronicled the
letters that were sent by the governor to the financial institutions, pleading
The bankers must have been laughing up their sleeves!
In April 1999, the governor had issued a letter stating that an analysis of
practices had shown that some lenders had no evidence as to how borrowers came
by the balance of their money. The governor criticised what he called, the
particularly disturbing practice of allowing large amounts of the borrowers
after tax income to go towards paying off a mortgage.
The 1999 annual report notes: "Institutions were...advised that it remains
vitally important for them to take a medium term perspective and to reckon with
the potential consequences of rising interest rates and a return to lower rates
of growth in the economy. All institutions gave assurances that there would be
no slackening in prudential lending standards."
In April 2000, the US magazine BusinessWeek, quoted the governor:
''There's no monetary policy prescription for the problems of the Irish
The Irish Central Bank didn't even bother to gather data from the banks on
5-year interest only mortgages, which were the mainstay of the buy-to-let
Discussing the EU-IMF bailout for Ireland, Torge Middendorf, economist at WestLB, says the deal will help ease fears of a contagion in the short term and bring down the yields of Portugal's government bonds. He talks to CNBC's Chloe Cho and Anna Edwards:
In 1999, the year of the launch of the euro, the Bank of Spain agreed to put
in place in 2000 a
new solvency provision, the so-called statistical or dynamic provision, forcing
its main banks to provide additional ‘rainy day fund’ reserves and in contrast
with the Irish banks, risk management at Spanish banks was already central to
World Bank paper published in 2009 says Banco de España and its banking supervisor, put a
system for special loan-loss provisions, in place in July 2000, to cope with a
sharp increase in credit risk on Spanish banks’ balance sheets following a
period of significant credit growth. Moral suasion had proved to be inadequate
in inducing banks to become more conservative. Moreover, intense competition
among banks had resulted in inadequate loan pricing - - that is, risk premiums
were too low. The new system in effect obliged the banks to build up a fund for
the rainy day.
The World Bank
paper says Spanish banks had accumulated a significant buffer to cover incurred
losses, a buffer that they have now started to draw down as individual loan
losses have begun to mount in parallel with the deterioration in the economy.
The buffer was never intended to be permanent. Instead, it is meant to be used
in periods such as the current one, when problem loans and specific provisions
are surging. By being drawn down, dynamic provisions fulfill their anti-cyclical
central bank intervention, an intense board-level focus on risk is another
reason why Spain’s large banks have so far weathered the credit crunch in better
shape than many of their European rivals.
committees of the two biggest banks, Banco Santander and
Banco Bilbao Vizcaya Argentaria (BBVA),
include several external non-executive directors and they meet usually more than
one each week.
Spain has had problems with its politically controlled ‘caja’ banks but not
its principal banks.
When Ireland joined the euro, it needed to have a prudent fiscal policy but
when the European Commission and ECB criticised the 2001 Budget, the ICTU congress of
trade unions and employers' group IBEC, strongly supported the tax cutting
strategy of the then Minister for Finance, Charlie McCreevy. One year ahead of a
general election, an Irish Times poll also showed strong public backing for
McCreevy and Taoiseach Bertie Ahern.
Bank of Ireland economist Dan McLaughlin argued for medium term income tax
targets of 30% and 10%.
This ‘miracle’ was going to go on forever.
Three years later, Damian Kiberd wrote in The Sunday Times: “We need strong
leadership at the Department of Finance. The sort of leadership that will ignore
calls from Oireachtas committees, NESC and academic economists for substantial
interference in the whole property and construction sector.”
In the same year, the Oct 2004 Economist survey said: "Ireland is
not the only country to have experienced a housing bubble in recent years. But
it may be peculiarly vulnerable, because as a member of the euro area it cannot
raise interest rates in order to prick the bubble. Moreover, in the past decade
or so property and construction have become unduly dominant in the economy. This
year, for example, Ireland is on course to build almost 80,000 new houses.
Britain, which has 15 times as many people, builds only twice as many.
Employment in construction has almost doubled in the past decade, and the sector
accounts for some 15% of national income—over twice as much as in Britain.
The banking system is heavily exposed: the big Irish banks, such as Bank of
Ireland and Allied Irish, are in effect mortgage banks, observes Colm McCarthy
of DKM Economic Consultants. A property crash would badly hit their balance
The ECB reduced its benchmark rate to 2% in June 2003 and the rate was hiked
to 2.25% in Dec 2005.
The Bank of England rate was 3.75% in June 2003 and 4.5% in Dec 2005.
The argument goes that the low rates benefited Germany while they fuelled the
property boom in Ireland.
In Ireland, in 2005, Davy Stockbroker economist Rossa White, used what
economists call the Taylor Rule, to estimate the appropriate interest rate for
Ireland as 6%, compared with the then ECB policy rate of 2%. The contemporary
rate in Iceland was 8.25%.
Membership of the euro system is incompatible with casino economics. The option
of devaluation and a quick route to restoring competitiveness isn't available in
a downturn. In Iceland, with its own currency, the high interest rate attracted
foreign money to fund reckless adventurers, who put their economy on the road to
In Ireland, it's a fanciful notion that outside the Eurozone, a boomtime
Irish fiscal policy would have been matched by a prudent monetary policy.
Apart from the example of Iceland with its own central bank in charge of
monetary policy, even
allowing for a foolish trust in the independence of an Irish central bank, the
argument that as Irish trade was primarily with the US and the UK, also does not
support the anti-euro argument. The Euro is the world's second reserve currency
and US companies generally do not repatriate profits unless they have no funding
It's instructive to note that no senior manager in the civil service or the
central bank had the courage to publicly oppose irresponsible economic policies
including the special benchmarking payment that was based on a false premise.
Self-interest always trumped principle and simply, nobody stood up to the
Academic economists were also reluctant to tell the emperors that they had no
So to have expected prudence at the Central Bank, controlled by former staff of
the Dept of Finance while Fianna Fáil politicians would have countenanced high
interest rates to dampen business for its builder friends, is ridiculous.
Besides these people on Dame Street were the ones singing the mantra about
‘resilient’ banks when they were in fact insolvent. Would they have been better
overseers of monetary policy?
In or out of the euro, feckless politicians with the support of the majority
of Irish people in a bout of property hysteria; against the backdrop of a global
credit boom and capital in search of yield; we would have had the same outcomes
at a time of a severe global recession.
The aftermath would be likely worse outside the euro.
Devaluation can be a temporary palliative for commodity producers - -
(Iceland- fish; Argentina - - beef and wheat) and the Finnish devaluation in the
1990s increased its national debt by 40%.
Decisions regarding the destination of most Irish exports are not even made in
Ireland; besides, why isn’t the UK enjoying an export boom after a 20%+ trade
weighted devaluation since 2007?
As for the ECB and the blanket bailout in Sept 2008, which guaranteed all
bank debt, it was up to the Government to reject the classification of Anglo
Irish Bank as a 'systemic' bank, which it wasn't.
The ECB noted in an opinion in Oct 2008 that uncoordinated
decisions to guarantee interbank deposits in some member states should be
More information on the interaction with the ECB should be made
available but it was the Irish government that made the final fateful decision
to guarantee existing bank debt.