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News : Irish Economy Last Updated: Feb 9, 2011 - 1:08 PM

EU-IMF Bailout: Hope, anger and denial on Ireland's Day of Infamy
By Michael Hennigan, Founder and Editor of Finfacts
Nov 29, 2010 - 6:13 AM

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Minister for Finance Brian Lenihan appears to be reading the capitulation terms at the Ecofin special meeting of EU27 finance ministers which approved a bailout for Ireland, Brussels, Nov 28, 2010.

EU-IMF Bailout: Hope, anger and denial were common emotions on Ireland's Day of Infamy, Sunday, November 28, 2010, when European Union finance ministers approved terms of an €85bn aid package that will be subject to quarterly performance reviews.

European Union and bilateral European lenders, including the UK, Denmark and Sweden, have pledged a total of €45.0bn and Ireland will contribute €17.5bn from the national pensions reserve fund and cash reserves. The International Monetary Fund's (IMF) contribution will be about €22.5bn, representing 2,320% of Ireland's quota, under the Extended Fund Facility (EFF).

The Government said on Sunday: "If drawn down in total today, the combined annual average interest rate would be of the order of 5.8% per annum. The rate will vary according to the timing of the drawdown and market conditions."

Greece is paying 5.2% interest rate on its €110bn bailout. Ireland's support package includes loans that range from 3 to 7 1/2 years, longer than the Greeks' three-year deal.

"If you were forced to take the loan, how come you agreed to such a high interest rate?" was a question asked this morning in Kuala Lumpur.

The Fund has been kinder than the European task masters who are calling the tune on the bulk of the funding.

The IMF said on Sunday that the choice of an EFF offers Ireland a facility with a longer repayment period, with repayments to the Fund starting after four and a half years and ending after 10 years. The IMF charges member countries a uniform interest rate on nonconcessional loans, which is a floating rate based on the SDR (Special Drawing Rights  -- the IMF's internal currency) interest rate, which is updated weekly. (The SDR interest rate is a weighted average of yields on three-month Treasury bills for the United States, Japan, and the United Kingdom, and the three-month Euro repo rate.) For amounts up to 300% of quota, the lending interest rate is currently 1.38%, while the lending rate on amounts over 300% of quota includes a surcharge that is initially 200 basis points and rises to 300 basis points after three years. At the current SDR interest rate, the average lending interest rate at the peak level of access under the arrangement (2,320% of quota) would be 3.12% during the first three years, and just under 4% after three years.

Taoiseach Brian Cowen said in Dublin that the assumptions underlying the plan mean that, at its height, the burden of debt will be 102% of GDP (gross national product), roughly where it was in 1992/1993 at the dawn of Ireland's Celtic Tiger period.

He said in 1985, the debt burden was considerably worse than it would be under the EU-IMF programme for Ireland announced last night.

In the past week, news reports suggested that senior bank bondholders could be subject to 'haircuts' - - a term for forced cuts in their debts.

However, while anger that the burden on taxpayers has not been reduced, given the fears of destabilisation in other fragile markets, the expectations were unrealistic.

German and French leaders Angela Merkel and Nicolas Sarkozy, European Central Bank president Jean-Claude Trichet, European Council president Herman Van Rompuy, Jean-Claude Juncker, head of the Eurogroup and European Commission president José Manuel Barroso held telephone conversations on proposals for a new rescue mechanism for Eurozone countries, also on Sunday,  the EU said in a statement.

A proposal to make private-sector creditors bear part of the burden of future economic woes was agreed by the leaders.

Germany has been strongly pushing for a permanent crisis resolution mechanism since the Greek crisis earlier this year.

The plan would take effect from 2013 and the issue of whether a country is insolvent would be subject to a vote of Eurozone finance ministers, after a technical analysis by officials from the EU, the International Monetary Fund and the European Central Bank.

A new permanent rescue fund will replace the existing €440bn European Financial Stability Facility (EFSF) which expires in 2013.

The French government had opposed an automatic “insolvency mechanism'”
 favouring a case-by-case situation but Germany won agreement to have rules developed that would be based on International Monetary Fund principles.

The new system is expected to be phased in gradually after 2013 and it may take up to eight years for the majority of a country's public debt to have been issued from 2013.

The Eurozone needs to implement further stress tests followed by a recapitalization program, says Russell Jones, global head of fixed income strategy at Westpac Institutional Bank. He speaks to CNBC's Karen Tso, Bernard Lo & Sri Jegarajah:

Following the Ecofin meeting of EU27 finance ministers Minister for Finance Brian Lenihan said junior bank bondholders would be subject to steep losses but senior bondholders would not be hit.

“In the course of these negotiations I did raise the issue of senior debt and the unanimous view of the European Central Bank and the Commission was no programme would be possible if it were intended by us to dishonour senior debt because such a dishonouring of senior debt would have huge ripple effects throughout the euro system,” the Minister told reporters.

Lenihan said the joint efforts by German chancellor Angela Merkel and French president Nicolas Sarkozy to compel private investors to assume sovereign bailout costs had weakened Ireland’s position.

The Aftermath: Denial, anger and hope

Last week's four-year budget plan brought some realism but also reflected continuing failures to tackle sacred cows.

If the annual real GDP does not reach an average of 2.75% in the period 2011-2014, the debt level will rise.

Besides as Finfacts has stated many times, there is no credible jobs strategy.

  • While Ireland will soon be paying 20% of its tax revenues in interest on its national debt compared with 28% in 1991, the net cash receipts from Europe in 1991 at 6.2% of GDP (gross domestic product) more than offset the interest burden. In 2013 we will become a net contributor to the EU budget for the first time since 1973 after receiving over €40bn in aid.
  • In 1987, Ireland's debt to GDP ratio was 125% and the spread on Irish 10 year bonds with the German bund was 700 basis points (bps) or 7%.  On joining the European Exchange Rate Mechanism (ERM) the spread began to fall, and was down to 100bps in 1992. Before joining the euro in Jan 1999, the spread was 10-20bps.
  • Employment in the foreign-owned sector which accounts for 91% of Ireland's tradeable exports, is back to 1998 levels while the global economy’s centre of gravity is moving to Asia. We can only benefit from emerging markets indirectly but Ireland as a manufacturing base for multinationals is not in a favourable location relative to Asia.
  • Jobs growth in the exporting sectors has been concentrated in International Financial Services Centre (IFSC) firms; as discussed in an op-ed article today, growth in pharmaceutical exports, has coincided with job shedding.  
  • Spending billions on university research will never create a jobs engine; startups need local markets to gain traction before entering export markets. Besides, the standard venture capital exit in Ireland, is a trade sale to a bigger American firm.
  • One of the first high tech clusters in Europe was in the UK in the area around Cambridge University. It is called Silicon Fen and has five times more research and development jobs than the UK average. There are more than 30 leading research institutions across the East of England, and the area is said to be characterised by a culture of science-based start-ups and university spin-outs. After 30 years, Cambridgeshire has about 30,000 jobs in technology companies and the majority of firms employ less than 10 people.
  • Enterprise Ireland said last July that investment in over 800 start-up companies over a 20 year period (1989 - 2009) yielded only about 14,000 jobs. Since the agency started funding the commercialisation of academic research over 10 years ago, 140 spin-out companies have been created employing over 1,000 workers -- an average of 7 employees per firm.
  • ETH Zurich, one of Europe's top science universities could only produce less than 1,000 jobs from over 100 spinouts in a decade.
  • Finfacts is arguing for realism not to scrap the science budget; we have a European market on our doorstep and a great opportunity for using R&D to develop the food and drinks industry. Policy focused on waiting for a Google, Facebook, Apple or Microsoft, is doomed to fail. Besides all these giants were not pioneers in their sectors. They improved on others' ideas.
  • Despite the economic woes, slow-motion reform in the public sector is matched by business as usual among the big players in the protected private sector.
  • We wrote last week of sick pay doubling in the public sector since the 1980s with the average civil servant taking 11 days sick leave in 2007.
  • Payments to barristers by the DPP rose 11% to €15.2m in 2009 despite an 8% cut; the Irish Times reported last April that its own columnist Noel Whelan was the 5th highest earner at €234,766 (inclusive of VAT); Lawyers become multimillionaires on the public payroll investigating corruption which of course is confusing and besides reform of the underlying cause of one aspect of corruption, land rezoning, is a taboo issue.
  • The Competition Authority (CA) says the legal profession in Ireland is organised into a highly rigid business model: access to barristers for legal advice is limited to a few approved clients, barristers cannot form partnerships or chambers or represent their employers in court; there is no profession of “conveyancers”  in Ireland, as in other common-law countries, and this limits competition in conveyancing services; the title of Senior Counsel is inclined to distort rather than facilitate competition; junior counsel generally charge a fee equal to two-thirds of the senior counsel’s fee, regardless of the work done by each barrister, despite the fact that this practice was identified as anti-competitive in an independent report on the legal profession 16 years ago; establish objective criteria for awarding the title of Senior Counsel.

    The level of solicitors’ fees in the High Court increased by 4.2% above general inflation annually over the period 1984 to 2003 while the level of senior counsel fees in the High Court increased by 3.3% above general inflation annually over the same period.

The public sector is the biggest customer of the legal profession as with other professional services.

If not now, when will it change?

Transparency and political will to clear the dust from several CA reports is all that's needed.

But in the four-year plan, it was made clear that there will be no compulsory redundancies in the public sector, including in redundant agencies/quangos. A plan to impose a levy on public sector pensions is a minor step and will not reverse the huge gains made from piggy-backing on public sector pay during the boom.

The public megaphone is in the grip of the well-off and the lot of the unemployed, private sector workers and owners of small businesses is likely far from their agendas or experiences.

Last Saturday, Fintan O’Toole, in the words of his own newspaper, The Irish Times, "was master of ceremonies at Saturday’s Ictu demonstration in Dublin against the austerity plan."

He has advocated radical reform but was the cheerleader for trade union leaders who have been the conservative defenders of the status quo.

They resisted reform in common cause with groups on the right of the spectrum. In addition, they linked their pay and perks with those of senior civil servants.

They in effect represent the privileged in an unfair society and O'Toole's ideological blinkers seems to obscure this reality..

There are groups in denial in both the private and public sectors on their expectation that bubble-time payments, perks and charges can continue.

There are others who see leaving the euro as a panacea.

We said last week that 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?

Let's hope the IMF will speed both governance and economic reforms as we are in a world with emerging giants and as we should realise after yesterday that there is no such thing as a free lunch.

Businessman John Barrett says economist Joseph Stiglitz brilliantly describes the 'failure of agency' in his lecture 'The road to ruin' where rewards and the consequences for failure have become divorced in corporate America and most especially in this financial crisis. "The decision makers who led us to this pass are largely insulated from the worst of the consequences to come, protected by a particularly dysfunctional set of Irish rules of agency...."

Nov. 26 (Bloomberg) -- Iceland's President Olafur R. Grimsson talks about the country's progress since receiving a $4.6 billion International Monetary Fund-led loan. He speaks with Mark Barton on Bloomberg Television's "On The Move."

The median across 12 advanced countries of government-guaranteed debt issued by banks is about 6% of GDP. Ireland was the outlier in 2009  with a sovereign exposure of 55% of GDP.

The issue of ECB President Jean-Claude Trichet and the Irish State bank guarantee of Sept 2008, is reminiscent of arguments about London-Dublin cable traffic during the Treaty negotiations in 1921. The main story of course was why the head of the revolutionary government had decided to stay in Dublin not communication problems.

There was no official ECB policy in Sept 2008 on issuing blanket guarantees and neither had EU finance ministers promoted it.

Ireland was the ONLY Eurozone country to issue a blanket guarantee and a week later Denmark made a similar move.

According to the IMF, the median across 12 advanced countries of government-guaranteed debt issued by banks during the crisis or in the case of Denmark/Ireland including existing debt, was about 6% of GDP.

In ascending order, US (2.5% of GDP), Germany (3%), Portugal, Spain, France, Austria, Sweden, Netherlands, UK, Australia, Denmark and Ireland.

Denmark’s exposure was 20% of GDP and Ireland was the outlier with an exposure of 55% of GDP — all the others had an exposure below 10%.

The news on the Irish guarantee was presented as a fait accompli to the ECB, Ecofin and Eurogroup heads on the morning of Sept 30, 2008, coinciding with the issue of the news to the markets.

Once the announcement was made, it would have been very difficult to reverse it.

As regards the Lenihan-Trichet phone conversation a week before the guarantee was issued, I doubt if Trichet gave the go-ahead on a blanket bailout. Unlike his gaffe-prone predecessor, he is always measured when speaking on policy issues.

This story is akin to a unit of a multinational making a major decision without any consultation with headquarters but assuming that everything would be grand because of a conversation a week before with the CEO.!

Decisions made in a panic situation seldom turn out right.

The banks had access to the ECB’s emergency liquidity program which was in place since Aug 2007.

The unlimited deposit guarantee could have been issued and the issue of guaranteeing debt could have been discussed with the ECB in a calmer atmosphere.

If the blanket guarantee was issued to save Anglo, it was an absolutely reckless move to make in the absence of detailed information on the state of the bank.

Remember the context - - yes the crisis had intensified in the previous 2 weeks after the collapse of Lehman - - but it had been 13 months since the onset of the credit crunch; the world’s biggest insurer had to be rescued by the US government and the prospects of an Irish soft landing had evaporated and what did the Department of Finance have?

A Sept 18th PowerPoint presentaion prepared by Anglo and the financial regulator chanting his mantra on ‘resilient’ banks

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