Government’s economic disasters. Damien Kiberd lays out national debt catastrophe in stark terms.

From The Sunday Times

April 18, 2010

Damien Kiberd: Banks lay monstrous burden on our nation

We are creating a public debt crisis in Ireland from which we may never recover. Last week the Economic and Social Research Institute (ESRI) said that gross government debt would hit 89.5% of gross domestic product (GDP) by the end of next year. The figure is 6.6 percentage points worse than the corresponding number supplied by the Department of Finance as recently as December 9. It is also a gross underestimate.

We are borrowing like drunken sailors. The government borrowed €19 billion last year. It will borrow €19 billion in 2010 and €17 billion in 2011. This drives up the debt.

Yet the ESRI numbers account for only a small proportion of the total bill for the bank bailout. The core projection is based on two fantasies. The first is that you can drip-feed €2 billion a year in cash to the carcasses of Anglo Irish Bank and Irish Nationwide Building Society (INBS) for the next decade. The second is that the €43 billion being paid by the National Asset Management Agency (Nama) for toxic loans from five Irish banks loans is recoverable.

This is not the fault of ESRI. It is obliged to use official “statistical guidelines”, which state bizarrely that “monies put into Anglo are an investment by the state”. The drip-fed capital is included in small dollops by ESRI in the annual exchequer deficit each year, but not in the annual general government deficit, the key concern for our European Union masters.
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The drip-fed debt owed by Anglo and INBS is included in the accumulated end-of-year general government debt, however. This lifts the estimated
end-of-2011 debt by only €4 billion.

Readers will recall that on March 30, Brian Lenihan, the finance minister, approved promissory notes for Anglo to a value of €8.2 billion and notes for INBS to a value of €2.6 billion. He also signalled on the same day that Anglo would need an extra €10 billion.

This adds up to €20.8 billion. It is completely irrecoverable. It is money paid from the exchequer. It is real, long-term national debt, whatever way you deal with it in accounting terms. Now add in the €4 billion already pumped into Anglo, which is also completely irrecoverable. Then make the highly realistic assumption that all of this money is gone.

If you were using proper accounting standards, you would write off this €25 billion as “dead money” and add it to the national debt straight away. The notion that any of these payments should be spread over 10 years is fanciful. But this alone does not adequately reflect the costs to be shouldered by the state.

The initial haircut at INBS was 58% of loan values. INBS is sending €8 billion in loans to Nama, for which it may receive as little as €3 billion in bonds. All liabilities to INBS depositors and bond-holders — €13 billion at the end of 2008 — are state-guaranteed. Even allowing for the burn-off of the retained profits at the end of 2008 of €1.2 billion, a capital requirement of €4 billion or even €5 billion would seem much more realistic than the official projection.

At Anglo, a 50% haircut on the €35.6 billion bound for Nama would create unavoidable losses of €18 billion. Of the remaining €36.5 billion in loans that will stay with Anglo, 53.5% were described in its own recent accounts as either “impaired”, “past due” or “of lower quality”.

Alan Dukes, the new Anglo chairman, has flagged up a capital requirement at the bank of at least €22.2 billion. But the final capital requirement will have to encompass both the €18 billion cost of the Nama loan transfers plus any losses on the residual loan book. A total capital requirement of €35 billion seems more realistic.

This brings the likely cost of bank recapitalisation close to €40 billion.

This money will not be recovered.

What, then, of the recoverability of the other €45 billion being supplied by Nama to the banks? The Nama business plan published in October last year envisaged full recovery of this cash over 10 years. That plan is now redundant. Suppose the net recovery level is much lower?

The picture painted by the Nama chief executive Brendan McDonagh last week was not pretty. Just 33% of its loans are cash-generative, compared with an expected level of 40%. The legal paperwork on many loans is incomplete or simply botched: a “litany of horrors”, as he called it.

The market in which Nama will try to encash these loans will be difficult, and the task could even be impossible. Any prudent government would be making provision for more loan losses at Nama itself.

A one-third provision of the type suggested by State Street International’s Willie Slattery last week — say, €15 billion — would take the cost of of the Irish bank bailout to €55 billion, all of which will be added to the national debt.

If that is the case, then ESRI’s own debt projections will have to rise by about €47 billion net. Factor in the real or inflation-adjusted cost, and the public debt simply explodes.

By next year, we will still have a GDP of just €164 billion, leaving us with a gross national debt-to-GDP ratio of close to 120%, just like Greece and Italy.

In the same year, gross national product (GNP) will be a much lower €131 billion. Again, making allowances for the full cost of the bank bailout, we will be looking at a debt-GNP ratio of closer to 150%. This is a truly monstrous burden.

As recently as the end of 2007, the debt-GDP ratio was 25%. But that was before the building crash and the global credit crunch.

The debt crisis in Greece, held at bay last week by an EU-IMF rescue package, illustrates the dangers of allowing a huge national debt within the eurozone. The Germans, who call the shots in Euroland, decided that Greece should be punished on two fronts. First, the Greeks were told to enforce a massive austerity programme. Second, they were initially told by Germany that they must pay close to market rate for rescue finance.

This rate, which had peaked at 7.5%, was brokered down to 5% in the end.

But even at this level, it meant that Greece was forced to pay a massive 4.8% for 12-month money in the bond markets last week.

Clearly, the markets believe a default by Greece is still likely. The Greek debt-GDP ratio will go through 120% this year, which is the same level we will hit at the end of next year.

Which country in the eurozone will next be targeted by speculators? Will it be Portugal or Spain? Or Ireland? As the crisis spreads, the Germans will be more, not less, truculent.

Our capacity to deal with the debt issue is poor. We are now in a perma-slump, a classic debt-deflation crisis.

Prices fell 4.5% last year and will grow technically by 0.25% this year only because desperate Irish banks are pushing up the mortgage rate.

Underlying price levels will fall another 1.5%.

The credit markets are sucking a net €3 billion a month out of the private sector, not injecting liquidity. The government is cutting its deficit from 12% of GNP to 3%. Terrified families have lifted the savings rate to 10.6%.

The money value of Irish GNP is now 25% below peak levels.

And we are locked into a hard currency union.

The people who preside over this mess believe that the solution can be found by:

– Borrowing the cash needed for the third most expensive and the most complex bank rescue in history;

– Reducing welfare outlays and wages;

– Relying on exports to lift GDP;

– Honouring the state’s debts, and those of the banks, thereby safeguarding our euro membership.

So far, the counter-arguments to this punitive orthdoxy have received only marginal attention in public debate.

Is this really the only way?