Münchau: Will it work? No. What can Ireland do? Remove the bank guarantee and default

Dreaded_Estate

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irishtimes.com/newspaper/opinion/2010/1202/1224284564382.html

From an Irish perspective, the best option, of course, would be a leap towards a fiscal union, agreed by all euro zone member states. In the absence of such a leap, the second best option would be a default – banking debt first, public debt possibly later. The smart choice is to default inside the euro zone. It is going happen, sooner or later.
 


McDave

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It's an interesting article indeed.

He specifically recommends that "Ireland should revoke the full guarantee of the banking system, and convert senior and subordinate bondholders into equity holders."

Incidentally, he also recommends that Ireland stays in the Eurozone:
The big question in such a scenario is: Should Ireland stay in the euro zone? I would say, yes it should. Ireland has a sufficiently flexible economy to be able to manage the necessary real adjustment. In a monetary union, you can no longer devalue. The only chance is what economists call a real devaluation – through lower wages and prices.
A lot of food for thought...
 

He3

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Mainstream opinion is catching up at last... but maybe too late. This government is set on bringing down the pillars of the temple in its death throes. WHen the inevitable default occurs, we will need proper political leadership. Where can we buy that?

It follows yesterday's piece by Barry Eichengreen in Handelsblatt (translated at irisheconomy.ie) -

The Irish “rescue package” finalized over the weekend is a disaster. You can say one thing for the European Commission, the ECB and the German government: they never miss an opportunity to make things worse.

It pains me to say this. I’m probably the most pro-euro economist on my side of the Atlantic. Not because I think the euro area is the perfect monetary union, but because I have always thought that a Europe of scores of national currencies would be even less stable. I’m also a believer in the larger European project. But given this abject failure of European and German leadership, I am going to have to rethink my position.
[...]

Ireland will be transferring nearly 10 per cent of its national income as reparations to the bondholders, year after painful year. This is not politically sustainable, as anyone who remembers Germany’s own experience with World War I reparations should know.

http://www.irisheconomy.ie/index.php/2010/12/01/barry-eichengreen-on-the-irish-bailout/#more-8831

Eichengreen has noticed, like most of us, that there is another problem behind the economic one:

As John Maynard Keynes – who knew about matters like reparations – once said, leadership involves “ruthless truth telling.” In Europe today, recent events make clear, leadership is in short supply.
 
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Squire Allworthy

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What should be done now? My ideal solution – from the perspective of the euro zone – would be a common bond to cover all sovereign debt to be followed by the establishment of a small fiscal union; furthermore, banks should be taken out of the hands of national governments and put under the wings of the European Financial Stability Facility. That would clearly solve the problem.

To me that makes sense. Countries defaulting will have all sorts of unpredictable consequences, but I am intrinsically a cautious sort. If there is no other option than default then better it is over. Though I think threat of default should be used as a lever first.
 

borntorum

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You neglected to mention the negative aspects of this proposal:

A default would cause havoc, no doubt, and would cut Ireland off from the capital markets for a while. But I would suspect that the shock would only be temporary. With a more sustainable level of debt, and the benefit of a real devaluation, Ireland should be able to pull through this.
Not very reassuring.

There are no simple solutions or easy ways out of this mess. Some of the 'default now' brigade are beginning to sound like they think it would be a free lunch.
 

Outlander

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Barry Eichengreen in FT Alphaville & Handelsblatt:

FT Alphaville » Ireland#

The Irish “program” solves exactly nothing – it simply kicks the can down the road

=

Nor is the situation economically sustainable. Ireland is told to reduce wages and costs. It must engage in “internal devaluation” because the traditional option of external devaluation is not available to a country that lacks its own national currency. But the more successful it is at reducing wages and costs, the heavier its inherited debt load becomes. Public spending then has to be cut even deeper. Taxes have to rise even higher to service the debt of the government and of wards of the state like the banks.

=

Bondholders could have been offered 20 cents on the euro, assuming that the Irish banks still have some residual economic value. If those banks are insolvent, the bondholders could – and should – have been wiped out.

=

In fact, this is exactly what the IMF, which at least knows how to add, has been pushing for over the last week. But the Fund was unable to overcome the objections of the Commission, the ECB and the German government.
Our friends in Europe have a different agenda - protect the euro banking system at all costs, and maintain a strong Deutsche Mark. In this case the protection structure may fall around their ears.
 

He3

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mr_anderson

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This is one of the biggest problems with FF remaining in power.

Lenny made a catastrophic error with the bank guarantee.
This error will bankrupt the country.

Unfortunately, to rectify this error, FF will have to do a U-turn and seperate out the bank debt from our sovereign debt.
Doing this will be an admission of absolute failure.
It exposes lennys September 2008 guarantee for being the momumental FFuk-up that it is.

So FF will continue Ireland along the path of bankrupcy in an effort to save a few of their seats, leaving it to the opposition/new government to make amends.

A word beginning with 'T' springs to mind.
 

powderfinger

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This is one of the biggest problems with FF remaining in power.

Lenny made a catastrophic error with the bank guarantee.
This error will bankrupt the country.

Unfortunately, to rectify this error, FF will have to do a U-turn and seperate out the bank debt from our sovereign debt.
Doing this will be an admission of absolute failure.
It exposes lennys September 2008 guarantee for being the momumental FFuk-up that it is.

So FF will continue Ireland along the path of bankrupcy in an effort to save a few of their seats.

A word beginning with 'T' springs to mind.
It could be argued that Lenihan's catastrophic error has not served the public interest.
If that is the case does this undermine the legislation which underpins the Guarantee i.e The Credit Institutions Financial Support Act 2008?
It was the public interest which was invoked in 2008 to grant extraordinary powers to the Finance minister to address the banking crisis.
Credit Institutions (Financial Support) Act 2008 - Department of Finance - Government of Ireland

CIFSA Preamble
"An Act to provide,in the public interest,for maintaining the stability of the financial system in the State and for that purpose to provide for financial support by the Minister for Finance in respect of certain credit institutions,to amend the Competition Act 2002 and other enactments,and to provide for connected matters."

Oct 2 2008
 

dakid

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It's an interesting article indeed.

He specifically recommends that "Ireland should revoke the full guarantee of the banking system, and convert senior and subordinate bondholders into equity holders."

Incidentally, he also recommends that Ireland stays in the Eurozone:


A lot of food for thought...
Yes but he also recommends Fiscal Union.
 

McDave

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Yes but he also recommends Fiscal Union.
What he actually says is:
From an Irish perspective, the best option, of course, would be a leap towards a fiscal union, agreed by all euro zone member states. In the absence of such a leap, the second best option would be a default – banking debt first, public debt possibly later. The smart choice is to default inside the euro zone. It is going happen, sooner or later.
Last paragraph in: Will it work? No. What can Ireland do? Remove the bank guarantee and default - The Irish Times - Thu, Dec 02, 2010

IMO, it's a slightly more nuanced statement than your interpretation of what he says. I'd interpret his words to mean that he thinks the ideal for us might be fiscal union. But is it going to happen? It would need a referendum here. If not, then default within Eurozone parameters is the next best option.
 

scallioneater

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We just need to cut the banks loose, we cant afford to guarantee the huge debts of these banks. cut them loose and our government bond cost will drop like a stone. the banks and there bond holders will be screwed though. but we can always start new banks and transfer existing deposits to them.
 

He3

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Does anyone outside FF GP think the IMF/EU terms are acceptable and workable?
 
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It follows yesterday's piece by Barry Eichengreen in Handelsblatt (translated at irisheconomy.ie) -

Ireland will be transferring nearly 10 per cent of its national income as reparations to the bondholders, year after painful year.
Only ten %??
I thought it was supposed to be at least 8billion by 2014? Iv seen economists mention figures well in excess of that too. The projected tax take for 2014 is 36bil ? which would be over 20% and that tax est. is probably very ambitious..
 

He3

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I doubt that Cookie! Acceptable maybe, workable nah!
 

Padraigin

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You neglected to mention the negative aspects of this proposal:



Not very reassuring.

There are no simple solutions or easy ways out of this mess. Some of the 'default now' brigade are beginning to sound like they think it would be a free lunch.


Default is not a free lunch. Getting rid of the debt is "paid for" by no more loans. There is a quid pro quo in a default.

However, with a default, Ireland is in control of what happens. The Irish people, acting through its own (new) government, get to decide how Irish tax monies are spent, on what, and in what amounts, and no tax money leaves the country to service debt to foreign banks or bond holders. We get to control our own economy and our own fiscal policy. With good leadership, the bad effects of a default can be minimized. Ireland takes in enough tax revenues to keep things on an even keel, and may even be able up its financial reserves with the "default bonus" (no more servicing old debt).

And so long as we default before the EU/IMF strips us of our assets, we have a financial buffer for the transition period.

Default is the best and only solution.

And there are a lot of bonus benefits. Two of the biggest are (1) regaining lost sovereignity and (2) being out of the eurozone in these troubled times.
 
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