- Sep 5, 2007
The Real Lesson About Ireland
This argument reflects a fundamental misunderstanding of the scale of the problems facing Ireland. It also badly mischaracterizes the policy steps taken by the Irish government. The problems facing Ireland are far greater than the solutions the government has proposed to date. It should be no surprise that market confidence has not returned because there is no reason for Irish creditors to be confident that they will be repaid in full.
There are no signs that any of this is temporary or that adjustments made to date are sufficient to maintain access to credit. The initial austerity measures taken by the Irish government tax increases and large cuts to public employee wages seemed ambitious, but they turned out to be a drop in the bucket relative to the cost of the bank rescue. The Irish government created the National Asset Management Agency (NAMA) to acquire property development and commercial real estate assets from banks at a sizeable discount to par. As with similar schemes, this government-sponsored fund faces a catch-22: overpay for assets and transfer losses directly to taxpayers or drive a tough bargain and further expose the banks insolvency. To date, NAMA has recorded 30 billion of losses, or more than 10% of GDP. S&P estimates that ultimate losses will be between 29% and 32% of GDP. To put this figure in perspective, this would be equivalent to U.S. taxpayer losses on Fannie Mae and Freddie Mac of $4.2 trillion, or about 11-times the CBO estimate of $380 billion.
Analysts on the political left are using the implosion of the Irish economy to advance their mistaken narrative about the supposed dangers of reductions in public expenditures. This overlooks that any savings generated by spending cuts were more than offset by outlays associated with the 90 billion NAMA to acquire bad loans in the banking system. While Ireland has made additional pledges to reduce the deficit to 3% of GDP in the medium term, its consolidation plan would benefit from greater specificity, as the IMF diplomatically puts it. In other words, Ireland has no credible plan to bring spending and revenues in line and has not done what is necessary to reduce the uncertainties associated with the consolidation process.
Interesting piece comparing the cost of the banking bailout in Ireland to the US. And the insufficiency of the austerity so far.The U.S. is in a very different situation. The TARP has largely been paid back. The losses from Fannie Mae and Freddie Mac are running at about 1% of GDP. The U.S. is not suffering from large increases in implied spending associated with an ongoing bailout. Over half of the increase in the budget deficit is attributable to discretionary outlays, which have pushed the governments share of GDP to new records. Indeed, the reason the U.S. is likely to benefit so greatly from large reductions in federal spending is because of the growth in private sector investment likely to occur from taking the potential for confiscatory levels of taxation or an Irish-like debt spiral off of the table. Policymakers should not be misled by the Irish crisis. It is debt-financed government expenditures arising from a banking crisis thats bringing down Ireland, not austerity.