A recent speech delivered by Mr Asmussen (Executive Director of the ECB) at a seminar organised by the IIEA in Dublin (The Irish Case From An ECB Perspective), gives powerful (though unintended) grounds for a ‘no’ vote in the forthcoming referendum.
Mr Asmussen emphasised that from an ECB perspective it was of the ‘utmost importance’ that all euro area countries adopt the fiscal compact to regain the confidence of markets. The overall policy can be summarised as austerity (raising taxes cutting expenditure) releases, what Paul Krugman has called the ‘confidence fairy’ and recapitalising banks and repaying senior bond holders, releases the ‘banking fairy’ – banks will once again start lending. Both policies in the absence of steps to encourage growth and investment will simply result in further stagnation. The Fiscal Treaty will make the adoption of policies supporting growth more difficult if not impossible.
Specifically in relation to Ireland, Mr Asmussen clearly outlined ECB thinking on the origins of the crisis and subsequent developments. In summary the view of the ECB is that while the crisis largely originated in Ireland, the solutions devised in conjunction with the Commission and the IMF and set out in the EU/IMF Programme for Ireland are working. The ECB has been particularly generous in its support to Ireland (‘working as a true partner’), and because the programme is working there must not be any deviation from it for example in relation to the payment in full of the promissory notes, issued to finance the Irish Bank Resolution Corporation.
The following examines three claims made by Mr. Asmussen:
1 The Programme is on track. So far Ireland has delivered
2 The ECB is ‘a true partner’ to Ireland
3 ‘No other institution has provided more help to Ireland than the ECB’
The Programme is on track. So far Ireland has delivered
Many might query that the EU/IMF Programme is working. Mr Asmussen states Ireland ‘is the only programme country that has managed to close its deficit and to return to growth last year’ and cites growth last year of 0.7% and projected growth of 0.5% in 2012. But we should note projected growth (Table 1) at the time the Memorandum of Understanding was signed (16 December 2010), and on which the programme was predicated, was considerably larger than actual and projected GDP.
Table 1: Forecast and actual GDP , Unemployment Rate and Numbers at Work
1. Source: Department of Finance, Economic and Fiscal Outlook, Budget 2011, Table (2) 7th December 2010
2. IMF World Economic database available at http://www.imf.org/external/pubs/ft/weo/2012/01/weodata
The ECB does recognise unemployment as an issue. Mr. Asmussen states, (p. 6) ‘worst of all, perhaps, is the fact that a large portion of the population is currently out of work’. What is not stated is that unemployment in Ireland is the second highest in what the IMF classifies as advanced Europe (IMF World Economic Outlook April 2012, Table 2.1 p. 53) at 14.4% in 2011 and is forecast at 10.5% in 2017. Examples cited by Mr Asmussen such as deregulating the market for legal and medical services (p. 5) are most unlikely (even if implemented) to ‘expand activity and increase employment’ in any meaningful way.
The ECB is ‘a true partner’ to Ireland
Mr Asmussen describes the ECB ‘as a true partner’. In fact many of the policies implemented and required by the ECB have magnified the crisis in Ireland. In his address Mr Asmussen clarified that the ECB regarded repayment of Anglo bondholders as a key consideration to prevent negative effects to ‘banks in other European countries’. This clarification is strangely absent from the written statement (available at – http://www.iiea.com/events/the-irish-case-an-ecb-perspective). These ‘negative effects’ are uncertain. Bondholders may have held insurance in the form of credit default swaps. Default on senior bank debt by banks in Denmark had no or very little (reported) consequences for banks in other countries (see Denmark Takes Over Second Bank to Trigger Bail-in Resolution, Bloomberg 27 June 2011) and yields on Danish Government debt are close to or below those for Germany. But the main implication of Mr Assussens comments are that the ECB sought to give preferential treatment to banks in other countries at the expense of the Irish State and Irish society. This transfer in wealth (it was a transfer as Anglo-Irish and other banks’ senior debt was trading far below the value at which it was redeemed before the new government took office) has helped increase the cost to the State of the bank recapitalisation to €62.8 billion by March 2012 approximately 38% of general government gross debt. Without any bank recapitalisation Irelands debt/GDP ratio would be approx 65% of GDP (ignoring interest savings) amongst the lowest in the eurozone.
In February 2011 the five institutions recapitalised, held €35 billion in senior unguaranteed secured and unsecured bank debt (see Senior Debt and Subordinated Debt Issuance by Irish Credit Institutions, Central bank March 2, 2011 available at http://www.financialregulator.ie/press-area). If this were written down by 50%1, the debt/GDP ratio (as measured by the IMF), would fall from 105% for 2011 to 94%. (Note this excludes the approximately €71 billion in bonds redeemed at face value prior to February 2011). Any policies that reduce government borrowing and the debt/GDP ratio, without advesely affecting economic growth will enhance Irelands ability to access market based funding. The ECB belief that negotiating a reduction in the cost of the promissory notes would adversely affect Ireland’s credit rating is delusional. The IMF has recently urged the need to reduce the links between sovereign debt and bank debt. In Ireland the policies of the ECB have the effect of increasing these links.
No other institution has provided more help to Ireland than the ECB
The one area where ECB policy is beneficial to Ireland has been through Eurosytem liquidity provision. Mr Asmussen implies that this liquidity provision was in some sense preferential aid to Ireland. He states ‘Relative to the size of the economy, no other euro area country has received so much support from the Eurosytem. And no other institution has provided more help to Ireland than the ECB’. However the provision of unlimited liquidity is one of the main functions of a Central Bank and liquidity was provided to banks in Ireland fully in accordance with ECB rules (a point acknowledged by Mr. Asmussen) and cannot in this sense be preferential. Furthermore the benefit of this liquidity provision accrues not just to Ireland but in a monetary union given large scale interbank borrowing and the presence of a large EU owned bank sector in Ireland, throughout the monetary union. A collapse in Ireland’s banking sector would have been a calamitous event not just for Ireland but for the Eurosystem.
Mr. Asmussen states that the level of this ‘support’ contradicts claims that the ECB ‘bounced’ Ireland into the EU/IMF programme in late 2010. Rather the level of liquidity provision which the ECB erroneously believed was in some sense a gift or aid, exclusively to the benefit of Ireland, and the desire of the ECB to reduce this as quickly as possible were likely to be prime factors in the initiation of the EU/IMF programme. Reducing ECB liquidity provision to Irish banks remains a key policy objective of the ECB. Mr Asmussen states ‘There can be no doubt that the current amount of liquidity support by the ECB and the Central Bank of Ireland needs to be substantially reduced over time’.
The expressed wish to reduce the amount of eurosystem liquidity provision is not in Ireland’s current interest. A policy objective should be to maximise the amount of liquidity provision from the Eurosystem, given the risks of bank deleveraging as a response to the economic crisis. This risk has been exacerbated in Ireland by the imposition of a higher core Tier 1 capital ratio (equity/risk weighted assets) than that required by the European Banking Authority (10.5% compared with 9%) and at the same time reducing the loan to deposit ratio from 180 to 122.5% (See Central Bank, Financial Measures Support programme, p. 7 and 12).
The crisis in Ireland is largely of our own making involving multiple failures at many institutions (public and private) and at many levels, but ECB policies have magnified the crisis. Policy at the ECB and other EU institutions can and must change to support a pro-growth strategy for Europe as a whole. This is in the interest of all countries in the EU, and in the vital long run interest of Germany. Irish Government policy should be to support the likely new Hollande administration in amending the fiscal treaty and in reforming the ECB (See “Hollande seeks wider EU fiscal pact”, Financial Times April 24, 2012).
(1) See Seamas Coffey for a further discussion http://economic-incentives.blogspot.com/2011/04/50-haircut-on-unguaranteed-bondholders.
This column was first published by [email protected]