How Fucked Are We?

Spotted over at Progressive Economy, this article from the Financial Times, by David Gardner.

Encouraged by venal politicians who actively discouraged regulation and provided a phenomenal array of tax breaks to builders, and in an environment of cheap money and easy credit (partly created by the lower borrowing costs brought by membership of the eurozone, partly because risk disappeared from the international financial radar), Irish banks went on a reckless lending spree. They lent, above all, to property developers. When that bubble burst – and with devaluing the currency no longer an option – it all but bankrupted the country and triggered a painful sequence of tax rises and pay, pension and public spending cuts.

When the banks started to wobble, the government, led by the populist Fianna Fáil, insisted Ireland’s economic “fundamentals” were sound and such problems as there were had blown in across the Atlantic. But when the banks inevitably crashed and the state stepped in to rescue them, every Irish citizen got saddled with many thousands of euros in debts that will weigh the country down for years to come. The current generation – the first in Ireland’s history to know real wealth and success and, with it, international admiration – is very, very angry.

Whatever politicians say, moreover, Ireland knows this was almost entirely a home-made crisis, which happened to coincide with an international credit crunch. Colm McCarthy, who teaches economics at University College Dublin, is the author of last year’s comprehensive spending review of the public sector: “300 pages, and a cut on each page”, as he genially puts it. This one-man-International Monetary Fund is no populist. But he’s clear on what brought Ireland to this pass. “This was a very old-fashioned banking collapse, nothing to do with derivatives and US toxic assets,” he says. “Until a few years ago I thought AIB [Allied Irish Bank] and Bank of Ireland were dull, ­boring banks run by granite-faced bastards who wouldn’t lend money to their own relatives. It seems we were wrong.”

In its report on Ireland last year, the IMF concluded: “The Irish economy is in the midst of an unprecedented economic correction. The stress exceeds that being faced by any other advanced economy and matches episodes of the most severe economic distress in post-World War II history.”

At the height of the lunacy, around three-quarters of the total lending by Irish banks – €420bn or about two and a half times the size of the economy – got bound up in property, construction and land speculation of one sort or another, a sector which amounted to more than a fifth of economic output. It became what Ireland did for a living. By comparison, investment in real estate in Spain peaked at about a tenth of national income – half Ireland’s level.

Morgan Kelly observes here:

Fifteen fat years allowed the Irish government to cut income taxes, increase spending and still run a budget surplus. Between 2007 and 2009 however, tax revenue fell by 20%, while expenditure rose by 9%, moving the state from a balanced budget to a deficit of 12% of GDP. In contrast to its inept handling of the banking crisis, the Irish government has moved decisively to reduce expenditure and increase tax rates, and appears on target to reduce its deficit to 3% of GDP by 2012.

Ireland’s government debt is still moderate. At the end of 2009 gross debt was 65% of GDP and, after subtracting the state pension reserve and pre-funded borrowing, net debt was 40% of GDP. Assuming that deficit targets are not missed too badly, gross debt should still be under 85% of GDP by the end of 2012.


This debt would probably be manageable, had the Irish government not casually committed itself to absorb all the gambling losses of its banking system. If we assume – optimistically, I believe – that Irish banks eventually lose one third of what they lent to property developers, and one tenth of business loans and mortgages, the net cost to the Irish taxpayer will be nearly one third of GDP.

Adding these bank losses to its national debt will leave Ireland in 2012 with a debt-GDP ratio of 115%. But if we look at the ratio in terms of GNP, which gives a more realistic picture of the Ireland’s discretionary tax base, this is a debt-GNP ratio of 140% – above the ratio that is currently sinking Greece. Even if bank losses are only half as large as we expect, Ireland is still facing a debt-GNP ratio of 125%.

Ireland is like a patient bleeding from two gunshot wounds. The Irish government has moved quickly to stanch the smaller, fiscal hole, while insisting that the litres of blood pouring unchecked through the banking hole are “manageable”. Capital markets may not continue to agree for long, triggering a borrowing crisis which will start, most probably, with a run on Irish banks in inter-bank markets.

Ireland may therefore present an early test of the EU bailout fund. However, in contrast to Greece, Ireland’s woes stem almost entirely from its banking system, and could be swiftly and permanently cured by a resolution which shares the losses of Irish banks with the holders of their €115 billion of bonds through a partial debt for equity swap.

I may consider emigrating. Greece looks nice.