Is Ireland solvent?

In most probability the answer is yes. Here is Wolfgang Münchau and Raphael Cottin on eurointelligence drawing 4 scenarios for the Irish economy.

  • In sum only if Ireland grows by 2% or more would debt stabilise otherwise explode. 2% is floor growth for Irish economy
  • European Banks exposure to Irish bonds is large at around $509 bn compared to Greece’s $ 142 bn. If we recall, exposure to Greece was seen as very large just a a while ago. And in Ireland we have nearly 4 times exposure.
  • Total banks’ exposure to Periphery Europe is $ 847 bn. Periphery includes Ireland – 509 bn, Greece- 142 bn and Portugal – 206 bn. They are being kind to include only these three in Periphery. Include Spain and Italy as well and we are likely to cross $ 1 trillion.
  • Breakdown by countries shows that Germany and the UK are most exposed to Ireland, Spain to Portugal, and France to Greece. If the periphery goes, the European banking system will have its own subprime crisis – in addition to the actual subprime crisis.
  • Greece seems to have got the money as French banks most impacted. May be Germany was reluctant to bailout for the same reason. With high German banks exposure to Ireland, former might agree more readily

In the end authors say:

Where are we headed now? There will be no immediate default. Ireland, and also Portugal, will come under the umbrella of the EFSF. Spain is more solid, but also highly vulnerable to a financial market squeeze. I would expect the EU to step in should Spain come under pressure. That could be through a series of bilateral programmes, or more likely an increase in the lending ceilings of the EFSF. The likelihood of such an event would be hard to predict. I would expect Spain to be ok, but Spain, too, needs to return to some solid growth.

I also think Germany will prevail in essence with its bail-in proposals, so that the post-EFSF world will be succinctly different, and marked by high default risks in the eurozone’ s periphery – and by core eurozone banks. The eurozone’s core – not just Germany – is hostile to what they call “a transfer union”. That’s Germany, the Netherlands, Austria, and Finland. You would not get majorities for such a transfer. Nor would it be politically possible, and in Germany’s case not constitutional either, to establish a fully-fledged fiscal union. Of the various inconsistent constraints, default is the one that will be accepted.

The wider ramifications of all this are utterly underestimated by Europe’s political leadership. I leave you to draw the conclusions.

 Just like US, we see majority of Europe problems coming back. Reason is we are all looking for a band-aid solution where there isn’t any. It is a problem of cardiac arrest which requires slow and steady recovery. Financial market participants keep creating homes for themselves by surging tracking some minor blips. Bernanke called some recovery signs in 2009 as green shoots but markets behave as if the entire economic landscape has again become lush green with big trees all around…

Addendum:

In a superb post, Simon Johnson adds more to the story:

German banks are owed $139 billion, which is 4.2 percent of German G.D.P. British banks are owed $131 billion, or about 5 percent of Britain’s G.D.P. French banks are owed $43.5 billion, which is approaching 2 percent of French G.D.P. But the eye-catching numbers are for Belgium, which is owed $29 billion – in the relatively small Belgian economy, this accounts for around 5 percent of G.D.P.

Given the prevalence of off-shore banking in Ireland, these numbers may overstate the true liabilities.  But still, Belgium is already on the hook, according to the Bank for International Settlements, for 18.3 percent of G.D.P. as a result of “general government contingent liabilities arising from ‘crisis assistance’ to financial institutions” (again, see Jacob’s note.) The last thing it – or the rest of the euro-zone – needs is a fiscal crisis arising from commitments to support its banks after an Irish default.

Belgium’s overall fiscal picture is not good, its political stability is far from assured and its underlying social fissures would surely not be helped by a further dose of severe austerity. (According to Eurostat’s latest numbers, the Belgian budget deficit was 6 percent of G.D.P. in 2009 and its debt was 96.2 percent of G.D.P. at the end of last year; to be fair, Belgium has an established tradition of being able to survive with high debt levels.)

So, Belgium is in trouble as well. Only way out is restructuring its debts which given the structure of the economy looks very difficult.

Eventually, Ireland will need to restructure its debts. How soon and how completely it does this will have major implications for the rest of Europe.

Many countries were exposed to the potato blight of the 1840s – it was a global affliction — but Ireland was unusually dependent on this one crop (a phenomenon known as monoculture). The result was famine and emigration; the population never returned to its pre-1840s level.

Many countries experienced debt-based property booms over the last decade fueled, in part, by reckless cross-border lending. Ireland again proved to have something of a monoculture; this is the origin of its extreme vulnerability and an awful decade to come.

This time, will the global disease continue to spread as banks elsewhere get bailouts that allow them to become even bigger and more dangerous? Will we see immediate ramifications in other euro-zone countries, such as Belgium or others?

And will the same underlying problem continue to grow in such a way that it can ultimately bring down the United States – as Peter Boone and I suggested here in March?

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