Socialist Economic Bulletin has previously noted that, like many other economies, the downturn in
In monetary terms, the fall in investment from its peak level has amounted to 6.1bn Euros in real terms. This is greater than the peak to trough decline in real GDP, which has amounted to 5bn Euros. Certain other components of GDP have also been marked by sharp declines, notably a 13.7% cumulative fall in personal consumption, amounting to 3.3bn Euros. Yet government spending has actually risen during the slump, as the automatic effects of welfare state provisions kick in. In addition, net exports have also risen, as import demand has slumped. Therefore, the entirety of the decline in
There are three key sectors which have seen exceptionally sharp declines in investment activity. The CSO does not permit detailed reproduction of the data, arguing that it is not statistically robust enough to allow publication. However the general trends are clear.
First, investment in dwellings has slumped by approximately 3.5bn Euros since the peak in mid-2006. This sector has provided the earliest and most decisive contribution to the collapse in economic activity, and represents a staggering fall of a just under 68%.
Second, a sharp decline in investment in machinery and equipment followed suit in the second quarter of 2007. By the last quarter of 2008, this sector had declined by 2.86bn Euros, or by over 67%, matching the decline in investment in dwellings. There was a rebound of sorts in investment in machinery at the beginning of this year. This probably reflects a subsiding of the outright panic among purchasing managers. Even so, this still leaves investment in machinery and equipment 38.5% below its peak level.
Third, other building activity, not including dwellings but including many large scale private sector developments, turned sharply lower at the beginning of 2008 and continues to decline. The total decline in investment in this sector 1.9bn Euros, representing a fall of 47.4%.
Other investment sectors, other transport (mainly airplanes) or building improvements have either not declined at all, or have declined by relatively insignificant amounts.
The slump in the Irish construction sector is well-known and has been widely discussed. It is also a key component of the financial crisis which has engulfed the major Irish banks. But for now, it is important to register that the building slump, combined with the decline in investment in machinery and equipment, is the two-pronged fork aimed at the throat of the Irish economy.
This collapse in investment is a private sector response to the crisis. From the perspective of potential profitability it is entirely rational, if economically ruinous. It amounts to an investment strike.
From a different perspective, that of optimising the level of output for the whole economy, the rational response is to take control of the main levers of the key economic sectors to ensure a resumption of investment activity. Only the state can replace the investment that private operators now refuse to make. And, as investment is decisive to future prosperity in doing so, it can ensure the future well-being of the entire economy and its citizens.
It is clear that the crisis in the Irish economy is driven by the slump in investment. In addition, the scale of this investment slump is comparable to that of the US Great Depression, as shown above.
Likewise,
Yet, even this could be a significant underestimate, given the scale of the debt.
Even if the IMF's estimate of bank losses proves to be accurate, the damage to the Irish economy is set to be enormous. Given that the total working-age population (that is, including all those employed, as well as those not in work or looking for work, including students) is fractionally over 3.5mn [2.], the calculation is simple. The IMF's estimate of bad debt is equivalent to Euros 10,000 for every worker in
Structure of the debt
While there is barely a banking institution in
If we take AIB as an example we can get an insight to the general crisis of the sector. The recently published half-year accounts give an indication of both the scale of the crisis and the pace at which it is deteriorating. At the end of June 2008 AIB's assessment was that it had Euro 10.2bn in problem loans (which they call criticised loans) in 3 different categories, indicating the likelihood of default. The worst of these is 'impaired loans'. According to banking terminology, impaired loans are where the borrower has not only stopped payments, but the bank feels obliged to write off all or part of the loan from its balance sheet. One year later, the total of these problem loans had risen to Euros 33.4bn, while impaired loans had risen to Euros 10.8bn [3].
So in just 12 months, AIB's problem debt level has tripled. The total of 'impaired' loans as of June this year now exceeds the assessment of all the identified potential problem loans of a year earlier, Euros 10.8bn, compared to Euros 10.2bn in June 2008. Crucially, AIB's deteriorating loan book of Euros 33.4bn is now almost equivalent to the IMF's assessment of the entire losses for the Irish banking sector of Euros 35bn.
This situation is mirrored elsewhere in the sector. Bank of Ireland's impaired loans have risen from 0.78% of total lending to just under 4% of total loans in the year ended in March 2009, from Euros1.1bn to 5.3bn [4]. It is therefore possible that the IMF's assessment may well be an underestimate.
The potential losses are highly concentrated both geographically and by sector. 75% of all AIB's problem loans are in the
It is important to be clear about the nature of these loans. House prices have fallen sharply and repossessions have increased in
So, just as the Irish economic slump is a crisis of capital investment, the Irish banking crisis is due to a collapse of the property and construction sectors, mainly commercial property. Therefore, it should be possible simultaneously to alleviate the economic crisis and to resolve the worst effects of the crisis in the financial system. But to do this, bold and decisive steps would be required to take control of the property and construction sectors and direct them towards renewed activity.
The Global Crisis In
The economic crisis in
Despite all this Irish exports have held up relatively well in an environment where international trade has experienced a slump. In the latest preliminary monthly data,
This trend in export growth is well-established, with
Instead, the forces affecting the global economy should be analysed for the specific way in which they have driven the Irish economy into a deep crisis. In this way, it is possible to highlight some of the structural factors affecting
Patterns of Trade
As we have shown above, the slump in the Irish economy is led by the outright collapse in investment activity, primarily in the construction and property sectors, but also other fixed investment. In addition, we have shown that the collapse in this sector is also the driving force behind the crisis in the banking sector. It comes as no surprise then to see that the sharp downturn in imports is also based on plummeting demand for capital goods. The CSO has provided data on the decline in a range of imports in the 5 months to May, compared to a year ago. The biggest percentage declines are ranked in Table 1. below.
Table 1. Decline in Imports Jan-May 2009 vs Jan-May 2008 (% change)
| Road vehicles | 77% |
| Iron and steel | 58% |
| Specialised machinary | 54% |
| Petroleum products | 39% |
| Industrial machinary | 37% |
| Electrical machinary | 16% |
Source: CSO monthly trade data
Therefore, it can be seen that the decline in imports is also primarily a fall in the demand for investment or capital goods, and is directly related to the decline in investment.
In terms of exports, which have held up well in the face of a global downturn, the sectoral breakdown and their trend growth is revealing. Just 3 categories of exports, chemicals, machinery and transport equipment, and manufactured articles account for 84.5% of total exports and within those sectors, organic chemicals and medical and pharmaceutical goods account for nearly half of all exports [5]. Of these, all but machinery and equipment have continued to rise through the global economic crisis. This suggests a high and successful degree of specialisation in the traded goods sector, which, for the time being at least, has alleviated some of the worst affects on Ireland from the slump in global trade.
The geographical distribution of Irish exports is also unusual, and the trends highly varied. Table 2. below shows the change in exports to important destinations in the first 5 months of 2009 compared to the same period a year ago. We have included only the biggest changes.
Table 2.
| | +24% |
| US | +18% |
| | +12% |
| | +5% |
| | -8% |
| GB | -9% |
| | -20% |
| | -24% |
Source: CSO monthly trade data
This very high variability in export performance belies the idea of uncompetitiveness (or even currency fluctuations, as there are sharp rises and falls in
Similarly, imports from the Eurozone account for only 23.3% of
Table 3.
| | Imports | Exports |
| EU | 11.3 | 22.1 |
| -of which Eurozone | 4.7 | 15.1 |
| US | 4.7 | 8.2 |
| Other | 4.7 | 6.5 |
| Total | 20.1 | 36.8 |
Source: CSO monthly trade data
Capital Outflows
However the chart also shows that the total current account balance has gradually slipped into deficit, with a deficit of Euros 2.5bn recorded in the first quarter of 2009, or 6% of GDP. This is represents an improvement from the deficit of Euros 4.2bn at the beginning of 2008, which was 9.1% of GDP. But a trend widening in the current account deficit became apparent in 2004, and the latest narrowing of the gap is wholly related to the collapse in import demand. In the national accounts, imports declined by Euros 2.7bn in the first quarter of this year compared to a year ago, more than the entire improvement of Euros 1.7bn in the current account deficit. Therefore any rebound in Irish demand for imports is likely to produce a renewed and unsustainable widening in the current account deficit.
We know that export performance has been strong and the trade surplus has been rising as a proportion of GDP. Therefore, the deficit on the investment income account must have been rising at an even faster rate to produce such a calamitous widening in the current account deficit. This is indeed the case and is shown in the chart below.
Previously,
However the situation had been transformed for the worse. The current account data for the first quarter shows that a deficit of Euros 2.5bn has arisen despite a trade surplus of Euros 8bn. The deficit on the equity investment income account has risen significantly, to Euros 7.4bn. But another slug of the deficit was created, Euros 3.1bn, by the deficit on what is known as 'portfolio investment income', that is, purely speculative transactions.
New Gombeen Men
We have highlighted above the IMF Country Report on
When the new gombeen men* began to chart this course for
Unlike the G7 countries,
The bloating of the Irish banking sector has necessarily been accompanied by a huge outflow of capital overseas.
Now, it is quite true that liabilities alone do not give a true picture of any balance sheet, including that of a whole economy and its balance with the rest of the world. And the latest available data, for end-2007 shows that, including assets and liabilities, the net position is that Ireland's external debt is a less eye-watering Euros 31.4bn [8], which was at that time 16.5% of GDP. (Data showing the position at the end of 2008 will be available later this year). Crucially, though, the assets for this net assessment are valued at banks' and other financial institutions own estimate of their worth, which is now well-known to have been wildly over-optimistic. As a result, the foreign indebtedness of the Irish economy seems set to rise dramatically under the impact of the collapse in the value of banks' overseas assets. The only mitigating factor will be the simultaneous collapse in the value of Irish assets owned by foreigners. The Irish Independent, in a series of reports, has shown that of the assets that may be bought by the proposed National Asset Management Agency (NAMA), Euros 32.3bn are loans for property developments in the UK, US, Russia, France and Germany [9].
The crisis of the economy and of the banking sector, as well as a potentially looming crisis in the balance of payments all have the same primary source. Bank lending to private sector developers and other speculators has brought about a ruinous situation for the Irish economy, its banks and the level of its foreign debt. These issues need to be confronted head-on, and any policy prescriptions which do not are sure to end in failure.
Irish Government's Response to the Crisis
The coalition government of the
The thrust of policy is to bail out bank shareholders and large-scale property developers by using taxpayer funds. This represents a transfer of wealth from the poor to the rich, on a very large scale. The two planks of the policy have been an austerity Budget and the proposed establishment of the National Asset Management Agency (NAMA). This Agency will purchase banks' bad debts owed by property developers and speculators, paid for by issuing bonds, ultimately covered by Irish taxpayers.
The two aspects of the government's stance are clearly linked. Their main aim is to rescue the greatest possible amount of private capital from the economic and financial wreckage, with Irish taxpayers picking up the bill. At the same time, the enormous levels of debt associated with NAMA (at least Euros 54bn in bond issues have been suggested) are offered as justification for large-scale cuts in government spending, including on social welfare and other provisions.
Austerity Budget
The Emergency Budget unveiled in April focused on reducing social spending in a series of measures that included a raid on state employees' pensions, pay cuts, job losses and reductions in welfare spending. At the same time, taxes were also increased. As outlined above, the automatic increase in government spending was one of the few bright spots on the economic horizon.
Now, to replace that with an austerity budget in the depth of recession is, at least, a high risk strategy. According to Finance Minister Lenihan, the combined total of spending cuts in the Emergency Budget and previous public sector pay cuts amounts to Euros 3.3bn. In addition, tax increases announced in April amount to an estimated Euros 1.8bn [10]. This represents a fiscal tightening of 3% of GDP. Given that the economy is already contracting at double digit rates, this represents a gross overreaction, effectively ensuring that the 'cure' is as bad as the disease. Worse, the tax increases are not progressive ones, aimed at higher income groups or the wealthy, but aimed at the poorest in society (along with a halving of the jobseekers' allowance, which is explicitly aimed at young workers).
While these policies could easily be criticised in terms of morality or justice, they also make no economic sense. If it is accepted that taxes have to rise at some point to stabilise government finances, it is imperative now that these do not fall on the poor, as they have a far greater propensity to consume their income, which is precisely what is needed during recession. By contrast, sheltering the rich from tax rises merely increases their ability to save, or to purchase luxury goods.
NAMA
The leadership of the FF/Green coalition government has argued that the austerity budget is a necessary measure to stabilise government finances. But the proposed NAMA legislation threatens to overwhelm government finances entirely.
The outline of the plan is reasonably straightforward. At the time of writing the proposed legislation is being debated in the Dail. The government intention is that NAMA will be established in order to purchase up to Euros 77bn in bad debts from the banks, relieving them of this burden on their balance sheets. For reference, Euros this is over 42% of
Yet, as we have previously shown, it would be possible to restore a function banking system and to alleviate the worst effects of the downturn by taking control of the leading elements of the property and construction industries. In this way it would be wholly unnecessary to compensate either bankrupt property developers or bank shareholders in order to revive economic activity and restore the provision of credit to viable businesses. As even the big home builders have pointed out, NAMA does nothing even to ensure that builders have any working capital over the next 6 to 9 months. NAMA is a gargantuan error, completely missing the main transmission processes which could restore economic and financial stability.
Who Benefits?
George Bernard Shaw once said, "a government that robs Peter to pay Paul can always depend on the support of Paul". It is instructive to examine the limited constituency which actually supports the propose legislation. Bank shareholders benefited from a rise of over 20% in their share prices on the announcement of the details of the NAMA proposals.
The Green Party, the junior partner in the coalition government along with Fianna Fail seems poised to vote for the NAMA legislation, with Green Party Cabinet Ministers arguing that the Agency will not overpay for the stricken assets and that the losses will be incurred by the banks and the speculators. Green Party TDs have come under intense pressure from Party members to vote against the legislation [11]. In addition, 2 FF TDs resigned the party whip on separate matters in early August, potentially leaving government and opposition parties tied with 82 votes each.
Outside of government circles, there is only limited support for its polices. The Irish Business and Employers Confederation has given a guarded welcome to the NAMA proposals [12], while a Director of the Irish Home Builders' Association has expressed concerns about the lack of working capital as bank loans are transferred to NAMA, while also criticising the powers of the Agency to seize profitable developments [13].
The head of the Irish Association of Investment Managers has argued that the government's key audience is not taxpayers, but international financial markets, and urged the government to pay a full price for the bad loans [14]!
The largest opposition party Fine Gael has said it will vote against the establishment of NAMA in the Dail, and has proposed a alternative 'Good Bank' to provide credit, arguing that the troubled banks should return to their own share and bondholders in order to restore their capital levels [15]. FG's Good Bank proposal is premised on the privatisation of currently profitable government enterprises in order to fund it. This would only provide a temporary 'fix', while increasing the long-term outflow of capital overseas, which we have highlighted above.
That the government's NAMA proposal represents a huge and unproductive shift of wealth from taxpayers to lenders and property speculators has drawn fire from a wide array of forces. A group of 46 academic economists and business lecturers across the political spectrum signed an article in the Irish Times of August 26 arguing that the government is poised to overpay the banks and the speculators, representing a huge subsidy from taxpayers [16]. The academics argue that, in paying up to Euros 60bn for impaired loans, NAMA will have overpaid by around Euros 30bn compared to real market prices. This estimate is reinforced by analysis form Davy stockbrokers suggesting that the fall in development land and commercial property prices will be approximately 70%. Instead, the academics' alternative is threefold:
1. The equity value of the banks should be recognised for what is in reality, that is, zero.
2. As this alone would not be enough to recapitalise the banks sufficiently, banks' bondholders must also be forced to accept some losses (and the government's negotiating hand is a strong one, as most of the debt is not supported by government guarantees after 2010)
3. Finally, new stringent international capital requirements mean that banks need an increase in capital, which can only come from a nationalisation of the banks, if only on a temporary basis.
The Irish Labour Party is a key potential ally for those leading the opposition to the government response. Party leader Eamon Gilmore has argued against the implementation of the NAMA scheme and for an alternative proposal based on temporary nationalisation of the banks [17]. As long ago as November 2008, the Irish Congress of Trades Unions published Nationalise the Banks and has since forcefully argued that, through NAMA, "The Government has socialised bank risks and allowed for the privatisation of gains" [18].
The ICTU’s criticisms are the same terms in which Sinn Fein has accurately described the NAMA proposal. It has also called for a referendum on the NAMA legislation, in order to build popular opposition to the scheme [19].
The crisis in the economy, the banking sector, and, potentially, the balance of payments, all have the same source. Investment has collapsed as a result of the difficulties of private property speculators and others, creating a huge hole on the banks’ balance sheets. At the same time, the situation is so grave that only a complete reorientation of policy can halt the crisis. The government and its allies have chosen to bail out bank shareholders and their property speculator debtors. Neither will provide the investment that is required to revive economic activity or shore up banks’ balance sheets. Instead, taxpayers will be burdened with astronomical debts to prevent outright bankruptcy of the banks and the big developers.
An alternative is readily apparent, which could restore rapidly economic activity. But to do so would require taking control of the main levers of the economy. Only the state can do that. At a minimum, the nationalisation of the leading elements of the banking, property and construction sectors, as well as a repudiation of some or all of their accumulated debts, can lay the basis for an economic recovery in
* gom·been· (man) (gäm bēn')
noun
a shopkeeper who engages in usury on the side
an avaricious and opportunistic businessman, entrepreneur, etc., Webster's Dictionary
Source
1. IMF Country Report 09/195. June 2009. p.4
2. CSO, http://www.cso.ie/statistics/empandunemplo.htm
3. AIB interim results, June 2009, http://www.aibgroup.com.servelet/ContentServer?pagename=AIB_Investor_Relations/AIB_Report/aib_d_reports&cid=1201859759654&channel=IRFP , p.11
4.Bank of Ireland Annual Report and Accounts, 2009, http://hemscottir.com/ir/bir/ar_2009/ar.jsp , p.13
5. CSO monthly trade data,
6. Eurostat monthly trade data,
7. CSO quarterly external debt report,
8. CSO, Annual International Investment Position report, 2008
9. Irish Independent,
10. Statement of the Minister of Finance,
11. Irish Independent,
12. Sunday Business Post,
13. http://www.cif.ie/asp.selection.asp?s=1637
14. Bloomberg news,
15. Speech by Enda Kelly, http://www.finegael.org/news/a/903/article/
16. Irish Times,
17. Press release, http://www.labour.ie/press/listing/125292933184136.html
18. ICTU, Report of the Executive Council, biennial delegate conference,
19. http://www.sinnfein.ie/contents/17215