It has been proposed that the only way to avoid national bankruptcy is to walk away from the bailout. If Ireland ostracised itself from Europe and the bond markets, could it survive? And what sort of country would it be, asks KATHY SHERIDAN
ROSARIO, ARGENTINA, 2002. Word races though the city slums that there is food on the freeway – and it’s still alive. A cattle truck has overturned, spilling 22 head of prime Angus beef across the road. Within minutes 600 hungry residents mob the area, wielding machetes and carving knives. “Kill the cows! Take what you can,” they shout to each other. Live cattle are sloppily killed and diced. Fights break out for bits of flesh in bloody tugs of war.
“I looked around at people dragging off cow legs, heads and organs, and I couldn’t believe my eyes,” says Alberto Banrel, a 43-year-old who had been a construction worker only six months before. “And yet there I was, with my own bloody knife and piece of meat. I felt like we had become a pack of wild animals . . . like piranhas on the Discovery Channel. Our situation had turned into this.”
At that point Argentina was just six months into the world’s largest debt default and currency devaluation. Only a year before, it was one of the richest nations, as well as one of the best educated and most cultured, in Latin America.
After the default came the meltdown: a 70 per cent devaluation of the peso in six months, a rapidly shrinking economy, an avalanche of poverty and unemployment. Millions of middle managers, salaried factory workers and state employees lost their jobs in the sell-off of state-run industries and the collapse of local companies.
Bank accounts were frozen in an attempt to stem a bank run. US and European bank subsidiaries converted customers’ dollar deposits into devalued pesos, virtually wiping out their nest eggs. The income of Argentinians went through the floor: in 1999 it was the equivalent of $8,909 per capita, double that of Mexico and three times that of Poland; by 2002 it had shrunk to €2,500 per capita, about the same as Belarus. Many people resorted to barter to get by, and hundreds of thousands emigrated.
THIS STORY, REPORTEDin the Washington Post in August 2002 under the headline “Despair in once-proud Argentina”, is told by Dr Stephen Kinsella to undergraduates at the University of Limerick as a counterpoint to cold textbook jargon. It seems that in post-collapse Argentina the talk was not of proud self-reliance or of Latin-style meitheals pulling together but of vanished dignity, of a nation diminished in ways previously unimaginable. Could it happen here? “We’re a long way from that,” says Kinsella.
And we are. Six out of seven jobs are still in place, notes Seamus Coffey, an economics lecturer at University College Cork. More than nine out of 10 mortgage holders continue to pay up on their original contract terms. Out of every €100 of disposable income, €12 is being used to pay off debt or to build up savings. And – here’s a surprise – the Government still has €22 billion in cash in the bank.
“In a lot of economies in crisis, everyone’s lives have been turned upside down. We’ve had to make adjustments, of course, but in some ways, for many people, life has just gone on, to a fair degree,” says Fergal O’Brien, chief economist with the Irish Business and Employers’ Confederation.
But any urge to break open the (cheap) prosecco has been rudely squashed by the economist Prof Morgan Kelly’s latest academic hit-and-run, in The Irish Times last Saturday; it was a chilling analysis of the Irish crisis and his prescription for a cure.
In response, on one website alone (irisheconomy.ie), more than 90,000 words were hammered out by squabbling economists over a few days. Kelly reckons that Ireland is sleepwalking straight into a calamitous default, a prolonged and chaotic national bankruptcy. Shades of Argentina. And as Kelly has previously been the Cassandra cursed to foretell disaster to a disbelieving populace, people are listening.
His remedy is two-pronged: walk away from the bailout by dumping the banks in the lap of their putative owner, the European Central Bank; then balance the national books immediately. That means no further borrowing and no more humiliating tangles with the EU-ECB-IMF troika or the beastly bond markets; just ourselves alone on our ostracised little island, living austerely but with pride and sovereignty restored.
SO CAN PLUCKY little Ireland disprove the axiom that no man is an island? Can we truly just walk away from the ECB? Would doing so turn us into international pariahs? Economists rarely agree on anything, but the consensus on the last is that, yes, we would be pariahs.
“The attitude would be: ‘Let them off. We’ve tried. They have no regard for our help,’ ” says Seamus Coffey.
Then again, having recovered from the Irish lese-majesty, our erstwhile partners would surely have to admire us for getting off our knees and demonstrating, in Frank Dunlop’s immortal words, balls of iron and a spine of steel.
So would pariah status matter once we had decided to be proudly self-reliant? That depends on the value you place on reputation. “We are one of the economies in the world most dependent on international business,” says Eunan King, of King Research. “We cannot walk away from 50 years of the Whitaker philosophy that we compete and co-operate on an international platform. EEC entry and the encouragement of foreign investment helped Ireland step away from protectionism and dependence on our major trading partner, the UK.”
And would our much-valued multinationals hang about while we dumped the banks on the ECB? “That depends on what we do on the tax side,” says Coffey. “They have very little engagement with government, apart from the corporation tax. We would still be in the euro, according to Morgan Kelly’s plan, and that sector is booming.”
But supposing the ECB decided to pull the rug from under AIB and Bank of Ireland as it flounced away? Kelly believes the ECB wouldn’t do this, for fear of starting a wave of panic across Europe. Others are not so sure.
A well-respected economist, who requested anonymity, believes there is a “real possibility that the ECB would not continue to support the Irish banks and instead would put everything into supporting the rest of Europe – essentially what the US did with Lehman Brothers. Allowing Lehman’s to collapse was perceived as a mistake, but it also sent an important signal. I really don’t see where Morgan Kelly is coming from.”
But even if the ECB graciously decided to keep the banks open, the IMF deal would be defunct, according to Coffey.
“We all give out about it, but it’s the IMF that’s keeping the country open,” he says.
Eunan King can see no way of walking away cleanly from the ECB debt. “Were Ireland to reject the bailout, the ECB would be likely to call in the €80 billion lent, and if the Irish banks could not pay, as would be the case, the collateral against these loans would legally become the property of the ECB.” Plus, we would be seen as defaulting anyway, “in which case we may as well default on the €190 billion of government debt, because access to international loans would be shut”.
“None of us knows what would happen . . . But if the ECB shut down the banking system, you don’t have commerce, so there’s nothing on the shelves, nothing is being bought or sold,” says Fergal O’Brien.
So, by the analysis of these experts, we would be international pariahs without a functioning banking system. But as our money, or what’s left of it, is still in the bank, couldn’t we use the ATMs?
“With no functioning bank system there’s no guarantee that the ATMs would continue to work,” says Fergal O’Brien.
Coffey thinks the notion of empty ATMs is a bit “overblown . . . The ATMs wouldn’t close, but we’d have no money in the bank accounts anyway, and that wouldn’t be the ECB’s fault”.
FOR SOME, KELLY’Sproposals open up the prospect of walking away in its most extreme form, including leaving the euro (or being kicked out of it) and re-establishing a separate currency. This is not an option recommended by Kelly, but it has its vocal proponents.
“The EU has no provision to kick anyone out of the euro, and there’s no legal provision for handing banks back to the ECB either, for that matter,” says Stephen Kinsella. “But if we did leave the euro I’d like to see the new currency being called the Anglo, so we’d never forget . Of course, the first item would be a 50 per cent devaluation, so all outstanding debt doubles immediately. And you’ve just burned €160 billion, so what central banks are going to hold our money?”
Iceland suffered a 50 per cent devaluation, notes Eunan King, “and the next stage would be for inflation to increase dramatically, eroding the purchasing power of wages. Interest rates would be likely to increase sharply – in Iceland they went to 18 per cent – because the outstanding national debt would need to be reborrowed as the terms of the loans expired and because of rising inflation and a lack of confidence in Ireland’s management of the economy.”
In the meantime, deposits would flee the system because the government guarantee to depositors could not be honoured, as Ireland wouldn’t be able to borrow abroad. Exchange controls would have to be reimposed. The Central Bank of Ireland would have to print money to keep the banks afloat.
“We would be in an old-style, hyperinflationary South American economy,” says King.
Some mention a possible return of the bartering system. Others say that countries can be more resilient than we imagine, recalling Ireland’s survival during the bank strikes of the 1960s and 1970s.
Back then, however, business was conducted mainly in cheques, cash and personal trust. We hadn’t yet been exposed to rivers of German credit, online banking and high expectations. People mostly saved for stuff they wanted, mortgages had to be earned through years of saving, non-mortgage loans were called hire purchase, credit cards were a rarity and there were no ATMs.
But as to our economic survival at its most basic, would we be able, in Kelly’s future world, to buy and sell houses, would we have food to eat, would we have oil for heating and fuel?
“Property prices would fall further, as there’d be no banks or Nama to prop up the market,” says Coffey. And food? “Well, we’re food exporters. We’d eat a lot of dairy, but we wouldn’t starve.” And oil? “The question is: if the government had it, could we afford to buy it from them?”
By this time we would have surrendered €18 billion of the surprising €22 billion the Government currently has in the bank to the IMF in obligatory loan repayments. And the essential second prong of Kelly’s proposal, the budget adjustments, would have kicked in.
This is where the economic fallout would become personal. As the external money supply would have been abruptly disconnected, our deficit of €15 billion to €19 billion (depending on who you talk to) would have to be wiped out – immediately. The Department of Finance warns that this would entail cuts of 30 per cent in public-sector pay and social welfare. Fergal O’Brien of Ibec suggests that the figure would be about 40 per cent.
Morgan Kelly says that senior civil servants like him have salaries twice as high as their European counterparts anyway, and he is clearly willing to take the hit. But how much of a hit?
To meet the cuts without raising taxes, says Stephen Kinsella, salaries of workers earning more than €35,000 (roughly the average industrial wage) would have to be halved, at least. So a university professor on €150,000 would see his or her net pay drop to about €60,000, and a hospital consultant on €220,000 would be down to €80,000.
Fergal O’Brien, factoring in a third of the revenue from tax rises, as is current policy, reckons that someone on a public salary of €200,000 would see a fall to €120,000, plus further cuts in the form of raised taxes, resulting in the halving, or more, of that initially hefty income.
People on the average industrial wage are hardly going to weep over this, because they would be dropping about €300 a month, says O’Brien. State pensioners could see an abrupt drop from €230 to, say, €150 a week, according to Seamus Coffey. And the dole would plummet by half.
“People take the view, ‘Don’t tax you, don’t tax me, tax the man behind the tree,’ and that makes the whole thing go away”, says Prof Karl Whelan of University College Dublin. “But to write down the deficit to zero just by adjusting spending? That’s not how government finances work.They are not in control of the deficit side . . . So if you have this panicky reaction, with no trust in Ireland , and if you did start an economic collapse, it’s no longer a simple question of funding the €15 billion deficit.”
The problem with such drastic action is that it would trigger what economists call feedbacks: a crash in tax revenues as a result of pay cuts, zero consumption, a stalled economy and so on. So the amount to be made up could rise from €15 billion to €30 billion, according to Coffey, which is why some see the short, sharp shock not merely as an implement of terrible suffering but also as a futile gesture.
“It couldn’t be done forensically, cutting here, raising taxes there,” argues Whelan. “The economy is not a guinea pig or a rabbit under one organisation. It’s thousands and thousands of different contracts and businesses all trying to adjust in their own way, and there’s only so much you can do without being extremely disruptive.”
Under Kelly’s proposals, “month to month, it’s most likely that the government would be unable to balance the books, so perhaps it could start handing out IOUs. It happened in California recently. So no wages, no welfare benefits and, yes, possibly a second currency of some kind in circulation . . . It would be chaotic.”
SO IS MORGAN KELLY’Sprescription plain wrong? In the main, economists believe we are in a perilous position, walking a tightrope. Many support Kelly’s analysis but would question his assumptions and what one calls his “undue pessimism”. Coffey does not mince his words. He describes Kelly’s sums as “utter nonsense”, which is brave, given Kelly’s deified status. He also points out that cutting the banks loose is a different proposition from what Kelly suggested in January 2009, when he said: “The worthwhile banks need to be maintained by any means necessary, including nationalisation, while Anglo Irish and Irish Nationwide must be allowed to collapse.”
There is no need for the walk-away drama, says Whelan. He suggests using the Anglo/Irish Nationwide promissory notes, or “dead bank debt”, which will add up to about €40 billion over 12 years or so, as a bargaining chip.
“I think we need to debate long and hard about what we’re getting out of that €40 billion – a crucial 20 per cent of our GDP every year – and that should be an important element in the negotiations.”
He believes also that we should keep an eye on Greece, where events are evolving more rapidly. “If Greece defaults and is restructured, it’s not the end of the world. Indeed, the financial markets have already priced in the probability that Greece will default,” he says. “No one dies . . . They may come to us then and say they want us to default on our sovereign bank debt.”
No commentators are saying that it will be easy, but they are saying that time and international events may soften attitudes. So maybe not the prosecco, but time to open that dusty old bottle of ouzo?