Transcript economy of Ireland

IRELAND DEBT
CRISIS
Introduction
• The economy of Ireland has transformed in recent
years from an agricultural focus to a modern knowledge
economy, focusing on services and high-tech industries
and dependent on trade, industry and investment.
• In terms of GDP per capita Ireland is ranked as one of
the wealthiest countries in the OECD-28 rankings as of
2008 and the EU-27 at 5th.
• Unemployment plummeted from 16 per cent (on the ILO
basis) in 1994 to 4 per cent in 2000 – essentially full
employment for the first time in modern history.
Non-agricultural employment jumped from 33 % of the
population in 1993 to 41 per cent in 2000 and 46 % by
2007.
The 1995 to 2000 period of high economic growth, Ireland
was called the "Celtic Tiger", a reference to the "tiger
economies" of East Asia.
GDP growth continued to be relatively robust, with a rate of
about 6% in 2001, over 4% in 2004, and 4.7% in 2005.
• Up to 2000 the true ―Celtic Tiger‖ period involved
exceptional export-led growth with moderate wage and
price inflation maintaining cost competitiveness and
healthy public finances.
• This period began in the late 1980s when the
Government finally tackled the public debt problem with
tough spending restraint and managed to negotiate a
series of social partnership agreements which seems to
have brought wage rate moderation (and industrial
peace) in return for income tax concessions.
• EU structural funds amounting to as much as 3 per cent
of GDP per annum also helped fund an expanded public
infrastructural program.
By about 2000, as the economy approached full
employment, and technological constraints
began to bite, the potential for continued per
capita growth at rates experienced earlier no
longer existed.
Further national growth above the industrial
country average could only be achieved with
continued large scale immigration and capital
investment. (The Beginning)
The Emergence of a Property
Bubble
• The preconditions for increasing housing demand emerged
gradually with the sustained export-led real economic expansion
from 1988 and especially from 1994 onwards.
• But the sharp fall in nominal and real interest rates in the months
running-up to EMU entry really triggered the housing price surge?
Why it triggered housing price surge?.
The combination of higher population, higher income and lower actual
and especially prospective mortgage interest rates provided a
straightforward upward shift in the willingness and ability to pay for
housing. But property prices developed their own momentum and
overshot equilibrium levels.
In effect, purchasers increasingly built in an expected continuation in
the increase of the relative price of housing.
• The current difficulties of the Irish banks – whether in
terms of liquidity or solvency – are directly attributable to
their over-lending for land and property investment, much
of it through heavy short-term wholesale foreign
borrowing.
( Making National banks vulnerable to World Wide Liquidity
Crisis 2008, and over exposed to collapsing property
market).
In short, although international pressures contributed to the
timing, intensity and depth of the Irish banking crisis, the
essential characteristic of the problem was domestic and
classic.
Monetary and Fiscal Causes
Generally and Briefly
While the global financial crisis exacerbated
matters, the banking crisis in Ireland was
largely a home-grown phenomenon. The
crisis stemmed from the collapse of the
domestic property sector and subsequent
contraction in national output. Its root
cause can be found in the inadequate risk
management practices of the Irish banks
and the failure of the financial regulator to
supervise these practices effectively.
The Monetary Miscalculations
Banks had not been central to the financing of the
export-led Celtic Tiger period and do not appear
to have played a leading role in the early phase
of the property bubble.
However, the four last years of the boom, from late
2003 onwards, were clearly bank-led, as new
entrants and incumbents competed
aggressively, stimulating demand with
innovation. ( Good Banking Incentives For
Household Borrowing).
Lending to property developers also soared and
much of it turned out to be unrecoverable thus
proving to be the major weakness of the
banks.
And although some of the property collaterals
were located in several foreign locations
vulnerability to a correlated downturn in the
different markets meant that banks would have
needed a greater capital buffer to protect against
a possible property crash.
EMU
Ireland’s monetary and public policy has to be viewed in the context of
its membership
of the European Monetary Union (EMU) and the argument that the
single currency could generate forces for greater economic
integration.
The European Central Bank (ECB) engaged in a policy of low interest
rates designed to stimulate demand. the increase in mortgage credit
in Ireland was influenced by its membership of the EMU and the
subsequent removal of interest rate control.
this low ECB driven interest rate environment contributed
significantly to a construction-led boom and resulted in the Irish
economy suffering a severe loss in labour competitiveness. It also
led to an over-dependence on the property sector for employment
and the once-off, largely transactional-based, taxation revenues that
it generated
Fiscal Reasons
The emergence of macroeconomic vulnerabilities during the bubble
period was reflected in a deterioration of wage competitiveness and
underlying fiscal revenue and expenditure policies.
Although Ireland‘s public debt level immediately prior to the crisis was
low 25 % in 2007, the fiscal deficit and public sector borrowing
surged quickly with the onset of the crisis.
This was partly attributable to a rise in Government spending in GDP
(after 2004) which became embedded in the system.
However, in light of soaring tax revenues at the time, Government
decided to increase autonomous spending particularly on public
sector pay.
In addition
Much of the reason for the revenue collapse lies in the systematic shift
over the previous two decades away from stable and reliable
sources such as personal income tax, VAT and excises towards
cyclically sensitive taxes. (facilitated systematic tax evasion)
Revenue became increasingly dependent on corporation tax, stamp
duties and capital gains tax (in that order); the contribution of
these taxes to total tax revenues rose steadily from about 8 per cent
in 1987 to 30 per cent in 2006 before falling to 27 per cent in 2007
and just 20 per cent in 2008.
Moreover, Irish budget deficit was below EU (SGP level of 3%) at 1.6%.
SO the Irish Fiscal Situation was satisfying.
features
Rise in Bond Yields
An indication of the debt crisis is a rise in
bond yields. Higher bond yields are an
indicator that private investors are
unwilling to hold those bonds. If you don’t
trust a country to repay you, then you don’t
want to buy the bonds unless you get a
higher bond yield to compensate for the
higher risk
High Cost debt Financing
The cost of bailing out the country’s banks pushed this
year’s Irish budget into the red by at least £16billion as
borrowing rose to 32 per cent of GDP, a record for postwar Europe.
It could cost them more than 50% of GDP. That is an
enormous number that is having to be plugged into a
banking system ”.
The taxpayers of Ireland who are having to go through a
tremendous austerity, and the IMF and the EU that are
putting in money.
Recession
It was the first country in the EU to officially
enter a recession as declared by
the Central Statistics Office
Ireland now has the second-highest level of
household debt in the world (190% of
household income).
Downgrading Of Credit Rating
The country's credit rating was downgraded to
"AA-" by Standard & Poor's ratings agency in
August 2010 due to the cost of supporting the
banks, which would weaken the Government's
financial flexibility over the medium term
It transpired that the cost of recapitalising the
banks was greater than expected at that time,
and, in response to the mounting costs, the
country's credit rating was again downgraded by
Standard & Poor's to "A "
Down Sloping Economic Growth
• Economic growth was 4.7% in 2007, but -1.7% in 2008
and -7.1% in 2009.
• In mid 2010, Ireland looked like it was about to exit
recession in 2010 following growth of 0.3% in Q4 of 2009
and 2.7% in Q1 of 2010. The government forecast a
0.3% expansion.
• But, the economy experienced Q2 negative growth of 1.2% ,and in the fourth quarter, the GDP shrunk by 1.6%.
Overall, the GDP was reduced by 1% in 2010, making it
the third consecutive year of negative growth .
• collapse in tax receipts due to a reduction in economic
activity.
Unemployment
These property developers are currently suffering
from substantial over-supply of property, much
still unsold, while demand has evaporated.
The employment growth of the past that attracted
many immigrants from Eastern Europe and
propped up demand for property has been
replaced by rapidly rising unemployment
Bailout
In november 2010 reland has formally asked
for a bailout of up to £80billion (€90bn),
with £40billion for banks, after a deal was
agreed in principle by the EU. A team of
European Commission, Central Bank and
IMF officials have been in Dublin over the
weekend checking Ireland’s figures and
making an assessment of the costs of
rescuing Irish banking.
Nationalization of Banks
This was followed by the nationalization of
Ireland’s third largest bank, recapitalization
of its two main financial institutions and the
creation of a type of “bad bank” (National
Asset Management Agency (NAMA)) to
manage the billions of non-performing or
toxic loans in the banking system.
however
Tens of billions have now been poured in Banks with little
or no benefit to either the banks or the real economy .
The banks' damaged balance sheets haven't been
healed by any measures - NAMA, nationalization, partial
recapitalization– the Irish government has taken to date.
Ireland has guaranteed the liabilities of the banks. The fact
that banks' past liabilities are hinged to the sovereign's
ability to raise funds on the open market means that the
fiscal plan is itself hinged to the performance, or lack
thereof, in the banking system.
Fiscal Remedies
Austerity
Ireland's 140-page National Recovery Plan
• More than 24,000 jobs will be cut, taxes raised and
welfare payments to be reduced.
• Irish government published its four-year economic plan
intended to save the country €15bn (£12.7bn) and
ruthlessly drive down its national debt.
• It introduced a range of cuts and tax rises aimed at
cutting the republic's debt and restoring international
confidence.
•
By 2014 the Irish will cut €10bn from public spending
and raise an extra €5bn in taxes. These measures will
also include a new property tax, water charges, cuts to
the minimum wage and rises in student fees .
Restructure of some Budget
items
The main points include:
•Social welfare, which accounts for one third of day-to-day
spending, will be cut by €3bn with changes to
unemployment benefit and reform of child benefit.
•Changes in the income tax bands will raise €1.9bn. The
threshold for tax will be lowered to €15,300 and single
people on higher incomes will have to pay more.
•Public sector pay will be cut by €1.2bn and staff numbers
reduced by nearly 25,000.
•The minimum wage cut by €1 to €7.65.
•VAT will increase by 1% to 22% next year and to 23% in
2014.
•A new tax on more than 2m households and properties of
€200 a year — called the site value tax — will raise
€530m.
THANKS VERY