Monday 4 April 2011

Coffey on the banking cost

Tom McDonnell: Seamus Coffey has put together a very lucid post over at Economic Incentives estimating the actual scale of the banking cost.

This kind of forensic analysis is a very useful counterpoint to some of the more hysterical comments over the last few days and should be required reading.

14 comments:

Anonymous said...

you're missing the point there Tom, as is Seamus. The problem is not so much the size of the debt but the ability to make the repayments.

Where is the growth to sustain the bailout?

The one question Coffey doesn't even attempt to address, yet has the time and energy to tell us that it's not that bad after all.

Where's the growth going to vome from?

I mean, actual real economy growth, not the accounting gymnastics which we usually get.

If Coffey can answer that, or yourself for that matter, then we might edge towards 'lucidity' on this matter.

Where's the growth to sustain the debt?

Tom McDonnell said...

Hi Anonymous,

The point of Seamus's post was to dispel some of the wilder claims being circulated as facts with regard to the size of the bank debts. We can only debate properly if we are using the correct numbers.

Nevertheless I do agree with you with regard to growth. I do not envisage sufficient growth levels over the next few years.

The extreme austerity envisaged under the four year plan (now adopted by the new Government) will almost certainly lead to very low levels of GDP growth for the next few years. The official growth estimates for the next few years are too optimistic. Reinhart and Rogoff have shown that growth following a banking crisis tends to be particularly slow as countries gradually work out their debt overhangs.

Incidentally a paper just released over at vox provides some new estimates for the size of fiscal multipliers. (http://www.voxeu.org/index.php?q=node/6314)

My own analysis is that the debt is not sustainable and restructuring of some kind is inevitable.

Der Spiegel is already reporting that the IMF is pushing for a restructuring of Greek debt.

Anonymous said...

oh ok. Coffey's work in the past has been questionable to say the least - more than a touch of the freakonomics to it - so to see him being used to back up an argument - any argument - brings out the dismissive in me.

Agreed though. All the banks are doing here is trying to buy time, which is how bankers deal with every problem. Throw more credit at it and hope it goes away.

Banks need the investments made with the loans they provide to provide more value than the paper value of the loans. Banks don't create wealth. They syphon wealth off the real economy.

So, when new loans are being used simply to cover previous bank loans which have failed, adjusting the edges of the figures won't change anything.

Tom McDonnell said...

I don't agree that his work is in any way questionable. I have never found Seamus's work to be anything other than rigorous and of a very high standard.

The key question is whether the crisis is one of liquidity or one of solvency. If it is a solvency question then restructuring is inevitable.

The Economist magazine calls for restructuring here (http://www.economist.com/node/18485985)

Anonymous said...

The blurring of the bond-holders question?

You're ok with that?

and your either/or set-up is so reductive as to be completely useless.

The key question is NOT of one of liquidity of solvency. That is an approach which simply ignores the way the EU has approached banking and financial innovation in the past 20 years.

There is liquidity in the system - but it goes into financial products. Is that business model sustainable? Hasn't been up to now. So what has changed in the past three years to make financial innovation as a business model worth saving?

Tom McDonnell said...

It was a rhetorical question.

As a point of principle I do not believe that any private banking debt should be transferred to taxpayers (Irish or European). The transfer of debt can be justified in the short-run to the extent that it will arguably prevent greater social damage through contagion in the banking system.

But in the longer-run finance capital must pay for the crisis it caused. This can be done, for example, through the introduction of a European wide Financial Transactions Tax.

Of course we must remember Irish voters also bear some responsibility for electing laissez-faire politicians who inculcated a free for all culture with no accountability or responsibility.

We are now paying for those choices.

Paul Hunt said...

@Tom McDonnell,

Your points are well made, but I expect you will atrract some criticism from other commenters. However, I have my doubts about a Financial Transaction Tax (or Tobin Tax). There is a string possibility that banks will be able to pass this through to final consumers and escape unscathed. Breaking up the 'too big too fail' banks, forcing all banks to compete effectively (to erode super-normal profits), requiring them to contribute to an insurance fund to deal with future madness and obliging them to draft a binding 'living will' might make more sense.

And, on your final point, the exercise of unrestrained and uncontested excessive executive dominance (which got us in to this mess) continues unabated. Despite all its good intentions and honeyed words about political refrom, this government (similar to all governments) will do nothing to constrain its exercise of executive dominance.

Tom McDonnell said...

Hi Paul,

I share your concern about the ability of the banks to simply pass on the Tobin Tax. Nevertheless it is a policy I would like to at least see investigated for its potential efficacy. A second rationale for a Tobin tax would be to dampen the general volatility of the market.

I would support your first three suggestions for reforming the banking sector. I suspect most people would. Although at what point does a bank become too big to fail?

The idea of a binding living will for banks is not something I’ve researched. It seems like a good idea in principle.

Deeds not words are what we need from this Government. If the Government fails to undertake a programme of fundamental reform of our dysfunctional and broken system, it will be judged harshly indeed by the history books.

Paul Hunt said...

Thank you, Tom. I think most of these issues will be addressed eventually at the EU level or at a higher and broader multilateral level, but there will always be a requirement for good quality research and analysis.

And I don't think we can afford to wait for the history books to be written! It's for all citizens to badger their TDs. The message is simple: 'We have delegated our ultimate authority to you for 4-5 years. The Dail is yours for that period. You have elected a government; now it doesn't matter if you're a government or opposition TD, simply use the powers we've delegated to you to change the procedures of the Dail and its Committees in our interests and in yours to keep this government in line. We want sensible policies that are in the public interest and we want them now.'

Seamus said...

@Tom/Anonymous

The piece was not an attempt to analyse growth rates. I have plenty on projected growth rates elsewhere and they are going to be anemic for the next few years. The piece was simply an effort to examine some commonly cited "facts" of this banking fiasco. They do not stand up to much scrutiny.

As Anonymous says the big issue is the cost of carrying the debt. It now appears that the banking related debt will be lower than previously thought. My guess is around €43 billion or so. At 6% this would cost about €2.5 billion a year to service.

[From my perspective I often compare this to the annual cost of running the entire Third-Level Education system. Oh well.]

€2.5 billion is an awful waste of money (particularly at a time when we need it). It will use up a good portion of the planned tax increases over the next few years. Of course, growth is vital and is the only way we can reduce the effect of the debt.

However, unlike Tom, I believe that in the medium term we can carry this. On the growth to make this a certainty, one person's guess is largely as good as another.

@Paul Hunt

They are three excellent suggestions.

Paul Hunt said...

@Seamus & Tom,

Many thanks to both of you. With some focused analysis and with some enlightening exchanges, you have placed this issue in its proper context. The additional debt service cost is a true deadweight cost, but it should be viewed as a 'Governance Deficit Penalty' (which should incentivise citizens to demand changes in political governance) and should be manageable - but only if we tackle the inefficiencies, deadweight costs and rent capture in the sheltered sectors.

But there are too many well-embedded vested interests and it seems that the new government, already, has been captured. It is for this reason that I remain concerned about the medium term fiscal sustainability.

Tom McDonnell said...

Of course the debt 'can' be serviced by running a primary surplus each year. But just because it can be serviced does not mean it 'ought' be fully serviced by the Irish taxpayer.

The Government should make a cold blooded pragmatic decision to take the option that minimises damage to the economy and society. It is still not entirely clear to me what the correct decision is.

Goodbody produced a helpful analysis of the average level of fiscal surplus required to stabilise the debt. It is here: http://www.scribd.com/doc/48415930/Irish-Debt-Dynamics-Feb-11

Goodbody argue that Ireland cannot continue to bear the burden of the banking sector liabilities.

If the Government is to pursue a robust strategy of debt restructuring with its European partners it will need the private support and lobbying power of the IMF.

We do however have the advantage that Greece is likely to be the guinea pig in this process.

@ Paul
In what sense do you feel the new Government has already been captured by vested interests?

Paul Hunt said...

@Tom,

Trying to ensure NAMA won't go belly-up means that downward rent reviews are probably only talk - and can you really see FG ripping into anti-competitive practices in the professions and small businesses where they secure so much electoral support? And on the semi-state side (just for a bit of balance) I have this comment from elsewhere:
http://www.irisheconomy.ie/index.php/2011/04/04/a-jobs-and-creditworthiness-special-budget/#comment-137234

Martin O'Dea said...

Anyone seen that 51% S.P.V. private stake lately. I assume this is now just a curiosity; and that there are no private holdings in NAMA?