Posted by WARREN MOSLER on November 22nd, 2010
Letting the banks fail would have been a highly deflationary event, that presumably has been discounted to some degree by markets. This would include depreciation of Irish bank financial assets, etc.
This helps remove that deflationary risk, and in that sense is ‘inflationary’ in that it works against those deflationary forces.
Also, as you pointed out, there is as yet no new austerity required for this package.
Also reinforced is the notion that any member nation can have a banking crisis that’s too big for it to support.
This further reinforces the notion that the entire euro zone is ultimately supportable only by the ECB.
In any case, it looks like the will is still there to keep the euro zone muddling through at some minimal degree above crisis level, whatever the cost.
By Joe Brennan and Dara Doyle
November 22 (Bloomberg) — Ireland became the second euro country to seek a rescue as the cost of saving its banks threatened a rerun of the Greek debt crisis that destabilized the currency. The euro rose and European bond risk fell.
A package that Goldman Sachs Group Inc. estimates may total 95 billion euros ($130 billion) failed to damp speculation that Portugal and Spain would need to tap the emergency fund set up by the European Union and International Monetary Fund after the Greece rescue. Moody’s Investors Service said a “ multi-notch” downgrade in Ireland’s Aa2 credit rating was “most likely.”
“Speculative actions against Portugal and Spain are not justified, though it can’t be excluded,” Luxembourg Prime Minister Jean-Claude Juncker said today on RTL Luxembourg radio. “In a moment where financial markets have an excessive tendency to punish those countries that didn’t stick 100 percent to an orthodox consolidation, one can never exclude that similar things will happen.”
The aid, which Irish officials said as recently as Nov. 15 they didn’t need, marks the latest blow to an economy that more than doubled in the decade ending in 2006. The bursting of the real-estate bubble in 2008 plunged the country into a recession and brought its banks close to collapse. With Irish bond yields near a record high, policy makers are trying to keep the crisis from spreading.
Threat to Euro
“Clearly because of the size of their loan books, the huge risks they took, they became a threat not only to the state but to the” entire euro region, Lenihan told Dublin-based RTE radio in an interview today. “The banks will be downsized to the real needs of the Irish economy” to “Irish consumers and Irish businesses. That has to be the primary focus of Irish banks.”
Ireland will channel some aid to lenders via a “contingent” capital fund, Finance Minister Brian Lenihan said.
The euro rose 0.5 percent to $1.3740 at 10:30 a.m. in London. Irish 10-year notes rose, sending the yield down 24 basis points to 8.11 percent. Ireland led a decline in the cost of insuring against default on European debt, according to traders of credit-default swaps. Contracts on Irish government bonds dropped 28.5 basis points to 478.5, the lowest level since Oct. 29, according to data provider CMA in London.
“Ireland had no choice,” said Nicholas Stamenkovic, a fixed-income strategist in Edinburgh at RIA Capital Markets Ltd., a broker for money managers. “The market will still be waiting for the details of the assistance and the conditionality, but there should be a relief rally.”
The U.K. and Sweden may contribute bilateral loans, the EU said in a statement. Lenihan declined to say how big the package will be, saying that it will be less than 100 billion euros. Goldman Sachs Chief European Economist Erik Nielsen said yesterday the government needs 65 billion euros to fund itself for the next three years and 30 billion euros for the banks.
Talks will focus on the government’s deficit cutting plans and restructuring the banking system, the EU said in a statement. Irish Prime Minister Brian Cowen, who spoke at the same press briefing as Lenihan, said the banks will be stress tested. Ireland nationalized Anglo Irish Bank Corp. in 2009 and is preparing to take a majority stake in Allied Irish Banks Plc, the second-largest bank.
Lenihan and Cowen appeared minutes after finance chiefs issued a statement endorsing an aid request to calm markets. Allied Irish emphasized the fragility of the system on Nov. 19, reporting a 17 percent decline in deposits this year.
“In the short term, it will stabilize the situation, there’s no doubt about that,” said Jacques Cailloux, chief European economist at Royal Bank of Scotland Group Plc in London, who estimates a package of between 80 billion euros and 100 billion euros. “But as we’ve seen in the case of Greece, uncertainty will remain.”
The package for Ireland will total as much as 60 percent of gross domestic product, compared with 47 percent for Greece.
Cowen plans to announce the government’s four-year budget plan this week and said an agreement with the EU and the IMF will come “in the next few weeks.” Cowen also faces an election in Donegal in northwest Ireland on Nov. 25 to fill a vacant parliamentary seat. The vote threatens to erode Cowen’s majority. He has the support of 82 lawmakers, including independents, compared with 79 for the combined opposition.
The bailout follows two years of budget cuts that failed to restore market confidence as the cost of shoring up the financial industry soared.
Lenihan cancelled bond auctions for October and November and announced 6 billion euros of austerity measures for 2011 on Nov. 4 in a bid to restore investor confidence. Those efforts failed after German Chancellor Angela Merkel triggered an investor exodus by saying bondholders should foot some of the bill in any future bailout.
The risk premium on Ireland’s 10-year debt over German bunds, Europe’s benchmark, fell to 523 basis points today. It widened to a record 652 basis points on Nov. 11, with the yield reaching a record 9.1 percent. In 2007, it cost Ireland less than Germany to borrow. Its 10-year spread then fell to as low as 77 basis points less than bunds. The ISEQ stock index has plunged 70 percent from its record in 2007.
Ireland will draw on the 750-billion-euro fund set up by the EU and IMF in May as part of the Greek bailout to protect the currency shared by 16 countries.
Irish officials initially resisted pressure from the EU to take any aid, saying they were fully funded until the middle of 2011. European leaders sought to head off contagion from Ireland and reduce pressure on the European Central Bank to prop up the country’s lenders by providing them with unlimited liquidity.
Cowen defended his reversal on the need for aid. “I don’t accept I’m the bogeyman,” he said. “Now circumstances have changed, we’ve changed our policies.”
Yields on bonds of Spain and Portugal have jumped amid concern that fallout from Ireland would spread. The extra yield that investors demand to hold Portuguese 10-year bonds instead of German bunds climbed to a record 484 basis points on Nov. 11.
“It probably won’t halt contagion. The sovereign crisis isn’t yet over,” said Sylvain Broyer, chief euro-region economist at Natixis in Frankfurt. “Ireland is in the middle of a difficult crisis.”