The Price of the Eurozone

by Michael Patrick O'Leary

This article appeared in the February 2014 issue of Echelon.

Is the Irish economy a specimen case for the future of the euro?

Some time ago, I met a delegation from the Irish Development and Investment Authority, which was visiting Colombo. I mistakenly thought that they had come to invest in Sri Lanka. In fact, they were looking to persuade Sri Lankans to invest in Ireland. The leader of the delegation admitted that, after the Irish economy doing very well for many years, “the wheels came off the bicycle”. Would not Ireland be a dodgy proposition for Sri Lankan investors? The official Irish line was that Sri Lankan businesses could benefit from Ireland’s long experience as an influential member of the EU. Ireland could be a gateway to Europe for Sri Lankan entrepreneurs. Ireland also has, through its diaspora, strong traditional ties to US markets, which Sri Lankan businesses could exploit.

As the old year 2013 waned, there was jubilation in some quarters in Ireland that the wheels of the bicycle had been fixed. On December 15th, Ireland became the first nation in the eurozone to leave its €67.5 billion bailout package provided by the EU and the IMF back in 2010. The Taoiseach [Prime Minister] Enda Kenny publicly thanked the Irish people for their sacrifices during three years of austerity. The Minister for Finance, Michael Noonan, described the people of Ireland as the “real heroes and heroines”.

Ireland had long been an enthusiastic member of the EU and had gained much from it in infrastructure improvements and farm subsidies. I was living in Ireland during the changeover (beginning in 1999 and completed in 2002) from the punt to the euro. Whatever the experts might have said, we paid more in the supermarket after the punt disappeared. Another concern was that in the eurozone, any flexibility in managing national economies would be lost. It has, indeed, proved disastrous that countries in the Eurozone cannot devalue their currencies to attract investment and boost exports. Fiscal stringency to protect the euro will make it harder for countries to stimulate their economies with government spending.

Despite the Irish “success”, the eurozone still has not resolved the issues that threaten its future as well as its present. From 2000-2007, the flow of funds from the core to the periphery was presented as evidence of the success of the euro. After the crisis, these positive “flows” of capital suddenly became negative “imbalances”. The euro project now required that the taxpayers of the peripheral countries should pay the debts of the banks. In the case of Ireland, it is ironic that a Portuguese Communist should have insisted that Ireland must bail out the banks, which had contributed mightily to causing Ireland’s crisis. Manuel Barroso, the EU president, for whom no Irish citizen ever voted, insisted this was the only way of preventing bank runs all over Europe.

The measures taken to enable exit from the bailout have slimmed down Ireland’s banking industry. Foreign banks have pulled out. There were six big native banks before the crisis. Only three are still in business. The Irish state owns most of Allied Irish Bank (AIB) and Permanent TSB, as well as a 14% stake in Bank of Ireland. Between them, AIB and Bank of Ireland provide over 86% of new mortgage lending. Bailed-out banks are under pressure with bad debts. Ten per cent of the Bank of Ireland’s owner-occupier residential mortgages are in arrears. If the banks cannot raise money on the markets, deposits may be raided – as happened in Cyprus. The inability of banks to lend to Irish businesses is making the domestic economy stagnate.

The National Treasury Management Agency (NTMA) is sitting on a cash mountain of nearly €25bn, placed on deposit in the Central Bank of Ireland, receiving interest at a rate of a mere 0.1% per annum. Ireland needs to keep such reserves in case there is a euro implosion, (or Irish exit from the euro). If the NTMA keeps its reserves in euros or in banks of eurozone countries, there is a danger that the reserves would be ‘sequestered’ when the collapse comes.

Eurostat, the EU  data agency, has calculated the cost of the banking crisis in each EU country. To date it has cost every individual in Ireland nearly €9,000.  The average throughout the EU is €192 per capita. The Irish people have paid 42 percent of the total cost of the European banking crisis.

It does not stop there. The ECB came up with a ruse, which extended cash to the banks in return for their dodgy loans, only if the banks then bought high-yielding government bonds. Finance Minister Michael Noonan claimed that the deal “eases the burden on everybody”.  The first principal payment on these bonds is not due until 25 years from now. The children and the grandchildren of the “real heroes and heroines” will have to pay the ‘debt’.

If there are any grandchildren. Government policy is to use emigration to reduce unemployment. There are posters around Ireland encouraging young people to apply for visas to America. In Dublin’s main shopping district, emigration “shops” help people find work abroad and do the paperwork. The welfare authorities tell the unemployed to find work abroad. Only mass emigration has stopped unemployment figures from rising over 20 per cent. This is a huge drain of human capital from the country. Growth will require a suitable labour force and the skills of the unemployed may have become obsolete during their long spells of joblessness. As Mario Draghi of the ECB and others have suggested, young people may be at a particular disadvantage because of lack of experience, or the skills employers are seeking. Employers  may have to depend on cheaper migrant labour and there has long been anti-immigrant sentiment in Ireland as elsewhere.

Would Sri Lankan businesses be wise to invest in Ireland? Forbes magazine would say yes. Forbes did a survey grading 145 nations on 11 different factors: property rights, innovation, taxes, technology, corruption, freedom (personal, trade and monetary), red tape, investor protection and stock market performance. Ireland came top in this index.

However, whatever Forbes might say, the Irish economy, and the eurozone, is still in a fragile state. Ireland’s national debt may rise to as much as 140% of GDP before stabilising. Ireland is not likely to provide a huge market for Sri Lanka exports. In order to exit the bailout, and pay off the gambling debts of the banks, the government opted for swingeing cuts in wages and benefits. Further cuts are planned. In November 2013, Eurostat reported that Ireland had the largest net emigration rate of any EU country at 7.6 people emigrating per 1,000 population. The current population is around 4.5 million. Those Irish people who are still there do not have much money to spend at present or for the near future. Will the last Irishman to leave please turn out the lights?

In Ireland’s case, the woes of the euro are the cause, not the consequence of the banking problems. Latvia recently joined the Eurozone. Latvia’s growth rate in 2014 is forecast to be four times higher than of the rest of the eurozone. Latvia’s accession has shown that one of Europe’s most (apparently) dynamic economies still regards the Eurozone as a club worth joining. Time will tell whether Latvia’s progress will be sustainable within the Eurozone or whether Latvian citizens will end up paying the price like the Irish. Those of them who are left in Latvia – between 2008 and 2012, Latvia’s population fell by about 8.5 per cent.