Thursday, July 14, 2011

Irish Examiner Article 14/07/2011

I had an article in today’s Irish Examiner examining the implications of the recent movements in Irish bond yields and the downgrade to junk status of the same bonds by Moody’s. 

The article was not carried by the online version of the paper but a rather scratchy scan of the newsprint version can be seen here.  Alternatively, the text submitted is provided here.

Funding Crucial To Get Us Through Key 2014 Date

The downgrade of Irish government bonds to junk status by Moody’s has generated a lot of reaction, but has not actually changed the reality that Ireland faces. In this reality Ireland’s general government debt (GGD) at the end of 2010 was €148 billion, although this can be offset by €16 billion of cash reserves we also held. 

Between now and 2014 the annual budget deficits will increase the debt by another €50 billion.  By the end of July, our borrowings will have increased by a further €8 billion as part of the ongoing recapitalisation of the banks. 

The 2014 general government debt will be close to €210 billion or around €190 billion if you want to consider the net figure by subtracting our cash reserves. This will be around 110% of GDP which puts us in the danger-zone of debt levels but it is not a terminal level of government debt.

One question that must be addressed is whether we can actually get to 2014 when it is forecast that our public debt will have stabilised and maybe even begun to decline.  Bond markets are of the clear view that we cannot survive to 2014, and this view has been subsequently embraced by Moody’s in Tuesday’s downgrade.

The EU/IMF deal provides €50 billion for the running of the State.  If the only use of this money was to fund the annual deficits then it would seem likely that we could make it to the end of 2014, and the €16 billion of cash reserves would certainly guarantee that.

However, we also need funding to pay off the maturing of existing debt.  Usually this is simply rolled over by borrowing from someone else in bond markets.  We are shut out from these markets so the money to pay off our existing debt must also come out of the EU/IMF package.

Over the next four years we have around €44 billion of debt repayments to make.  To get to the end of 2014 we actually need €94 billion of ongoing funding.  Between our own cash reserves and the EU/IMF money there is €66 billion available.  This will be fully exhausted sometime in the middle of 2013.  In just over two years the Irish State will be broke. Bond market investors know this.

Among the €90 billion of government bonds there are issues that will mature in November 2011 and April 2012.  These are trading at relatively low yields, with the November 2011 bonds yielding 5.5% indicating that buyers believe these will be paid off.  They will be.  After this, the yields on Irish bonds soar. 

The highest yielding Irish bonds are €12 billion of bonds due to mature on the 15th January 2014.  These now have a yield of over 17%. A 100 euro unit of these bonds would provide about €10 of interest payments over the next two and a half years and a €100 maturity payment in January 2014.

This bond, which has to potential to generate €110, can now be bought for about €75. Markets do not believe that these bonds will be repaid in full.  With the State forecast to run out of money in the middle of 2013 this is a perfectly reasonable assumption to make.

The 15th January 2014 is a key date for the Irish economy.  If we can get past this date we will afford ourselves some breathing space. After January 2014 it is more than two years until the next bond rollover date arises in April 2016, and if we have brought the deficit under control our dependence on funding could be very low. 

In the meantime, though, Ireland will run out of money in the middle of 2013.  Current bond market yields suggest that we would have to pay over 13% to raise private funding.  Borrowing at rates of even half of that is not sustainable.

The current plan is that this Ireland will return to bond markets in late-2012, but with yields where they are now that cannot happen.  This means we will be bust before we can raise any more money and the bust will come first. The Moody’s downgrade reflects this reality.

If we choose to avoid this outcome we will need additional support from the EU/IMF.  The original €85 billion bailout had €35 billion set aside for the banks.  It now appears that not all of this will be used and the IMF have indicated that the leftover money can be transferred to help fund the State. 

If an extra €30 billion or so were made available it would guarantee funding through the crucial January 2014 period.  Once markets see that we can get to the stage where the debt is sustainable it is likely we can source more of our funding privately and begin to stand as an independent state again. This will also require a substantial improvement in domestic economic indicators and political acceptance of the necessity of ‘Bailout 2’.

The Irish economy can emerge from this crisis, but it would be utter incompetence to let it fail because we did not have the required funding in place to get us through January 2014.  Whatever about the rhetoric from the Government in public we must hope that in private they are dealing with reality and ensuring that this money will be available.

It appears that there is at least one person who agrees with me!


  1. Hi Seamus, you outline what you think Ireland’s debt level will be in your blog about Constantin Gurdgiev. You outline borrowings for cash balances as €12 billion and later deduct €6 billion as use of cash balances. Why do you use only €6 billion? Does your €208 billion figure assume a further €6 billion on deposit somewhere else. Why not ignore the cash borrowings in the run up to the EU/IMF agreement since money borrowed here is a liability but it is also an asset on deposit somewhere. Do they not cancel each other out? Also is the €15.7 billion in the exchequer account at end of 2010 the more relevant figure if you are netting off the debt? Thanks

  2. Hi Anonymous,

    Q1. Why do you use only €6 billion?

    I assume this figure comes from here. I do not think we should use all the cash balances and remove any buffer we might have. If we use €6 billion we will have €10 billion on deposit as a backstop. There was €4 billion of cash at the end of 2007 and a further €12 billion borrowed between 2008 and 2009.

    2. Does your €208 billion figure assume a further €6 billion on deposit somewhere else. ?

    Yes, in fact there would be €10 billion of cash remaining so that would be subtracted if you were calculating a net debt figure.

    3. Why not ignore the cash borrowings in the run up to the EU/IMF agreement since money borrowed here is a liability but it is also an asset on deposit somewhere. Do they not cancel each other out?

    Yes, they do cancel out but the internationally used measure of public indebtedness, the General Government Debt (GGD), does not net them out. The cash is important and large cash holdings do make the difference between gross and net debt important. We have cash holdings of about 10% of GDP.

    4. Also is the €15.7 billion in the exchequer account at end of 2010 the more relevant figure if you are netting off the debt?

    Yes, this is the €16 billion figure I am using. €12 billion is the increase in cash holdings from 2007 to 2009. It stood at €4 billion at the start of this period.

  3. Seamus

    If the State capitalised the banks with a promissory instead of €20 billion hard cash, then it would help the situaton enormously. Does the MOU or other agrements specifically prevent this.

    From your analysis, it seems there is scope for the State to talk to some sovereign funds. eg China.
    There is a big margin for profit between the 17% yield you quote above and a reasonable return to a sovereign fund to replace this funding on a 10 year bond.
    It is time for the NTMA boys to start to earn the mega salaries.

  4. Seamus

    If we need to borrow another €30 billion to keep us afloat will this not put our debt to GDP ratio at 127% above Italian debt with a greater budget deficit, me thinks one does protest too much!

  5. @ Anonymous

    The €30 billion isn't 'extra' debt in the sense that it doesn't add to the €210 billion gross debt we will have by the end of 2014.

    The stumbling block we have is that we don't even have access to this money. The €30 billion is just to cover the upcoming rollover of debt, funding the projected deficit and to provide some slack in the case of higher financing needs.

    As things stand we can get to the end of 2013 when the debt will be around €190 billion and most of our cash reserves will have been exhausted. The €30 billion would simply allow us to rollover the Janurary 2014 bond, cover the 2014 deficit and maintain our cash reserves at existing levels.

    Having a lower debt is separate to the €30 billion figure and the options here are:

    1. Do not repay existing debt in full
    2. Bring the budget deficit down faster

    Even if we had access to €30 billion of funding these options are still available.