Wednesday, October 5, 2011

Promissory Notes to “cost” €85 billion by 2031

The average interest rate of the €31 billion of Promissory Notes given to Anglo and INBS is around 6%.  Although we have access to EU/IMF funds at around 4% until the end of 2013 it is likely that if we emerge from the EU/IMF programme our long-term borrowing rate will be around 5%.  To gauge the cost of the Promissory Notes we will initially ignore the annual payments, interest coupons and cash borrowings and just assume that the €31 billion had been borrowed at an average rate of 5.5%.

If €31 billion is borrowed at 5.5% over a period of 20 years the final cost will be over €85 billion if all the interest is rolled up. 

As we look set to be borrowing to make the annual capital and interest payments this will be cost of the Promissory Notes given to Anglo and INBS over the next 20 years.  Even if we do return to budget surpluses, the money used to meet the Promissory Notes obligations could be used to repay our other debt at similar interest rates so the opportunity cost is largely the same. 

The Promissory Notes are going to cost €85 billion by 2031.  This is the nominal or future value cost of the Promissory Notes.  The real or present value remains the €31 billion that was provided for in 2010.  It is also likely that while €85 billion will leave the Exchequer because of the Promissory Notes, a good deal of this will actually work its way back to the Exchequer.

On the 4th of November 2010 the Department of Finance issued an Information Note on the Accounting Treatment of the €30.6 billion of Promissory Notes provided to Anglo and INBS.  As all of the Notes had not been issued the Department had to use assumed rates for the total amount.  It seems their assumptions were a little optimistic.

Revised figures were released in an answer to a recent Parliamentary Question to Minister for Finance, Michael Noonan from Sinn Fein Finance Spokesman, Pearse Doherty.  The question and answer can be seen here.

Using the numbers provided in the answer we can determine the full cost to 2031 of the Promissory Notes given to Anglo and INBS.  This cost is made up of four elements with the interest elements calculated to 2031.

  1. The cost of paying the capital amount on the Promissory Notes, €30.6 billion.
  2. The cost of the cumulative interest due on the Promissory Notes, €16.8 billion
  3. The cumulative interest cost of the €3.1 billion annual cash payments, €28.5 billion
  4. The cumulative interest cost of interest paid on borrowings to make the annual payments, €9.4 billion

The PQ from Pearse Doherty asks for all of these but detail on the latter two was omitted in the answer.   The first two are the money going into Anglo and INBS.  Mike Anysley has suggested we will get a small amount of this back.  We covered that here.

Initial estimates of #3 were provided in the Department’s initial Information Note.  This suggested that the cumulative interest on the cash payments would be €18.5 billion by 2025.  

Updated estimates using the recent figures were calculated, and kindly provided, by Tom McDonnell of TASC.  These estimate that the annual cash payments of €3.1 billion will generate €28.5 billion of interest by 2031 using a 4.7% long-term interest rate.

As long as we are running overall deficits this €28.5 billion of interest will itself be paid by borrowed money.  This borrowing will cost, or at least have an opportunity cost of around €9.4 billion by 2031.  This spiral could continue!

By 2031 the full cost of the Promissory Notes will be the sum of these: €85.3 billion, and it will be still rising.

In 2032 there will be €2.2 billion of interest due on the money borrowed to make the €47.4 billion cumulative annual payments made to finally pay off the Promissory Notes.  There will also be €1.3 billion of interest due on the €28.5 billion interest bill that the borrowing for these annual payments will have generated.  In 2031, the Promissory Notes will be gone but their legacy will last much longer.

It is impossible to know what the real cost of €85 billion will be in 2031 terms, but whatever growth and inflation takes place between now and then the cost of these Promissory Notes is still going to be truly horrendous.  In 2011 though, the cost is €30.6 billion and that is what should be used when using present value figures.

Over the next few weeks it is likely we will hear of attempts by the government to “restructure” the Promissory Notes.  This will focus on changing the interest rate charged on and extending the term of the Promissory Notes.  This will reduce the amount of interest we pay to Anglo, but will also reduce the “capital surplus” to be returned to the State referred to by Mike Aynsley above. 

It is also important to realise what happens to these interest payments. In 2013 the Exchequer will pay about €1.8 billion of interest to Anglo and INBS as a result of the Promissory Notes. This forms part of the €85 billion figure used above.

However the banks used the Promissory Notes to get actual cash from the Central Bank. Anglo and INBS must pay the Central Bank interest for the use of this facility. It is not clear what this will be precisely but given the numbers involved it will be well in excess of €1 billion.

This money is the profit the Central Bank makes for providing this liquidity to the banks. Each March the surplus from the Central Bank is paid over to the Exchequer. A lot of the interest payments will be returned which doesn’t reduce the cost of the Promissory Notes but does reduce the cost of the bank recapitalisation.

The lower interest rate will mean that there will be less interest doing the circle from the Exchequer to Anglo to the Central Bank and back to the Exchequer. The longer term means we will have longer to repay the €30.6 billion but we will still have to repay €30.6 billion.

There will be some benefit from reduced repayments in the medium term. This is useful now as we are in a difficult position with the public finances. Lower cash payments now ease the funding pressure we are under but we will have to repay the €30.6 billion eventually.

There is no saving to the State of changing the interest rate charged on the Promissory Notes.  Anglo is fully state-owned.  If we give it more money than it needs we get some back.  If we give it a lower amount we get less back.  The net effect is essentially zero but some minor saving could be made through timing issues.

The restructuring that will take place will reduce the €85 billion cost of the Promissory Notes but it will not save us money. If reducing the €85 billion will not save money it is incorrect to say that the cost of the recapitalisation is €85 billion. The cost is €30.6 billion and only reducing that will save money.

If we are going to save on the Promissory Notes it will need something more than tinkering with how we are moving money from one arm of the State to the other.


  1. However, a restructuring of the promissory notes could allow us to be fully funded until 2016 if we pushed out the capital payments and reduced the interest payments.

    Mightn't reduce the cost much but would significantly strengthen our hand.

  2. Seamus

    as per DE's comment, while in the long term, its a zero sum game, in the short-to-medium term it will provide for less of a potential funding crunch and optically better deficit figures.