Saturday, July 29, 2017

Ireland’s Positive and Improving Underlying Net International Investment Position

The last post looked at flows in the current account and concluded that this may be a good indication of what is happening to the current account balance once some of the distorting effects of MNCs are removed.

Adjusted Modified Current Account Annual over GNI star

This post looks at the stock position and as is frequently the case with Irish macro statistics the starting position is heavily distorted.   The CSO publish figures that remove the impact of IFSC activities but some MNC distortions remain.  You can go through the detail if you want but here is where we end up – a measure of Ireland’s underlying net international investment position.

Underlying Net International Investment Position

As can be seen this has been improving pretty much consistently since the current data series began in 2012.  The underlying NIIP became positive in 2014 and had since continued to become even more so.  The rest of the post shows how we get to this measure starting with the the overall net international investment position (NIIP) which is the balance of foreign financial assets and liabilities:

NIIP Total

The impact of the IFSC is excluded from all the figures.  The impact of the IFSC on the net outcomes is relatively small but does have a massive impact on the gross figures with huge levels of financial assets offset by a similar level of financial liabilities.

In Q1 2017 our NIIP was minus –€375 billion. Ouch.  Even before the event which caused the level shift in Q1 2015 it was around –€180 billion and was improving at a very moderate rate.  But we need to go under the hood to get any idea of what is going on.  The first thing to do is look at the gross totals that give rise to the net figure shown above.  Here are our total foreign financial assets and liabilities.

Total Foreign Assets and Liabilities

Whoa!  By Q1 2017 we had €1.4 trillion of foreign liabilities and €1.0 trillion of foreign financial assets.  And this is excluding the effect of the IFSC – include that and the figures are €5.0 trillion and €4.5 trillion.

Anyway, let’s just take the non-IFSC figures which on their own seem completely oversized for the Irish economy. So who has external liabilities of €1.4 trillion?

Foreign Liabilities

And there is our pollutant.  Around 90 per cent of the foreign liabilities are due to the non-financial corporate sector.  Do Irish companies have €1.2 trillion of external liabilities?  No, but companies resident in Ireland do.  It is pretty safe to assume that almost of the external liabilities of the NFC sector arise through foreign-owned MNCs. 

The NFC numbers don’t tell us anything about the underlying position of the Irish economy.  There will be information in figures for the other four sectors shown above but the scale of the chart means it is hard to see what is going on.

There may be many factors driving the increase in MNC-related foreign liabilities but one will be the onshoring of intangible assets to Ireland.  The Irish-resident entity that onshores the intangible does so with money borrowed from another (offshore) entity within the MNC structure.

And we see much the same when we look at the €1 trillion of foreign financial assets.

Foreign Assets

Here nearly 80 per cent is due to the NFC sector.  Do Irish companies have €800 billion of foreign financial assets.  Again, no, but companies resident in Ireland do.  In this instance we are looking at liabilities owed to Irish-resident entities within foreign-owned MNC structures.  It is possible that this is related to redomiciled or inverted companies.  Again, the underlying position of the other sectors is hard to identify given the scale of the graph.

If we just isolate the external debt liabilities and assets associated with direct investment we see the following (there will also be equity liabilities and assets associated with direct investment).

Direct Investment Debt

They have got there by different paths but both the gross external debt and external debt assets related to direct investment were about €500 billion in Q1 2017.  As we have pointed out before these huge increases in direct investment debt liabilities and assets have not been reflected in increases in interest flows related to direct investment debts.

Direct Investment Income on Debt

Anyway, that’s for another day.  What we want to do here is assess Ireland’s underlying net international investment position.  What the above shows is that to do this we need to remove the impact of the NFC sector which through the activities of MNCs is distorting the overall position.  This does remove the cross-border positions of genuine Irish companies but these are unlikely to change to general picture that emerges – though we can’t forget this.

So what is our Net IIP excluding NFCs?

Net International Investment Position

Ah, that’s better.  The navy line gives our underlying Net IIP excluding NFCs (and also the IFSC).  This has shown steady improvement since the start of 2012 when the current data series begins.  It has gone from –€90 billion in Q1 2012 to +€80 billion in Q1 2017.  We have gone from a net liability position to a net asset position – we have more external financial assets than we have external financial liabilities.

Net International Investment Position by Sector

Most of the improvement has been effected through the financial system.  In the early years of the crisis many of the external creditors of the banks were repaid with liquidity from the Central Bank which itself generated a negative Target2 balance.  While the banks had a relative small net position in 2012 the net position of the Central Bank, i.e the monetary authority, was –€91 billion at that time.  Since then the banks have reduced their reliance on central bank funding and the external position of the Central Bank has improved with that and stood at +€9 billion in Q1 2017.

Of the remaining sectors, financial intermediaries have a NIIP position of +€190 billion.  This, in large part, reflects the foreign financial assets of Irish-owned investment and pension funds.  The government sector has a negative position of –€129 billion representing the international nature of much of the borrowing it undertook in the crisis.  Add up all those and you get our underlying net international investment position of +€80 billion – which excludes the impact of NFCs (mainly MNCs).

So it seems the stocks as well as the flows in the Balance of Payments data is a positive indicator that continues to move in that direction.

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