Banking Crisis – Fiscal Crisis

The banking crisis has been the main focus of recent debate in Ireland while the fiscal crisis has received precious little attention. However, we are debating most a crisis we can now do little to alter. The fiscal crisis is where discretion still lies.   

In the election the debate was all about the bondholders in the banks. “Burn the Bondholders” was the easy political slogan. These “bondholders” were an easy target because they were anonymous and taciturn. Moreover, a decision to “burn the bondholders” was always outside Ireland’s control and thus politically there could little fallout from reneging on such a promise. It is now clear that the EU, our creditors, will not countenance such action. Suddenly there is no more “burning” talk.

Nonetheless the focus on the Banking crisis as the key to Ireland’s woes has continued. In the Irish Times on March 15 Professor Karl Whelan propagated the notion that if the banking issue could be solved, then all else would manageable. His proposed solution for the banks came down to the idea that the EU should shoulder some of the burden with the Irish taxpayer. That would be nice but is unlikely to be easily achieved. Nevertheless it might help if we recognised that there is very little that can be done about the commitment of the Irish taxpayer to the banks, except in the context of burden sharing negotiations with the EU/ECB/IMF. Bondholders, we can’t touch. Depositors we should be protecting but they are fleeing because we seem like a nation willing to renege on our debts. The ECB is taking the place of fleeing depositors by providing liquidity. So we have to deal with the ECB as a large and growing creditor.

Meantime, fiscal issues that are within the control of the Irish state have taken a back seat in discussions. This has been justified by saying that a lot has been done. While this is true, it also remains the case that a lot is still to be achieved. The urgency of dealing with the fiscal position is enhanced by the fact that the banking crisis has not yet found a plateau. Were Ireland at or close to a situation in which it did not need to borrow to for day-to-day public spending, then the ability to borrow to finance recapitalisation of the banks would be greatly enhanced. The only way our bargaining position in Europe will really be strengthened would be to achieve a position where we do not need to borrow for day-to-day spending. Then the talks could only be about the banks and we could meaningfully negotiate burden-sharing because the Irish banks, were they to fail, could spread contagion in the Euro area. However, as things stand today, Europe regards the Irish banks as belonging mainly to a profligate nation whose current income (taxes) is far short of its current spending (mainly public sector pay and social welfare).

The Budget for 2011 provided for current spending of almost €53bn in 2011. Of this, 36% is to go to public sector pay. Another 38% is allocated for Social Welfare.  The remaining 26% is the non-pay non-welfare spending of departments incurred carrying out the functions of Government.

Against this spending the State has projected revenues of only €35bn, allowing for the tax increases in the 2011 Budget.

This is the Irish fiscal crisis.

Current estimates of the cost of the rescue of the banks put it at around €50bn. It may be much higher when the results of the stress tests on the banks are published at the end of this month. However large the hit, it is a “one-off” blow. In contrast, the fiscal deficit is an ongoing cumulative crisis. We are adding the equivalent of the bank bailout to our debt every three years at the present level of the deficit. This is something we can change.  We have not lost that degree of sovereignty. But it will not be changed if there is no debate.

The new Government has pledged not to cut Social Welfare, even though we can only pay at current elevated levels by borrowing at 6% p.a. Social Welfare Benefits in Ireland are markedly in excess of those in the UK.

Public sector pay is not to be cut further because of the Croke Park deal to implement reform in the public sector. Yet Ireland’s public sector pay is amongst the highest in the OECD. Teachers’ pay  ranks fourth after S. Korea, Germany and Switzerland. Given the strict adherence to pay relativities by public sector unions, it is clear that we very highly paid public servants by international standards.

Average earnings in the public sector at the end of 2010 were more that €47,000 per annum compared to €32,000 in the private sector. Moreover, the average pay of public servants in the UK was less that €30,000 p.a. in 2010.

Ireland is borrowing at 6% to support a level of public sector wages more than 50% in excess of that in the UK, our main competing trading nation. By extension the cost of doing business in Ireland cannot become competitive until this significant disparity is addressed.

This is real political nettle to be grasped when clarity is obtained about the extent of the banking disaster.

Eunan King

March 19 2011