Monday, 29 November 2010 17:37

Ireland's Bailout Is Finalized, The Indebted Gets More Debt As A Solution But The Fine Print Is Glossed Over - Caveat Emptor!

As reported by Bloomberg: Ireland Wins $113 Billion Aid; Germany Drops Threat on Bonds

European governments sought to quell the market turmoil menacing the euro, handing Ireland an 85 billion-euro ($113 billion) aid package and diluting proposals to force bondholders to bear some cost of future bailouts.

An oxymoronic comment in and of itself since the market turmoil stems from excessive indebtedness of sovereign states and this event marks the dumping of $85 billion of debt on said indebted state.

European finance chiefs ended crisis talks in Brussels yesterday by endorsing a Franco-German compromise on post-2013 rescues that means investors won’t automatically take losses to share the cost with taxpayers as German Chancellor Angela Merkel initially proposed to the consternation of bond traders.

If bond traders were a tad bit more fundamentally analytical in their perspective, they would realize that the Germans were simply being forthright and honest about an inevitable truth. With the current debt load, Ireland will most likely restructure its debt by 2013 anyway. The German proposal is actually a marked positive in that the restructurings (read, "haircuts") would be uniform, universally agreed upon ahead of time, standardized across the board and known by all market participants - basically a sovereign prepack bankruptcy deal. The so-called "bond traders" as referred to by the MSM, are apparently reported to prefer the anarchy of piecemeal, default as you go, restructurings with no standardized form or fashion. Argentina, here we come!

Is it that some believe that if they stick their heads in the European sand and ignore the problem it will go away in due time?

The first test of the twin decisions came as markets resumed trading after speculation intensified last week that Portugal and perhaps even Spain will require support.

If Ireland continues to have the problems that I believe they will have, not only will Spain and Portugal face their market comeuppance, but other European countries outlined in my Pan-European Sovereign Debt Crisis series as well.

I have been 100% correct year to date, much more so than the more widely publicized pundits, investment bank analysts and the IMF/EU themselves:

  1. The BoomBustBlog Contagion Model: How We Predicted 9 Months Ago That The UK and Sweden Would Rush To Bail Out Ireland, and Why
  2. Merkel Points to `Serious’ Bailout Risk as Spanish Bonds Drop, Reggie Middleton says “Ya Damn Skippy” – Here’s How We Called It
  3. Erin Gone Broken Bank: The 2nd EMU Nation That Didn’t Need a Bailout Get’s Bailed Out Within Months, Next Up???
  4. If the World Knew What BoomBustBlogger’s Know, Would Ireland Default Today?

Six months after the Greek rescue exposed flaws in the euro’s makeup and fueled doubts whether 16 countries belong in the same currency union, policy makers again found themselves meeting on a Sunday racing to calm markets. They convened after a week in which the cost of insuring Portuguese, Irish and Spanish government debt against default rose to a record and the 10-year bond yields of those nations, Italy and Greece averaged more than 7.5 percent, a euro-era record.

The fact that those flaws have not been rectified should not be lost on the more astute market participants.

Germany, which built the euro on the principle of budgetary rigor, unleashed the latest phase of the crisis by demanding a “permanent” system as of 2013 that would enable fiscally troubled countries to restructure their debts and cut the value of bond holdings.

The German push ran into criticism from policy makers elsewhere, who called it mistimed, and from European Central Bank President Jean-Claude Trichet, who warned it would unsettle bondholders. Merkel, who has faced domestic criticism for aiding EU neighbors, yesterday backed away from the pitch for an automatic penalty, agreeing to give the International Monetary Fund a role in determining losses on a case-by-case basis.

The new proposal, fast-tracked from a debate set for December, would introduce “collective action clauses” for debt sold as of 2013, enabling fiscally hard-hit governments to renegotiate bond contracts. EU governments aim to enshrine it in the bloc’s treaties by mid-2013 and pair it with a new emergency liquidity fund to replace the one expiring then.

Trichet yesterday called the compromise a “useful clarification” and the ECB’s Governing Council said in a statement that the Irish program will “contribute to restoring confidence and safeguarding financial stability in the euro area.”

As I stated earlier, the German idea is actually superior for it enforces a standardized vigor of discipline against imprudent risk taking, both against the governing bodies of sovereign states and those market participants who choose to fund them both directly and indirectly. By allowing a piecemeal, "default as you go", subjective perspective, the problems of the Eurozone will not only continue, but may actually be exacerbated. You see, just as the article intimated above, there were major flaws exposed upon the onset of the Greek debt crisis, in that 16 distinct, disparate and individual nations were forced into one common monetary and economic system under a relatively strong, export based economic (Germany). This flaw, which in retrospect should have been very easily recognized, has yet to be addressed. As a matter of fact, by watering down the German initiative, the flaw may very well be exacerbated due to political influences - as I re-quote from the Bloomberg article...

The German push ran into criticism from policy makers elsewhere, who called it mistimed, and from European Central Bank President Jean-Claude Trichet, who warned it would unsettle bondholders

Piss off the effective monetary masters of the European Union "Unsettle bondholders" and long over due and quite appropriate although contrary to the interests of those who hold the leash of the entities that control the lives and livelihood of European citizens and tax payers "mistimed"... Indeed!

The folly of disparate nations forced into a single economic block under Germany that I opined on earlier in this missive is certainly no secret and is even mentioned in this very same article...

Germany’s export-led economy has powered through the euro crisis, with business confidence at a record high in November and the government projecting expansion of 3.7 percent this year, the fastest pace in more than a decade. That resilience contrasts with recession in Greece and Ireland, splitting the euro region between better-off countries in Germany’s economic slipstream and poorer ones on the continent’s fringes.

Exactly what does one expect to come of this, particularly considering the geo-political proximity and the interconnectedness from an economic and trade perspective?

Yesterday’s decisions bring “hope of preventing contagion spreading to other countries but do not address long-term solvency issues,” said Andrew Bosomworth, a Munich-based fund manager at Pacific Investment Management Co. “It’s a kick-the- can-down-the-road solution as opposed to acknowledging and confronting the here-and-now insolvency problems.”

As is customary, there is a blurb of practical and common sense. This guys has actually understated the issue. The following is an interesting excerpt from the article...

Ireland said it will pay average interest of 5.8 percent on the loans, which break down into 45 billion euros from European governments, 22.5 billion euros from the IMF and 17.5 billion euros from Ireland’s cash reserves and national pension fund.

Notice, how the statement is "average interest paid", and not a stated interest rate. In addition, a very material amount of the bailout is actually coming from the Irish taxpayer! That's right, Ireland is borrowing from itself by dipping into cash reserves (but then what will it use as cash reserves???) and its pension fund (which was most likely already underfunded) - to the tune of about 11% of total outstanding debt. Now, if Ireland does default (or restructure, as the fancy pants professionals like to put it) as I actually anticipate, then it is virtually a double whammy for the Irish taxpayer, and particularly the Irish pension holder. The indebted borrows from itself and then defaults. Fact is truly stranger than fiction, isn't it? In addition, one can be nearly assured that the interest rate paid to the Irish pensioners inadvertently being set up for the shaft is less than that being paid to the IMF, which is most likely how the "average interest paid" statement was able to come in at 5.8%. Is the Irish pension fund being used to reduce the blended average interest rate? These tactics (or dare I say, antics) are indicative of moves of desperation. Anyone who observes this and then turns around and says that things are NOT out of control are either disingenuous or arithmetically challenged. Here it is from Cowen, himself...

“I don’t believe there were any other real options,” Irish Prime Minister Brian Cowen told reporters in Dublin.

A day after more than 50,000 protesters marched through Dublin to denounce Cowen’s budget cuts to stave off financial ruin, the EU gave Ireland an extra year, until 2015, to get its budget deficit to the euro limit of 3 percent of gross domestic product.

Including the bill for propping up Irish banks, the deficit is set to reach 32 percent of GDP this year, the highest in the euro’s 12-year history.

About Great Britain...

Close banking links led Britain, a non-euro user that didn’t contribute to Greece’s 110 billion-euro rescue in May, to contribute 3.8 billion euros to Ireland’s package.

“That is money we fully expect to get back,” Chancellor of the Exchequer George Osborne told reporters in Brussels. “It’s in everyone’s national interest and it’s in Britain’s national interest that we get some economic stability in Ireland and indeed across the euro zone.”

I doubt they expect that. I believe they expect the money to help cushion the potential for an Irish "run on the bank" that will hurt their interests...


claims_against_uk.jpg

Ireland has the largest claims against the UK as a percentage of the its respective GDP, the largest in the world. In a rush to raise cash by selling assets, expect some fire sales in the UK. For those who may be wondering how this may affect the UK, see our premium subscription report on the UK’s public finances and prospects (recently updated to include the last round of government projections): UK Public Finances March 2010 UK Public Finances March 2010 2010-03-29 06:20:38 615.90 Kb. Of course, this is the reason why the UK rushed to Ireland’s aid. This inter-crossed aid will be prevalent over the next year with different sets of countries running to each other’s side. The focus is now on the contagion effect of Ireland, specifically (jumping on a monthly basis from Greece, Portugal, Spain, etc.). We have performed a lot of work in this area in the beginning of the year. Let’s borrow from our foreign claims model (icon Sovereign Contagion Model – Retail (961.43 kB 2010-05-04 12:32:46) and File Icon Sovereign Contagion Model – Pro & Institutional) in order to see who may be effected from the rush to pull capital out of extant positions to fill the leveraged NPA holes left by the banks…

I am putting the finishing touches on the Irish Haircut Model and will post it in a few hours. Between now and then, I will give an example of how those that are pushing this bailout are relying on (or actually betting on) the ignorance of the investing public, in general.

Close banking links led Britain, a non-euro user that didn’t contribute to Greece’s 110 billion-euro rescue in May, to contribute 3.8 billion euros to Ireland’s package.

“That is money we fully expect to get back,” Chancellor of the Exchequer George Osborne told reporters in Brussels. “It’s in everyone’s national interest and it’s in Britain’s national interest that we get some economic stability in Ireland and indeed across the euro zone.”

Last modified on Monday, 29 November 2010 20:16