In his first public speech since being made governor of the Central Bank, Patrick Honahan – one of the finest economists we have ever produced – sounded almost apologetic about our overvalued currency. He made the point that if we still had the Irish punt, our exchange rate with sterling would be 1.18 and getting stronger by the day.
The overvalued exchange rate is a crucial part of economic policy, but it is never discussed publicly. We trade in a currency that is sky-rocketing against our two main trading partners, Britain and the US. Nowhere in economic literature is there a theory that says a small open economy that is going through a severe recession will get out of it by having an overvalued currency.
In fact, the opposite is the case. We need a hyper-competitive exchange rate. We need an exchange rate that allows companies to export, rather than making it difficult for them. Yet the finest minds in Ireland are doing the opposite.
There’s little point talking about the smart economy and export-led growth if small companies can’t compete because our exchange rate is madly overvalued. This is the elephant in the room, so let’s recognise it.
The governor’s speech went on to say that, in the past, when we had higher unemployment because wages got out of line, pushing the exchange rate way too high, we simply devalued to compensate.
This is something that almost every ‘normal’ economy has done in the past (and is still doing) when there is a competitive problem – whether it was Finland and Sweden in the early 1990s, the Asian tigers in 1997/8 or Britain and America now.
In all cases, devaluations worked. The countries that didn’t devalue when in a crisis, such as Germany and France, have shown a disturbing tolerance of persistently high and enduring unemployment. I believe this tolerance of mass unemployment – to borrow the governor’s term – is a ‘fetish’.
There is an economic choice that countries make. Either you use your exchange rate to become competitive, or you use unemployment to grind down wages, so that you become competitive by putting people out of work who wouldn’t be out of work if you simply changed your exchange rate. In the process, you preside over an internal financial civil war over who is going to make the most sacrifices in order to become competitive again.
Honahan then said that, because of the euro, ‘‘it is crucially important to recognise that the old automatic stabiliser of real wages – depreciation of the exchange rate – has been put out of action (and for good reason)”.
The good reason is his addition. This idea that devaluations are so obviously redundant as to have no place in discourse has become commonplace in Irish economics.
The same logic in 1993 argued that a devaluation of the punt would be a disaster. The entire economic establishment (I know, because I was an economist in the Central Bank at the time) said that devaluation would lead to permanently higher interest rates, higher unemployment, lower growth and higher inflation. This, I assume, is the ‘good reason’ the governor is referring to.
Well, guess what happened after the 1993 devaluation? The economy took off and unemployment fell dramatically.
Exports exploded, interest rates fell precipitously, capital flooded into our country and inflation fell. It is difficult to see the professor’s ‘good reason’, not least because the devaluation worked perfectly.
Everything that economic textbooks said would happen, did happen. It ushered in the golden age.
Honahan refers fondly to the subsequent post-devaluation period from 1993 to 2000 and suggests that he would like to see the economy return to the state it was in 2000. Irish productivity was extremely high and, as he says himself, ‘‘Irish wages were arguably super competitive around 2000’’.
Honahan implies that, after 2000, it all went wrong, which is why he urges us to get back to 2000.Well, guess what was the big event of 2000?We had just joined the euro.
Joining the euro marks the beginning of the economic and financial delinquency that has led us to this horrible mess.
Almost from the off, the currency started to rise dramatically against our main trading partners. On average during 1999, the year we joined the euro, one old Irish punt got you 77 pence sterling. If we still had the punt we’d get £1.18 today – that’s an appreciation of 41pence in ten years.
This is a whopping appreciation of 53 per cent. Is it any wonder that our exports to Britain collapsed in the past ten years? Even so, it still remains our biggest trading partner. We have also seen the same appreciation against our other non-euro trading partners.
Just to get an idea of what that means, consider that we export €85 billion in total, of which less than €25 billion goes to eurozone countries. So two-thirds of our exports go to countries that our currency has appreciated hugely against, making us uncompetitive. For what gain?
If you have an appreciating currency and it is credible, your interest rates should reflect this. So, are we getting this euro premium? Well, no. British and US interest rates are much lower than ours and, worse still, we are penalised even within the euro.
Last week, the state paid 5.79 per cent for a 15-year bond issuance of €7 billion. The Germans are paying just above 3 per cent for the same money at the same maturity in the same currency!
Our ten-year bond is yielding 4.9 per cent – which is way over the German rate. What this means is that the market doesn’t believe us. The market believes that something negative is going to happen here in Ireland, which makes us risky. What could that something be?
This brings us back to the banks. The markets believe that Nama will not lead to a recapitalisation of the economy and, therefore, the recession will continue. Their analysis is based on simple incentive structure, which the corporate treasurers of our bust banks are faced with.
With Nama, the banks are getting money from the ECB at 1 percent, yet they can then buy Irish government bonds yielding 5.79 per cent. Why would they bother lending to a SME trying to export when they can get a free almost 5 per cent without ever lending a cent to a risky business? What would you do if you could get a risk-free trade of 5 per cent without even opening your doors?
Yes, you’d take the Nama money and invest it into the Irish bond market, thank you very much. But it isn’t really free money, because someone pays, and that’s us, the taxpayers.
Let’s take a bank treasurer who decides to buy Irish government bonds with the Nama money. If all the banks did this and re-invested the profits, they would invest the €54 billion and would get €87 billion.
This is total interest of €33.2 billion paid directly to the banks to finance the government.
To finance the Nama bonds at 1per cent, they’d have to pay €5.4 billion, but investing this in the government bond market gives them a clear after-financing profit of nearly €28 billion. To pay this amount, the 2.1million workers in the country would each have to pay an extra €1,583 in tax per year.
The banks can make a fortune in transfers from the taxpayer without ever lending to an exporting SME. This is what they will do. Why would you lend to an exporting SME when we are presiding over an exchange rate arrangement which is making it impossible to export?
Last Thursday night, I presented the Entrepreneur of the Year awards. I met dozens of brilliant people who are trying to do something about this recession, trying to employ people and get on with the business of fighting back.
Yet our establishment is betraying them, doing everything in its power to strangle them by sticking to an exchange rate in which no one believes. As unemployment heads for 500,000, you couldn’t make this up.
David, Yes: “Banks leave SMEs high and dry”.
The banks leave everyone high and dry and look after themselves – they should be left alone to do so and not receive another red centime from the taxpayer.
Remember the old joke about the bank, the rain and the umbrella?
Particle Impact Time Bomb ( Part 1 ) Cash Flow is like a Rythm and it’s experience is generated within a given area and by the people present .It is profound and uplifting and with a ‘ sexed up’ feeling of success and achievement .Sporting events like in Thomond Park , Music events like in Croke Park all imbue the magic that engross the audience . It starts and finishes within that area and is thus controlled only by those present .Thus Cashflow is the blood flow within us that gives us that ‘oops feeling’ of experience that ‘we did… Read more »
spot on David, but you’re missing the point… This suits the government…. This is a collapsing society where the elite have adopted the “last to starve” strategy….It suits them just fine that the banks will loan the money….. back to government… Because then, they can continue to overpay themselves and keep the relative advantage over those who are not in the bureaucracy… There is a financial civil war underway, but it is between those sitting at social partnership and those on the outside. This is a deliberate strategy to keep the insiders insulated from the recession until taxes recover or… Read more »
Particle Impact Time Bomb ( Part 11 ) A milli second is all it takes to complete and the Rythm is back in tune once more for another show on the road. The ALLEN Economic School Recipe is simple. Ingredients : Plate No 1 Central Bankers Banking Regulators National Treasury Management Bank Managers Plate No 2 ECB Precaution: No Political Spices are required otherwise the taste will go sour.Keep all Trade Unions in the other room and far away .No bearded persons can be allowed to participate. D- Rythm Technique Coordinated high velocity impact performance is essential to enable success… Read more »
Exports took off from the mid-1990’s not because of devaluation but because in the years preceding it; Ireland was getting 25% of US greenfield investment in Europe and from the entry of Intel in 1989, Dell in 1990, Microsoft significantly extending its software operations and companies such as HP, opening big manufacturing facilities, coinciding with the US high-tech boom, exports from these firms dwarfed SME exports. Have a look at the charts on this page, which show that the value of exports from domestic firms basically flatlined from 1991. The devaluation had no impact. http://www.finfacts.ie/irishfinancenews/article_1016593.shtml As regards the euro, I… Read more »
This is correct. The banks are commercial organizations. And they are doing what commercial organizations normally do. They are fending for themselves, and making profit. This is fine if the consumer is in charge. But in this case banks have enormous power, and are more interested in playing the stocks and bond market with the money. And besides they have a big hole of bad debts to hide from the regulators – now that the regulators are afraid of the general public. In essence the culture of banking being about power has replaced the need for banking as a utility… Read more »
David, why don’t you say straight out that Ireland should leave the Euro when that’s what you’re suggesting very strongly? The only other way of making the country more competitive would be to ruthlessly cut wages, including the minimum wage, leading to major deflation for a couple of years until Irish prices are in line with those of other Euro countries. This would have a similar effect to a devaluation. This could work if it were done in an organised way and had public support, but who could blame people for refusing to take so much pain and to trust… Read more »
How fast could we reconnect with the punt and devalue the currency and what are the big issues involved in that process?
It sounds like an idea so removed from where our government or even the opposition are right now that it’s economic fantasy – a good idea none the less :-)
Our biggest problem is that our government, our leaders are so used to having a European crutch that they are petrified of having to walk on their own, so much so that they lack the mental strength to try…
Of course apart from the finance/credit aspect to the SME sector, and the need to cover up the bank debt holes, we have the cost issue about the Irish economy. And the FF/GP/PD elements don’t seem to grasp this either…. Basically SME’s are being used as a sucker for the state. ICTU, IBEC, and listed companies on the ISEQ. The SME’s deal with stealth taxation, unfair state tendering, stupid costly regulation (like exists nowhere else in the EU), exhorbitant professional fee charging, and banks that ask to know everything about their business,and who might then give credit to a competitor… Read more »
David – keep up the good work.
Morgan Kelly, and Brian Lucey seem to have momentarily disappeared. Ireland needs them urgently.
I am confused here on cashflows involved in NAMA. Is it not the case that either Nama or the government will rise the 54 b for Nama on the open bond market and be charged 5.4 %, and then hand this money to the banks in exchange for the weed filled building sites (stressed assets). Nama wil then sell the assets at some point in the future in order to redeem the bonds and hopefully at least break even with the taxpayer making up the difference should there be a hole which there probably will be. So what do you… Read more »
The EURO is the elephant in the room. It should be got rid of. Take the pain of hyper inflation once it goes, but at least there will be light at the end of the tunnel. All those teachers with their villa’s in the med won’t be happy. But perhaps they can be asked to work a bit longer during the summer to fill in their times and cut back on Christmas and Easter breaks. I live in the UK now, and my eyes watered at the quotes I got in the last couple of weeks from an Irish accountant… Read more »
Lenihan has very limited room to manoeuver with regard to his monetary policy. The ECB will do whatever is necessary using QE to prevent deflation and will deal with inflation when it arises, possibly next year. I have just read a recommendation for a book by Tom Hayes called ‘Jump point: How Network Culture is Revolutionizing Business’ The reviews on Amazon give some useful pointers to the future although I haven’t seen the book in my local Borders. Hayes predicted the effect on the Bubble Generation back in early 2008, so like DMcW he was well ahead of the game.… Read more »
There are solutions to every problem as there are cleaning agents for every dirt .It just needs action otherwise war results .That is what history has told us.
Unemployment in Donegal is already 30%, just think how bad it will be in a year.Why does the Central Bank still employ hundreds of people to do nothing?.Quit the euro or perish/Iceland is starting to revive itself thanks to it’s depreciating currency.Ireland had no business joining the euro in the first instance.New Zealand and Canada haven’t adopted the Australian or American dollar-wise move, lucky they don’t have a buffoon like Garret Fitz sprouting euro nonsense all his long life.
John Allen the historical element of this is marked & important. The way this crisis is being handled here it’s is looking more & more like a repeat of the famine (during which Ireland exported food ~ NAMA how ya doin’?). The current leadership have constructed NAMA with lots of long term work but with a hard to believe ~ very short term ethos i.e.: “Just do it, there are no alternatives people ” & most importantly “Maintain the status quo”. To a point, this echoes our currency problems. But then why should we expect anything other than confusion &… Read more »
thanks for that econarchist.. Now I am no longer confused, just angry. What a swindle. Lets start using the right language to describe Nama. Call it for what it is , an act of treason, and prosecute the gulity parties on the basis of that, otherwise we just go round in circles debating the double talk. We could ease the credit problem with the establishment of a Credit System akin to Benjamin Franklin’s Colonian script or Abraham Lincoln’s greenbacks or JFK’s silver certificates (executive order 11110, he was shot before it got of the ground, would have put the federal… Read more »
So, could it be possible to negotiate a return to the punt for the Irish economy while remaining in the EU?
We need a cross the board 30% devaluation !
For years before, and subsequent to, our entry to the Euro zone we were being governed by the principles of a Bertie-McCreevy-Cowen Axis of Inanity. Among the arguments for adopting the Euro was its liberating effect in terms of our over-dependence on the UK and the greater fiscal and monetary discipline we were going to have to adopt in learning to live within a low-interest rate environment. It was not the Euro per se which was wrong but the way in which our economy was, and continues to be, mismanaged. We were not at the mercy of lower interest rates.… Read more »
I agree with MH above, there is no short term eureka moment – from my own experience, it takes about five years and a huge effort to make an impression in any market. Those of us who took the whole idea of the Euro seriously and went after the European markets ten years ago, are now sitting pretty. Most people preferred the easy life of US Companies providing technology, branding, market and jobs. Fortunately for a few of us, we didn’t have such a luxury ,as we haven’t had a government minister from our area, for decades. The mess that… Read more »
Keeping people in jobs and creating new exports by ditching the EURO is what’s required
Google, Microsoft, Intel and Viagra are about as much as Ireland exports now. Wake up to it.
Tesco and the likes won’t be buying many Irish mushrooms and butter to put on their shelves in the UK at Euro prices
@tony-murphy
if we were to decouple from the Euro now, we’d be bankrupt – the UK is set for a period of high inflation, so by this time next year. prices there may be close to ours.
@Original-Ed Gordon Brown is more incompetent than Cowen. I know that takes some believing, but he is. The UK economy is in a really bad state. Sterling isn’t going anywhere against the EURO but down if you ask me – well not until he gets kicked out of Office. That may not happen next year, the Tories are not trusted, they’ve changed the constituencies + Tony Blairs policy of mass immigration has diluted the Tory vote. There may be a coalition government. Ireland needs to be in control of currency. If it was, it would float to level necessary to… Read more »
Ditching the Euro misses the underlying point of why Ireland is in a mess. Pure and simply, it is down to mis management and greed. The stark fact that we are only exporting such a small proportion to Europe speaks volumes about our inability to work with modern cultures, our ineptitude as polyglots and our tendency to mix up concepts in exports. Bear in mind that the majority of our “exports” are US or Foreign National Investment led exports leveraging an assembly/logistics crew for complex organisations whose HQs will rarely be located in ireland because we have lousy infrastructure. Mismanagement… Read more »
The Governments approach to SMEs is nothing short of a scorched earth policy. I know of many business’s gone,or in the process of going to the wall. Between the pressure of the revenue, high wages and ludicrous rent agreements many companies cannot keep their doors open. The problem is that even if there was an end to the downturn many of these SME companies are so highly geared that they could never turn a profit unless the core issues are dealt with. We have €243 billion of debt in the private sector alone which is a hell of a lot… Read more »
cbweb says So, could it be possible to negotiate a return to the punt for the Irish economy while remaining in the EU?
Leaving the Euro will not effect our status within the EU
Let the renters overcharge and maintain their archaic ways of doing business. It’ll stop soon as the tenants dwindle. Capitalism and competition is just like that in the end. As for the Public Service…they are going to find that tax revenues will keep falling as well. I do not mind them being paid what they are paid for if it can be seen in terms of increased wealth to the nation and better quality of life for all here. Somehow, that seems not to be the case. Tim, you need to square the the circle…the economy is not just retailers… Read more »
David. On the money! (forgive the pun). The RISE OF THE PONZI REPUBLIC. Absolutely, is it so central to print and circulate one’s own currency, and Ireland is not, and you break it down into the facts, the facts and nothing but the facts. The Euro spelt financial suicide for Ireland and it pulled everything else into ‘the overvalued exchange rate’ black hole de-activating the competitiveness check and balance mechanism while opening the flood spigots of credit provision drowning the real economy in POnzi racketeering. ‘Joining the euro marks the beginning of the economic and financial delinquency that has led… Read more »
“As unemployment heads for 500,000 you couldnt make this up.’ Yep, it can only be but one thing, somebody somewhere is taking us all to the cleaners.” Whatever about the rights and wrongs of Politicos expenses or Public Sector Levys, the 500,000 (former Workers/Taxpayers/Citizens) are at the cleaners 6 weeks before Christmas. The Great Plan To Save The D4 Ass includes reinstating the Christmas Bonus to placate the Liberals(Greens) and recouping it via a fuel tax or some other foppery. It must be obvious to any knowlegeable person by now that Cowens leadership is putative only. As with all the… Read more »
Ireland is faced with an interesting problem and that’s for sure. The key to all problem solving is to identify as fully as possible “ what the full extent of the problem is”… 1. Banks over lending to property resulting in insolvency and that includes its borrowers in most part. 2. Banks over lending to general populace via credit cards, personal loans etc. 3. Government over reliance on income from Bank lending above. 4. Government guilty of “soft option” decision making for years i.e. throwing money at areas to secure re-election and buy peace for itself etc. 5. Bureaucratic structure… Read more »
Folks, Time Magazine has this article on our anger over NAMA (but includes many important links, as well).
http://www.time.com/time/business/article/0,8599,1932239,00.html
paddythepig, Do you write-off Taft, after watching this video presentation of the figures:
http://vimeo.com/7151345
…. as a “chin-scratcher”?
Do you write-off Morgan Kelly as a “chin-scratcher”?
It appears that the only economists in Ireland, that are advocating your position, are the ones employed by the private-sector banks that have failed and want the taxpayer to pay their employers’ gambling debts.
Why do you ignore the facts of the DoF press-release and the figures presented by Taft and, simply, decend into an attack on frontline public-servants?
David – I am getting little prickles of trepidation at what you are putting forward here. As per the guarantee, I wouldn’t underestimate how your ideas may be taken up by the establishment if it appeals to certain interests. As an economist, putting forward ideas like this, I think they deserve a more in-depth and careful analysis as to how they might turn out. It is not 1993. There are different variables in play and other considerations of significance to be weighed up. All I am saying is that some weighty economist like analysis would not go amiss at this… Read more »
Wrong in so many ways. You can argue that the best next step for the Irish economy would be for Ireland to leave the single currency, and devalue. Of course, to do so would probably cut us off from much if not all the financing needed to fill the current budget deficit (never mind NAMA) and the existing national debt – still denominated in euro, dollars, etc. – would explode as a proportion of GDP. But you can’t argue that the euro “led us to this horrible mess.” The failure has been one of public policy: keeping a lid on… Read more »
wills, all points above are correct; but that does not make it “right”. I remember whan we had our own currency in the last depression, in the ’80s. I remember friends of mine, as we left school, who had the academic qualifications for University and for a grant, but whose family income was £1.35 per week over the threshold. So they could not afford to go to University. The “brain-drain” was not just about emigration; it was also the lost intelligent youth prevented by financial class “thresholds” from achieving any further academically than the elite allowed. I remember “control of… Read more »
Tim, My only input is very simplistic. We had a great chance to be prudent and take our place but blew it. It was the Irish electorate that voted in the cretins who are still floundering around trying to save themselves. We did nothing about child abuse until it was far too late, we have tolerated decades long whitewash tribunals, we all spouted the Republic but let our own people suffer ethnic cleansing on our own Island, we put money into Gorta while despising the weaker in our own society. Then we got the chance to be something but bought… Read more »
In response to Michael Davitt, I remember as a child my mother telling me that I can be whatever I wanted to be in life. I followed her advice and got a Degree and Masters in an Irish University. I worked really hard for a number of years in the Irish Rat Race — trying to get from A to B every day, I watched as my work colleagues scrambled for manager positions in our two tiered society, where they felt safe and could go to sleep for the next twenty years. After work I would listen to people sickening… Read more »
What would happento our exports if the UK joined the Euro ?
Michael Taft is full of Hyperbole. I have no problem with 17k cuts in public jobs once they get rid of the Turkeys and Peacocks and not the real workers like the teachers and nurses. We have at least 100k of public service wasters at the moment that would be more productive if they didn’t get out bed in the morning. His citing of investment in technology is ludicrous considering our Government couldn’t manage a car boot sale. Taft’s entire argument appeared to be based on the multiplier affect, that while profound still has to be based in fundamentals which… Read more »
David, sometimes you really lose the plot. You may not have noticed, but the Lisbon referendum firmly established the fact that the people are in Europe, where the Euro is the currency. Precisely allowing fools the tools of power has landed us in the basket, and allowing more latitude for devaluation would precipatate the flight of currency out of the country and hyper-inflation of energy costs and food, which as you know are going to escalate beyond control. Our only long-term hope is within the Euro.
Furrylugs Your last mail touched the matrix of the Truth in Ireland today and it was well written . As you might remember I work in tax consultancy & accountancy and always involved in revenue investigations , audits and cab matters .Earlier this year I had to visit the office of a senior revenue inspector in a region that is nearer to you than to where I practice.I noticed the following : 1 Photos on the wall of newspaper front page of Foinse showing the inspector in Belfast ; and 2 Photo on the wall of inspector and Gerry Adams… Read more »
The one big flaw with NAMA is that there were no preconditions attached to the assistance given spelling out what the banks were expected to do in return for receiving guarantees and assistance. In fact this goes right back to the guarantees made last year. You would think that after a year that it would indicate that there was a need to attach preconditions to NAMA requiring that cash received be attached at first to lending rather than cash dividents to shareholders or unjustified bonuses to a failed leadership.
Iff12: I reckon the elites will do NAMA in whatever way suits their desired outcome.
http://www.businessworld.ie/livenews.htm?a=2500024
Looks like we’re back to death by 1000 cuts territory again.
Hi David, You raise two points in your article: > Either you use your exchange rate to become competitive, or you use unemployment to grind down wages, so that you become competitive by putting people out of work who wouldn’t be out of work if you simply changed your exchange rate. In the process, you preside over an internal financial civil war over who is going to make the most sacrifices in order to become competitive again. I beg to differ that is NOT about the exchange rate. We knew in advance BEFORE we joined the euro that we wouldnt… Read more »
MK1 – David said in his article that only 25% of our exports goes to Euroland – if it were 75% we’d be in a much better position. The problem with reducing anything in the economy is our overhanging debt and borrowings in Euro. If our GDP goes down, then our borrowing must also come down to stay within limits. The only solution would be for us to up our game and produce premium class products and services for which the Europeans would be prepared to pay top Euro – the BMW, Mercedes, approach. Building such a perception, however, would… Read more »
Posters.
This link must be viewed.
http://www.progressive-economy.ie/2009/10/shock-news-entire-4bn-fiscal-adjustment.html
If debates on Gov cuts to shore up shortfall is to be conducted rationally one must view this link.
The shortfall in gov exchequer finances the serf class are been tapped into for to plug is mostly due to the funds provided for for ANIB, a crony investment zombie bank gone bust..???
There’s an interesting comparison between what went onn, on Wall St. and what is happening in Ireland. Wall St. took Mortgages etc. that should never have been given out in the first place and lumped them in with good loans, they had these entities rated by the rating agencies up to AAA status and then sold them on to investors, paying out interest on same. Now in Ireland, FF et al have decided to take Bank loans that should never have been out in the first place, and lumped them in with Irelands good standing Internationally in terms of debt.… Read more »
This is good, slightly over produced but content is excellent and same as David’s…. I think it would be worth this going viral so tweet, Digg, Stumble, just get it around…..
Zeitgeist Orientation:
http://www.youtube.com/watch?v=HVrHtbSo11I
Here’s another link for the same content:
http://www.youtube.com/watch?v=II8N7QPvNhw