Monday, December 14, 2009

The Budget

Well! The Irish Budget which promised draconian cuts in expenditure certainly lived up to expectations with most of the burden falling on public servants and welfare recipients. Naturally both Trade Unions and members are extremely angry as a result. However the important question that really arises relates to the existence - if any - of more palatable alternatives.

From one perspective I actually applaud Brian Lenihan for at least having the guts and leadership qualities to follow through on what he considered necessary and yet which was bound to be highly unpopular among large sections of the population.

And indeed there is a valid case for the measures he took. Overall expenditure is way out of line with revenue receipts. Also surveys show that public sector pay in general is much higher than the private sector in an economy that is seriously lacking in competitiveness. Quite simply the price of most products and services is excessive at present in Ireland. Likewise due to an actual fall in inflation during the past year, the real value of welfare receipts has increased. Thus there was a good case to tackle such expenditure.

Unfortunately Ireland is now heavily dependent on satisfying international opinion on how to address our problems. The Minister can justifiably argue that bond charges would be much higher if harsh measures were not now taken. Likewise investment from multinational investment e.g. manufacturing and finance) which comprises 90% of Irish exports could be badly hit in the absence of such tough measures.

However there is a deeper issue that has not yet been directly addressed in the ongoing debate in Ireland.

Due to our attempt to achieve rapid growth the economy is now greatly mortgaged to the sentiment of outside investors and domestic wealth creators representing together a somewhat extreme version of the liberal capitalist ethos. Therefore over the past 15 years or so Ireland has cultivated a wealth friendly ethos (as the cost of maintaining growth).

However this has been greatly at the expense of social justice. Though inequality was indeed worsening during the Celtic Tiger years, this could somehow be ignored as long as the greater mass of the population could aspire to an improved standard of living.

However now in the recession the patent injustice of what has been happening in our midst has become all too apparent.

Higher paid groups are intent on maintaining their great privileges (e.g. hospital consultants) while so many others desperately struggle to make ends meet. Meanwhile the Government in its attempt to reassure the "wealth creators" has immediately returned to its customary policy of appeasing them at every turn.

The clear implication of all this is that the very model of capitalism that we are now seeking to promote is proving itself quite incompatible with acceptable notions of social justice. One indication of how serious things have become is the threat of the police to go on strike action (even though this is illegal within their rules).

We are now facing a period of growing unrest and disruption that - if we are not careful - could spiral out of control into lower forms of social anarchy.

What we are actually seeing now is as Marx spoke about all those years ago "the inherent contradictions of capitalism". We are now facing growing global threats on many fronts e.g. financial system and the environment. Meanwhile social unrest is likely to grow in many countries.

In short we need a more integrated approach to economic life (where moral values are seen as inseparable from actual decisions taken). Unfortunately powerful vested interests are likely to resist this need for some time to come thus increasing the chances of truly enormous problems developing within the system.

Tuesday, December 8, 2009

Welfare Fraud

"Prime Time" last night on RTE dealt with the issue of social welfare fraud.

The total Social Welfare bill in Ireland is currently running at over €20 bl. per annum with at least 10% of this relating to fraudulent claims. Thus at a time when stringent cuts in expenditure are required we have a massive case of over-spending that simply is not being properly addressed.

Unfortunately to a certain extent we have long had a mentality - no doubt relating to our colonial past - that leads to a lot of petty fraud. Many people while paying lip service to the system do not really respect it. So if telling a little white lie, or indeed a big major lie (and perhaps many such lies) helps people beat the system in some way they feel justified in doing so taking comfort from the assertion "Well! isn't everyone doing it?

In a recent survey for example it was found that up to 70% of people taking out car insurance in one county had lied in providing information. Many who are self employed or working unofficially in the "black economy" feel perfectly relaxed regarding undisclosed income. And as this programme demonstrated there is widespread abuse of the welfare system taking place.

Personally I believe that the the phenomenon of the Celtic Tiger has greatly contributed to a lessening generally of moral standards and to creating a culture of waste (which rapid economic growth only encouraged).

Thus there is a high tolerance of "ripping off" and in turn being "ripped-off" by the system in Ireland.

One of the reasons why there is now so much resistance to pay cuts despite the very high level of income per capita here (in official estimates) is that prices are unusually high for a wide range of goods and services. Though much of this does indeed reflect the higher level of costs generally prevailing, a considerable amount is due to a culture that dramatically escalated during the Celtic Tiger where over pricing e.g. in housing market, retail stores and restaurants was readily accepted (without much question).

Also it has become apparent that where the same company is selling goods - say in the UK and Ireland - that a premium is generally applied to the Irish price (unrelated to cost, tax or exchange rate considerations).

It is true for example that Ireland is still a very high wage economy. However the cost of living is also unduly high (which negates somewhat this advantage). It would be much better to have a lower wage economy with a corresponding lower cost of living.

As Ireland depends crucially on trade, success here (especially for indigenous firms) will require a much higher degree of cost competitiveness.

If for example wages fell over a period by 20% and the cost of living also fell by 20%, our livings standards would remain unchanged. However crucially, we would then be in much better position to successfully compete both in home and export markets.

Trade Unions especially would need to grasp this reality. Of course social justice requires that income be distributed more equally. However a fundamental fact remains that costs are too high in Ireland both in the private sector and in Government (as for example with social welfare).
There is no point in continuing to deny this reality. Common sense dictates that we now decisively deal with the issue.

Wednesday, November 18, 2009

Patent Nonsense!

The Health Minister, Mary Harney has mentioned a new proposal (likely to be included in the forthcoming Budget) regarding the making of a nominal charge (50c) for every prescription.

As well as providing some additional revenue to the Exchequer this would perhaps have the benefit of discouraging many freely availing of prescriptions (on the Medical Card) which they don't subsequently use. It is estimated that up to a quarter of the drugs dispensed by pharmacies in this way are wasted!

However there are more serious issues that need to be addressed.
A critical matter relates to the fact that the cost of drugs in Ireland is exceptionally high compared to other countries.

One important contributing factor relates to the excessive mark-up enjoyed by pharmacies for dispensing drugs. In fairness this was addressed earlier in the year by the Minister leading to a tentative compromise resolution with the pharmacies in August.

However the key factor has not yet been addressed which relates to the exorbitant amounts paid by the HSE (as the National Purchasing Agency) to the drugs companies.

Two reasons have been put forward for this problem.

1) The practice still predominantly exists in Ireland whereby medical practitioners prescribe patent drugs (which generally are much more expensive) rather than their generic substitutes (which become available after the initial patent period expires).

Apparently in the UK more than 50% of drugs prescribed are of the generic variety (whereas in Ireland it is down at around 10%).
So clearly much more should be done to persuade doctors here to prescribe generic rather than patent drugs whenever possible. (It should be borne in mind that generic substitutes are not inferior to the patent brands!)

However there is another problem here. Doctors will maintain - perhaps correctly - that in Ireland that often there is no appreciable price difference as between patent and generic varieties. Therefore in many cases they lack any real incentive to prescribe generics (even when available).

So the real problem in Ireland seemingly relates to the fact that the HSE pays far too much for its drugs (and especially for generic substitutes).
Indeed it appears that the cost to the HSE of buying some of these generics runs at 16 times the corresponding cost to the UK authorities (which is totally ludicrous).

Even more ludicrous is the attempted explanation by the drug companies of this vast price discrepancy on the grounds that they cannot obtain the same economies of scale (presumably in relation to distribution) with respect to Ireland as in the UK market.

Now the HSE say that their hands are tied as the current agreement will run till next next September.

However though some concessions on price will possibly be made by the drugs companies in new negotiations with the HSE, I would confidently predict that we will still be paying considerably more for the same drugs than our UK counterparts.

One would of course like to offer a real explanation here. On the face of it - presuming that the HSE's account is accurate - the drugs companies are in breach of competition law (as they are enforcing a clear case of blatant price discrimination with respect to two EU markets).

Why therefore has the HSE not asked the EU Commission to investigate this case which could have far reaching implications? I am aware that there is on-going case involving EU Competition Policy in relation to GlaxoSmithKline which was seeking to prevent discounters obtaining drugs from Spain (where prices are generally lower than in the UK). The pharmaceutical industry would maintain that such price discounting - it it were to become commonplace - could eventually erode justifiable profit margins on drugs. However, whatever the merits of this argument it cannot justify the blatant price discrimination they operate with respect to the Irish market.

One obvious remedy would entail that a Central agency (within the EU) in future would negotiate directly with the drugs companies purchasing on behalf of all EU countries. Then having afforded the pharmaceutical industry maximum "economies of scale" in this fashion (and with due regard to acceptable profit margins for the manufacturers), it could then distribute to national agencies in accordance with agreed allocations. Failing that, if manufacturers persist in their exploitation of the Irish market, authorities here could seek to purchase drugs from other EU markets (where prices are so much lower).

However precisely because these options have not been pursued in Ireland (despite such massive price discrimination) I suspect that another explanation must exist.

I have often argued on these blogs that the Government has effectively followed a policy of appeasing multinational investors at every turn. Because such investment has become so vitally important to the economy it is then loath to take any action that might incur possible disfavour.

In particular the chemical and pharmaceutical companies dominate the landscape in Ireland with over 60% of all merchandise exports now coming from this sector. As argued before, this sector offers special advantages with respect to tax diversion activities which perhaps explains the considerable extent of their presence. Indeed many of the drugs prescribed by the doctors are produced by subsidiaries of these same pharmaceutical companies located here in Ireland.

It is the very dominance of such companies with respect to the economy that gives them great bargaining power. And this power has been been apparently used to extract a far higher price for drugs here than in other markets.

Sooner or later we will have to recognise this elephant in the room i.e. multinational activity and how both directly and indirectly it is effectively determining so many of our economic decisions (greatly limiting in the process any genuine exercise of freedom).

Thursday, November 12, 2009

Taxing Wealth

There is a great deal of unrest with much simmering anger evident in Ireland at present. The economy is in deep recession with borrowing rapidly mounting (both in the public sector and private households).

Meanwhile the Government is making preparations to bring in a draconian budget which threatens to depress living standards further for those already struggling to make ends meet.

How have we got ourselves into such a mess? Also what is the best way forward in such trying circumstances?

On the face of it per capita income in Ireland is still very high and - indeed - well above the EU average (which - by world standards - remains a highly privileged area). Yet so many people genuinely seem to be faced here with real financial worries and potential hardship.

There are indeed many possible explanations for this.

Firstly, because of the highly artificial nature of the Irish economy. which is so dependent on multinational activity, official figures overstate true per capita income.

Secondly the cost of living is very high in Ireland - and exceptionally high - in relation to many basic services. Also because of the excesses of the Celtic Tiger, services that are provided - at inflated prices - are often of low quality.
In many cases therefore consumers could expect to get much better service for less in other countries.

Thirdly the spread of income and wealth is very uneven in Ireland with a small untouchable minority pocketing the lion's share of the gains of the Celtic Tiger era.
Furthermore the culture has evolved to offer privileged protection to this minority.

Fourthly, in the latter phases of the Celtic Tiger an explosion in credit took place. This meant in effect that it became widely acceptable to live well beyond one's means. As much of this credit creation was related directly to the financing of property, people took comfort from short-term gains in wealth (based on the escalating value of such property).

Meanwhile the financial institutions were liberally throwing money at both developers and consumers alike in a desperate attempt to maintain a continuing property bubble.
Thus now that the bubble has burst, many who had become over-commited financially are greatly exposed with negative equity growing on their homes and debt payments mounting.

Also the general standard of living has sharply contracted within the last two years and unemployment has soared.

And just as the boom distributed gains in a very uneven fashion, likewise the recession is now distributing pain in a similarly uneven fashion.

For a considerable minority, life still remains very comfortable. However major adjustments are now being forced on large sections of the population with genuine hardship looming in many cases.

At government level a chronic hole in the public finances has emerged with current expenditure massively exceeding revenue intake. In simple terms at present we are spending €3 for every €2 taken in revenue (a position which obviously cannot be sustained.)

So the clamour now regards the prospect of sharp cuts in expenditure allied to further increases in taxation.

Understandably much attention has focused on the higher income earners with many suggesting that they should bear the brunt of taxation.

Now it is certainly true that unnecessarily large amounts are paid at the top end of the public service e.g. to well known broadcasters, executives of state companies and agencies, secretaries of civil service departments. Also the state has been in the habit of paying ludicrously high amounts to consultants and advisors for legal and financial services.

And in the private sector not everyone is facing the brunt of tough competition with many professionals e.g. dentists, consultants, lawyers and accountants quite expert at maintaining their customary privileges.
In particular, the unjustifiable rewards pertaining to senior management of the major banks - who failed us disgracefully - remains a special bone of contention.

So certainly, much higher marginal rates of taxation are justified on the top income earners.

Unfortunately even with such measures are imposed, are we likely to see a major dent in the public financing gap. Also, they are unlikely to have any real impact on the distribution of wealth in our society.

Those who are most wealthy generally do not derive their gains from accountable income. Rather they are likely to be prominent business people who hire tax experts for the specific purpose of avoiding tax. And if this requires becoming "tax exiles" as for example with Denis O'Brien and U2 well so be it! Also considerable "super-normal" profits were made by many entrepreneurs e.g. large developers during the boom. However remarkably little information is available both as to to the extent of such earnings or as to their subsequent use.

So this is the real problem. The whole success of the Celtic Tiger was built on cultivating a wealth friendly ethos in Ireland. At one level this applied to the multinational companies (e.g. IT companies and financial services) where a low corporate tax and undemanding regulatory environment were skillfully used as the primary means of their attraction.
Also everything possible has been done in recent years to facilitate domestic wealth creators through offering numerous tax breaks and allowances thus increasing their power, status and privilege in our society.
Putting it bluntly, we have created a culture over the past few years which has sought to appease the wealthy and privileged in our society at every turn. And when all appeared to be going well with the economy, this was not really questioned despite the growing inequality that it actually fostered in our midst.

Now however that the bubble has burst, a dramatic clash in cultural values has emerged.

The root problem with the Celtic Tiger related to wholesale acceptance of the most dubious capitalist ethos which fostered profit, greed and monetary success as positive virtues. Though traditional community based values of service to the common good became rapidly eroded in the process, this was easily overlooked in an increasingly materialist culture where the majority could aspire to be winners.

Not only are we greatly in debt financially (both in private and public terms) but in a deeper sense we are spiritually in debt due to eagerly embracing a false set of values. These are serving us very poorly indeed in dealing with this present crisis.

Just look! Though there is now a truly great need to come together in a spirit of genuine solidarity, all that one can see is group after group attempting to look after their narrow sectional interests.

Thus the present crisis is really one relating to values. Having ignored the basic issue for so long, we finally have to ask ourselves this question. What kind of society do we really want here in Ireland? Do we wish to embrace gross materialism where monetary gain is pursued above everything else or one based on true community values (though this may risk a considerable drop in economic prosperity)?
At the moment, unfortunately we have merely the pretence of seeking the common good while remaining firmly locked in a materialistic culture. Until this issue is faced, no real solution to our immediate economic problems will be attainable.

So in the end, how we should deal with wealth depends on the kind of society we wish to choose. We now need to honestly face up to that choice!

Wednesday, October 14, 2009

Lack of Competitiveness

I have considered for many years that the Irish economy suffers from a fundamental lack of competitiveness. Unfortunately this was persistently ignored during the crazy property bubble years of the 2nd phase of the Celtic Tiger. So what was misleadingly trumpeted then by politicians as "inherent strengths" of the Irish economy e.g. continuing high growth and employment were in effect hiding the true reality of a highly artificial economy, with bad value and poor work practices evident in every sector.

One of the unchallenged assumptions that was made here was that removal of barriers in the EU internal market would in itself guarantee competition in Ireland.

However for a number of reasons this argument is highly suspect due to grave faults with respect to the way the market operates.

Though the market works better in relation to freely traded goods, even here major impediments exist. For example Governments prevent cars being freely imported from lower price jurisdictions. So apart from differing road regulations here favouring right hand drive cars (as opposed to left hand drive on the Continent) hefty regulation fees have been put in place to deter direct customer buying from other EU states.

Then well known prescribed drugs (such as for blood pressure and cholesterol) are available in other EU countries for as little as 1/10th of the price of what is charged in Ireland. However rigid prescription practices are deliberately used to deter customers availing of much lower prices elsewhere.

Also many products for which the economy is inherently suited to produce, sell at especially high prices in Irish supermarkets e.g. bottled water, yogurts and cheese.

Ireland is a small economy that - apart from Northern Island - is geographically isolated from the rest of Europe. Thus when the price of bottled water is pitched at an outrageous level, the consumer is left with the option of either directly importing from another countries, which due to the bulky nature of the product is impractical. Alternatively one could travel to Northern Ireland which can be time consuming and inconvenient (creating its own additional expenses). So where goods are perishable such as food, or alternatively bulky of relatively low value, little competition can be enforced on domestic sellers. Then as all can mutually benefit from maintenance of high prices, an effective cartel is often then operated by the oligopoly sellers.

The situation is even worse in the provision of services. Dental charges for example are wildly excessive in the Republic again through high costs and collusion amongst providers. One is therefore forced to travel to another jurisdiction to avoid such charges. However this involves additional travel costs, a considerable amount of inconvenience and problems regarding effective follow-up.

One could argue that the answer is to encourage outside service practitioners to set up in Ireland. However there are considerable difficulties to this as the EU still does not provide the same rights of establishment to service providers.

The services sector is now the most important, both in terms of output and employment throughout the EU. So one can realise the restricted nature in practice of competition.

So the Irish economy as an isolated geographical entity on the West of Europe is most easily able to avoid the rigours of competition. As so many services are consumed locally, there is little need to match prices in other member countries. And where the domestic market is concerned local competition is often avoided through cartel type arrangements between providers.

Likewise many goods providers are insulated from foreign competition through prohibitive costs and time delays with respect to the importation of foreign products. And once again because of the small size of the market, it is much easier for sellers to operate informal cartels and price fixing arrangements which distort competition further.

And as over 90% by value of exports (goods and services) comes from multinational subsidiaries located here mainly for tax advantages, to a considerable extent we have been able to ignore the problem of competitiveness.

As measures to tackle this issue would indeed prove unpopular among sellers, the Government has so far largely evaded the issue.

Due to the damaging effects on sales, the deep recession in the economy will gradually take care of competitiveness for many firms in the private sector. This problem is further compounded for indigenous exporters by the current high value of the euro against sterling and the dollar. However far tougher implementation of competition regulations is required with respect to many service providers e.g. doctors and dentists, as we cannot maintain a model whereby practitioners here continue to enjoy unrealistically high earnings.

The Government should also introduce a specific regime to continually monitor costs and prices in various sectors (both over time and in comparison to other EU countries). The very fact of making the information publicly available would serve to highlight key problems thus causing pressure for change. Also campaigns focusing on special anomolies would be in order.

A particular difficulty exists with respect to public services. Payment here e.g. in health and education is out of line with rates in other EU countries and also with private sector pay in Ireland. We have allowed this problem grow during the inflated riches of the Celtic Tiger. The problem is that many people have entered into financial commitments based on this lax approach which then creates considerable resistance to any proposed reforms. This is worsened by a patent lack of social justice whereby privileged groups such as politicians, judges, bank directors and hospital consultants seek to live by different rules than those that apply to the rest of the community. So this issue will create distortions in our economy for some time. Public sector unions enjoy an unduly powerful role in Ireland (effectively acting as coalition partners) largely because of weak government. So when demands for pay cuts and reduced numbers are made the unions will stoutly resist. And then I expect the Government to back off making cuts to capital rather than current expenditure.

This is a sure recipe for continued recession in the economy with short-term recovery highly unlikely.

Of course competitiveness involves more than just consideration with unit wage costs. Largely because of our reluctance to properly face up to the cost issue, many seek to promote Ireland as "the knowledge economy" presumably concentrating on high skilled activities where pay competiveness would not be so important. However there is considerable delusion in this. So far Ireland's competitive advantage largely springs from artificial tax provisions. Also other countries will quickly see the benefit of developing the "knowledge economy" with much lower costs.

So we need to stop fooling ourselves. We have been trading for years off artificial advantages i.e. low corporate tax and the propery boom and in the process lost any real compass as to future directions.
We need to quickly get back to basics i.e. low costs, hard work and genuine pride in the country. Even then we will need all the ingenuity at our disposal to develop new competitive strengths that can serve us well into the future.

Friday, October 9, 2009

Dealing with Recession

There is little doubt that Ireland is in the grips of a deep recession at present. The inflation rate is currently - 6.5% (on an annualised basis) and real output could fall by 10% this year.

Because liquidity is so tight with banks at present many small and medium sized businesses are finding it extremely difficult to survive. In deed it is heartbreaking to hear on programmes like Joe Duffy's "Liveline" the incredible pressures that many of these are now, with unpaid debts mounting and the prospects of survival looking slim.

We all know the reasons why banks are refusing these firms credit. Because of the huge losses they have suffered from wildly speculative lending during the property boom, their balance sheets are now in a bad way. Therefore they have a vested interest in preserving money to meet uncertain future liabilities, rather than lend it to stressed businesses in the midst of a recession. And despite all the efforts of the Government here at capitalisation and taking the riskiest loans off their books, this situation is likely to continue for some time.

To get credit flowing sooner rather than later in the economy, the state itself needs to take responsibility by setting up its own bank precisely for such purposes. It is ironical that we used to have two state banks i.e. ACC and ICC in the economy until quite recently. Though these had become more commercialised in any case before privatisation, their original purpose had been to provide credit to businesses (where full commercial criteria would not apply).

In a sense this is precisely what is required now! The (private) banks will argue that they are open for business and willing to extend credit. However quite clearly in the current economic climate very few enterprises can match the tough criteria they are setting. Therefore many businesses that are starved of credit are on the very brink of failure.

Therefore because the existing banks are not likely to extend such credit, the only way it will be made available is through a government willingness to make up the shortfall. So quite simply an urgent need now exists for such a bank to be created. Though a large number of businesses are probably bad bets at present and should not receive assistance, many others with credit more easily available, could indeed have a reasonable chance of survival.
And we need to consider the multiplier aspects of all this. Each business that fails puts more workers on the dole. So there is a price for the government to be paid through additional social welfare payments and loss in tax revenues.

Once the economy has properly recovered with banks finally returning to "normality", the activity of the state bank could be wound down considerably. However it would be a good idea to keep it in existence in the event of a further baning crisis arising in future.

The other possible option for stimulating economic activity would come through the old Keynesian approach whereby the Government would directly increase its own spending in certain selected areas. However there is a problem for Ireland in all this in that we no longer have our own economic destiny in our hands. So whatever measures we take have to receive the broad approval of our EU masters and international financial markets. And given that state finances are out of control at present with expenditure greatly exceeding revenue, Keynesian prime pumping (however well intentioned) might not meet the necessary approval.

Above all Ireland has to tackle a severe loss in competitiveness due in large part to the excesses of the Celtic tiger. It would be better if we took the necessary courageous steps here in a voluntary manner. Failing this it will indirectly be forced on us in any case through a continued long contraction in our economy.

Thursday, October 1, 2009

Tentative Recovery

It was fascinating following the three BBC Money Programmes on the financial crisis following the collapse a year ago of Lehman Bros.

My gut instinct at the time was that the situation was gravely serious. I indeed considered for how long money could be withdrawn from bank deposits and whether the Government here would be able to maintain payment to public sector workers. Then when the system survived I began to wonder whether my initial fears represented an over-reaction.

Viewing however the re-enactment of the Lehman collapse and the great uncertainty which followed, I can now see that my fears were indeed well grounded with the international financial system literally hanging on the edge of a precipice and the very real threat of total collapse a genuine possibility.

Now a year later we are beginning to hear optimistic noises regarding the prospects of economic recovery. Today for example the IMF has forecast an overall drop in world output of just 1% for 2009 with a return to a very respectable 3% in 2010. Even here in Ireland - where the recession has been especially deep - unemployment figures have unexpectedly stabilised with one stockbroking firm predicting a 4% growth rate in 2011.

While such upbeat news is indeed welcome after the doom and gloom of the past year, I think we should remain extremely wary. In effect once the seismic events of September 2008 unfolded, the international banking system was placed on life support by governments around the world with no guarantee of survival. Now, though showing welcome signs of recovery, the patient still remains on life support. So even if the recovery continues, considerable damage has been already done to health with the possibility of all sorts of future complications arising.

I have long maintained that the fundamental weakness of the capitalist system as we know it is the manner in which an attempt is made to treat it purely in mechanistic terms thus divorcing economic events from the moral responsibility of those involved.

One manifestation of this problem is the manner in which short-term decisions based on immediate economic benefits greatly outweigh wiser longer term consideration of what is truly in the collective interest.

Thus we have seen the rapid growth of a deregulated financial system based on greed and fuelled by speculative profits.

It is generally believed that the sub-prime crisis was the direct cause of recent financial problems. However the problem is much deeper than this.

Success in the goods economy requires product offerings that may take a long time to develop. Thus a period of hard graft and initial loss often precedes the making of significant profits (where these occur).

However the financial sector offers the opportunity for vast profits in a short time frame through purely speculative trading.
Thus in order to extend these speculative opportunities more widely, financial operators - greatly assisted by light touch regulation - have in fact been busily constructing, through complex financial products, a giant pyramid scheme. They were thereby creating the illusion that risk could be largely eliminated from financial decisions.

Because financial activity has become so free of regulation, a virtual monster has been created, which through its voracious appetite, can gobble up the real economy. In other words no clear correspondence exists anymore as between the real and financial economies with the total nominal worth of financial products vastly exceeding the value of goods produced.

Thus the financial system remains extremely vulnerable to further severe crisis. For example real interest rates were already too low before the recent crisis which in many ways served as the root cause of what eventually folded. Now in an attempt to deal with the credit squeeze that unfolded in the aftermath of the crisis, central bank interest rates have been lowered further to virtually zero in the major markets. And this is a sure recipe for future trouble. Given that confidence has already been so greatly weakened, the next great crisis could have even more damaging consequences.

There is a related problem with respect to growing environmental problems on our planet. These have arisen through the manner in which short term economic concerns with profitability continually override concerns with the long run sustainability of resources. Oil reserves have now peaked though potential demand will undoubtedly increase for some time. Also climate change strongly related to Co2 emissions could among other effects have major consequences for future food production.

It could well be that a significant environmental threat - with potentially vast economic implications - will coincide with the next great financial crisis.

Perhaps then we will finally realise the fundamental weaknesses that were always inherent in our capitalist system.

Ireland's Hidden Tax Bubble

The success of the Irish Celtic Tiger (1994 - 2008) can basically be divided into two main phases. The first more successful phase witnessed a tremendous expansion in multinational corporate investment in Ireland (largely of US origin). Exports were the main driver of growth during this period dramatically surging from less than €30 bl. in 1994 to over €90 bl. (current prices) by 2000. For anyone who studied these figures an alarming trend however was in evidence post 2000 with merchandise export growth completely stalling. So present figures are now lower (even in current price terms) than almost a decade previously.

Though there were worrying signs in evidence by 2000 that the property boom had already grown out of control, such fears were quickly disregarded. So after a brief slowdown lasting a couple of years (2001-2002) - the second phase of the Celtic Tiger took off almost entirely fuelled by a hugely artificial property bubble.

As we now are now slowly coming to terms with the dire consequences of such madness - greatly aggravated by the international financial crisis - potentially an even greater problem for the long-term stability of the economy lurks in the background. This relates to the nature of multinational activity in Ireland which is largely based on the artificial tax advantages that the country currently offers.

It is hard to overstate the extent to which these multinationals dominate our economy.

Ireland - as is well known - has one of the most open economies of the world so that when the value of merchandise and service trade is combined exports amounts to well over 80% of GDP (and nearly 100% of GNP). Over 90% of the total value of these exports comes from multinational firms. About 70% of these multinational exports in turn relate to US corporations with the vast bulk of activity in the IT and chemicals/pharmaceuticals sectors.

When one examines closely the precise reasons why Ireland is so attractive for these firms, artificial tax considerations loom large. For example research based activity is very important with potentially huge profits to be made from a successful new product (e.g. software or drug). Though most of the research in many cases is carried out by the parent company in the US, because of the much lower corporate tax system in Ireland, a considerable incentive exists to shift much of these profits to the research division in Ireland (so as to avail of the lower tax rates).

Also license fees would comprise the major bulk of earnings for a software company such as Microsoft. As there is no tax on such fees in Ireland, again this offers a reason to route most profits - made on earnings throughout Europe - through Ireland. As mentioned before on these blogs, Microsoft uses little known subsidiaries Round Island One and Flat Island for such purposes. Though these now enjoy an unlimited status, Round Island One in all likelihood remains by far the most profitable company in Ireland (operating from the offices of a South Dublin legal firm).

When one looks at the level of profits and license fee income transferred from Ireland, the figures are truly staggering. With profits repatriated currently running close to $30 bl. and licence fees at over €20 bl. per annum, a combined total of about €50 bl. is thereby generated in this manner (representing close to 30% of current GDP).

Ireland is officially listed as the No. 1 software exporter in the world. However again this is a largely artificial ranking due to the manner in which so much of Microsoft's income is transferred from other countries (mostly European) back to Ireland.

Also, as long recognised a considerable amount of transfer pricing is used by multinationals here artificially reducing costs so as to inflate reported profits. The combined effect of these procedures therefore, together with the sheer magnitude of what is involved makes it extremely difficult to assess the true nature of many Irish statistics e.g. exports, imports, balance of payments, taxation, productivity etc. For example a considerable amount of the corporate profits tax collected by the Government relates to income diverted from higher tax jurisdictions in Europe!

Another damaging feature of all this is that the domestic indigenous sector has been able to hide in the shadow of the success of such multinational activity. The Government and other economic bodies have been pointing to the recent comparative success of "Irish" exports during a time of deep recession (making favourable comparisons with Germany). However this "success" is almost entirely due to the dominant multinational element involved (where again much artificial pricing is involved). In truth there has been a significant collapse of Irish indigenous exports over the last year especially with respect to its key market i.e. the UK.

Therefore the success of Ireland's economy owes a great deal to the fact that it is operating as a very efficient tax haven (especially for US firms). Indeed along with the Bahamas, Ireland currently serves as the largest tax haven in the world for such firms. It is true that we differ from the Bahamas in the sense that these firms have genuine production facilities operating here. However it could be argued that such facilities in fact offer even better cover for tax diversion opportunities.

Paradoxically as the Obama regime attempts to tighten up on the tax diversion activities of its own national companies it could even offer a short term advantage to the Irish economy, as it is likely that the pure tax havens will be tackled first. This could then lead to a further shift to partial tax havens such as Ireland (where more seemingly legitimate reasons can be offered for hiding profits). However ultimately these tax havens will be also tackled which could then have very big repercussions for the Irish economy.

Huge mistakes were made due to the failure to act in time to deal with the property bubble.

Potentially even more damaging consequences may flow from a failure to react to this hidden tax bubble in our midst. Even while enjoying its benefits for some more years we should be formulating new economic directions to deal with economic life after this bubble.

Tuesday, September 29, 2009

No Consensus

I was looking at Pat Kenny's "Frontline" Programme last night.

It was dealing with the forthcoming budget and the need to achieve dramatic cuts with respect to Government expenditure. As things stand the deficit will be about €20 bl. with revenue set to exceed €60 bl. and tax revenue not much more than €40 bl. So this gross excess of expenditure over income is clearly not sustainable and therefore needs to be controlled.

The audience was largely made up of public and private sector workers arranged in two separate groups. However it quickly became apparent that they were simply unable to address the overall financial issue. Everyone seemed completely locked into their own particular perspectives made even more rigid by a perceived sense of injustice with respect to the present situation.

Therefore there was no appetite anywhere for either a reduction in Government expenditure or alternatively for further increased taxation (as a means of closing the gap).

Based on the evidence of such reactions there is little scope for the Government to introduce major spending cuts in the budget through reducing public sector pay (which is the major component). So what is most likely to happen is that most of the cuts in practice will fall on capital expenditure.

This of course makes very little sense from an economics perspective where potentially the most productive expenditure is cut whilst the least productive - due to sectional pressures - remains largely untouched.

In the circumstances there would seem to be no likelihood of the Government's meeting its target of reducing the budget deficit back to 3% by 2013 (as required by EU rules).

On the contrary we are likely to see once again - as in the 1980's - a steep rise in the National Debt. Though the cost of financing this debt may not seem unduly prohibitive at present (due to the low climate of interest rates) this is not likely to remain with rates set to rise in coming years. On top of this - though technically the Government may be allowed to treat it as an off balance sheet item - we will face further increases in debt due to the NAMA proposals.

Due to the excesses of the Celtic Tiger, Ireland has become a very uncompetitive economy. We fooled ourselves into believing that there was an inherent strength to what was unfolding when in actual fact it was largely due to strongly artificial factors. One of these has now collapsed i.e. the property bubble. However the other artificial factor is perhaps of even more significance relating to the use of Ireland by multinational companies for tax diversion purposes. We are in fact - along with the Bahamas - the top tax haven for US multinational investment. It is no accident therefore that we have such strong company representation in the IT and chemicals sector (as these sectors can especially benefit from tax diversion through locating here).

At a deeper level we are seeing the futility now of trying to detach economic decisions from the moral behaviour of those making them. The present crisis is indeed revealing huge social injustices in the way our economic business is carried out and this in turn makes any attempted efficient mechanism to deal with such problems impractical.

Ultimately we cannot deal with economic without genuinely addressing moral issues for they are inseparable. Much of the injustice that festers throughout the system has arisen through ignoring this simple fact.

Sunday, September 20, 2009

More on NAMA

As I write, more information has been provided by the Government on the proposed NAMA rescue plan.
For example we now know that the total value of loans transferred to the Agency will be €77bl. (including €9bl. rolled up in interest). Against an estimated current market value of €47bl., NAMA will be offering €54bl. So on the face of it this would represent a premium to the banks of €7bl.

However much of these calculations are very questionable. If we exclude the interest the remaining value of the loans would be €68bl. To then suggest that these loans would have a current market value of €47bl. seems to me far too high. (The Government claims that the actual value of property against which these loans were issued is in fact €88bl. due to developers commiting the remaining €11bl. of their own funds. However I would remain highly sceptical that this actually is the case!) Therefore the true premium in payment to the banks is likely to much higher than €7bl. So as many critics suggested, this does look very much like a bail out plan for the banks. No wonder therefore that their share prices surged the following day!

In addition one cannot feel reassured by the utter nonsense being used to sell the plan whereby the Minister for Finance tries to convince taxpayers that if property prices rise by just 10% over the next 10 years that they will be actually profiting from the deal. Apart from the fact that this ignores the time value of money (with interest rates likely to rise again in future years) it represents an unacceptable way of assessing value. If one is buying a house for example during a boom one does not calculate the price with reference to some estimated future value in 10 years time (which could conceivably be double or treble present value). Likewise one should not try and calculate the price of property in a recession with respect to an estimated future value (which given the present unprecedented situation cannot be calculated with any accuracy).

As regards the practical working of the plan - which is vital in terms of its appraisal - I still find it very difficult to envisage how it will operate.

As I understand it, NAMA has very few staff at present (though more will be hired before it commences work). However there are many thousands of loans out there which have to be investigated. Many of these are cross collateralised relating to property companies who have deliberated designed their company structures so as to cause the maximum amount of confusion.

Who will exactly be dealing with these loans? Will NAMA officials attempt to directly negotiate with such developers or - as is more likely - delegate them largely back to the bank personnel already involved? In the latter case one can then validly query as to whether there would then be any urgency to resolve the loans. After all the banks will have received a generous payout from NAMA for such loans thus relieving them of immediate pressure. Meanwhile the developers will be only too happy to sit and wait for the property market to pick up (which could take a long time).

So on the face of it therefore NAMA looks like a giant warehouse for storing largely dormant property loans while giving the impression that it is designed to actively resolve the problem.

I will attempt here to address just some of the issues that I feel have been overlooked in discussion.
One of these relates to the fact that there has been a tendency to treat bank shareholders and taxpayers as two distinct groups (with shareholders assumed to benefit and taxpayers, by comparison, likely to suffer a cost).

However a high proportion of these shares are held directly or indirectly by domestic taxpayers. Some will have purchased bank shares outright and be well aware of the value of their holdings. However many more will have contributed to management and pension funds containing Irish bank shares. Such taxpayers therefore stand to benefit through investment and pension fund values rising. However we have very little detail as to the precise composition of bank share holdings. Though some anecdotal evidence suggests that there has been an increase in privately held shares (purchased towards the bottom of the slump) detailed information is not available.
So clearly a significant number of taxpayers stand to gain from any rise in share prices that is directly attributable to NAMA.

Another issue that causes me considerable concern, likewise has received surprisingly little attention. This relates to the fact that not all loans have been transferred to NAMA. The question then arises as to well the non-transferred loans - which are of considerable value - will actually perform. For example I understand that only loans in excess of €5 ml. have been transferred. However it stands to reason that many of these smaller valued loans will also be somewhat toxic relating to speculative property deals. Here, the attitude of the banks is likely to be very different with an incentive to squeeze the borrowers as strongly as possible while the really big defaulters enjoy comparatively a free ride inside NAMA!

A worrying indication is given by the news that Anglo Irish Bank is set to require further billions in capitalisation by the government with respect to expected losses on such non-transferred loans. It is truly a shocking indictment on the supervisory system that this bank, which was of no strategic importance to the economy, already accounts for €28 bl. of the total loans transferred to NAMA. On top of that it had already requested an additional €3bl. - €4bl. for capitalisation purposes. But apparently this is by no means the end of the matter. So the ultimate losses that this one “upstart” bank will entail can only be described as truly horrendous.

As for the supervisory regime, it was already readily apparent that it was operating in a largely ineffective manner and - worse still - deliberately designed to act that way. Since the Financial Services Centre was set up, Ireland has been trying to attract the international institutions with the promise of “light touch “ regulation very much part of the overall incentive package. In addition we have been turning a blind eye for years on the financial activities of multinational companies based here (who form a disproportionately large part of the Irish economy). For example in 2005 it was reported in the Wall Street journal that Microsoft had two subsidiary companies based in a Dublin legal office reporting gross profits of $9bl. and $1bl dollars (approx)respectively!

It seems that these companies were simply set up for tax diversion purposes (due to Ireland’s low corporation profits tax). This begs several questions. What tax diversion activities are being carried on by other multinational companies based here in Ireland? How big a role do such activities play in the decision to locate here? Does the supervisory regime enquire regarding such activities or is there in fact an unspoken practice to simply ignore everything so that firms will continue to invest here?

The point therefore that I am making is that financial regulation does not take place in a vacuum and the very reason why it has been so weak is that it has perhaps suited Ireland to have it this way (to facilitate multinational firms and international financial institutions locating here).

Therefore, I see grave problems in now genuinely moving to a stricter environment. True reform would require a very different ethos to the loose practices that historically have been seen to favour Ireland. And as I see no appetite to openly discuss the key underlying issue as yet, I do not expect the supervisory regime to change in any fundamental respect.

With respect to developers I can see many potential problems in the operation of NAMA that are unlikely to be resolved.

Though I accept that we must move on to an effective resolution of the mess that has been caused by the development mania that overtook the Celtic Tiger, social justice requires that some penalty should be imposed on those who rashly squandered enormous sums of money.

Firstly, I see no reason why they should be granted strict confidentiality - as NAMA proposes - regarding their dealings. Taxpayers, who are now paying for their excesses are entitled to know the identity of the major culprits, the amounts that are owned and the extent to which they are cooperating with the Agency.

Secondly, an open investigation - perhaps starting through Dail committees - into the practices and dealings of developers leading up to this crisis should be promised. I expect that in many cases - apart from merely unwise - downright fraudulent behaviour will have been involved (perhaps in many cases also involving bankers). And where such is the case developers and bankers should be prosecuted in accordance with the law. Apart from requiring these developers (and bankers) to answer in some manner for their actions we could learn a great deal from the process that could help perhaps prevent a similar scenario unfolding in future.

Thirdly, we need to end this ridiculous practice of allowing a labyrinth of perhaps hundreds of companies under one developer ownership being set up (deliberately designed to make it extremely difficult for investigators to follow any paper trail). Indeed this could all form part of that necessary investigation of the development crisis.

As I said in a previous offering on the topic, I expect that many developers have already hidden away large amounts of money e.g. through companies registered in other countries that NAMA will never be able to tap.

So I expect that these will just hold tight and plead inability to pay when approached by NAMA officials. Indeed - with money safely hidden - it may well suit some developers to declare bankruptcy if necessary, walk away and get ready for the next property upturn (whenever it occurs).

There is an even more frightening scenario that may unfold when NAMA does eventually seize such assets, in that it may then feel obliged to sell them at low cost to other developers already on their books (with the banks once again rowing in to provide the finance).

One hopeful suggestion here that I would make is that we now have a great opportunity for the State to seize a great deal of land. By carefully controlling its future use the state would then be in a position to prevent a speculative land bubble in a future recovery of the property market.

As for the banks, we must of course strive to move forward and restore confidence in the system. However justice - and thereby acceptance of NAMA proposals - requires again that the bank officials responsible for such appalling lending decisions in recent years face some penalty. Just as with the developers, a detailed investigation into the whole affair should be promised. Indeed perhaps the two proposed investigations (into the developers and bankers) should be combined in one as the issues are very much interrelated. Once again I would expect that many fraudulent practices would be uncovered in the process. And where officials are found guilty the full rigours of the law should be brought to bear.

However people have a right to feel cynical about the present Government’s intentions in this matter. We have already had a clear example where 10 leading business men were invited by Anglo Irish in what appeared as an obvious share price rigging exercise to protect the large investment there of the wealthiest businessman in the land i.e. Sean Quinn. The Director of Corporate Enforcement , we are told, is dealing with this matter with a view to criminal prosecutions taking place. However with nearly a year gone by, nothing has happened. Indeed the same man who is supposed to be the centre of the investigation has since become the sponsor (through Quinn Insurance) to the flagship programme of the national broadcaster. Surely if a genuine criminal investigation is indeed pending the acceptance of such sponsorship is then highly inappropriate!

So there is a huge credibility gap to be bridged by this government in demonstrating that it is genuinely concerned with social justice and this I believe is the greatest barrier to acceptance of their NAMA proposals.

Much more could be done to deal with this overriding issue and the need for those who are most responsible to make reparation in some appropriate way.
This would then make it much easier for people to address practical proposals for moving the situation forward.

Now the government will claim - and I don’t doubt them on this point - that the NAMA proposals are designed most of all in an attempt to restore liquidity to the banking system. They are offering the banks €47bl. in low interest bonds. These can then be placed with the ECB for money. So with the expectation that the banks will now receive a large amount of cash through the Euro system, it is believed that they will be free to lend more to business.

However I would be very doubtful regarding this. The banks will still want to improve their capital base by preserving - rather than lending out - money. Also having had their fingers so badly burnt through lending out for risky purposes they are likely in the near future to move in the opposite direction and act extremely conservatively in assessing risk. And with the economy in recession not many businesses will seem like good options for receiving loans.

This is a general problem that is being experienced worldwide. It reminds me very much of conditions during the Great Depression and the contribution of Keynes who clearly saw that the state had to take the lead in spending where private confidence is very low.

I would consider therefore that the Government should propose its own capital spending injection in a manner that would be economically desirable and also politically popular. For example they could aim to dramatically solve the problem of inadequate school buildings by greatly accelerating this programme over the next couple of years. However this proposal should only be offered on condition that genuine efficiency improvements are agreed to in the public sector.

Of course this would mean even more being added to the national debt. However it would greatly assist a depressed building sector, create many new jobs and through the multiplier effect give a much needed boost to other economic activity. This would also help to arrest the collapse in property prices thus making the whole task of NAMA more plausible.
Above all it would offer much needed hope at a very difficult time.

However it should be made clear that this would be in the nature of a once off gesture designed, not to replace, but rather facilitate recovery in the private sector.

Ireland has ignored a growing loss of competitiveness for some considerable time which urgently needs to be addressed for long term growth to be sustained.
So any temporary injection of government spending must be viewed pragmatically as a short term fillip that cannot be permanently continued.

Monday, September 14, 2009

The Lisbon Treaty

Here in Ireland we are preparing for a second vote on the Lisbon Treaty and as we are the only country in the EU required to hold a referendum on the issue its outcome may exercise a considerable effect on the overall development of Europe.

The background to this Treaty (also referred to as the Reform Treaty) is quite complex.
The European Union has been rapidly growing in recent years with 12 new members (from Central and Eastern Europe) joining since 2004. Obviously this poses new difficulties with respect to effective administration. So several changes with respect to key institutions e.g. Council of Europe, the Commission and EU Parliament are proposed. Also it has been deemed timely to now collate and also amend the growing legislation that has been accumulated since the founding of the Union. So in many ways the Reform Treaty is designed to act as a statement of what has already been achieved in the EU whilst providing the framework for effective progress in the future.

Stated in this fashion the proposed Treaty might appear quite reasonable and indeed desirable. However in practice it has proven divisive.
The Reform Treaty in many ways represents a slightly watered down version of the EU Constitution. When this constitution was put before the electorate in 2005 it was rejected in both France and the Netherlands.

Then using tactics worthy of Machiavelli the Lisbon Treaty was reformulated in such a manner that it did not legally require referenda to be held in any of the member countries (with the sole exception of Ireland) for it to be passed. Rather a vote in Parliament (secured by the majority vote of parties in power) is enough to signal the assent of each member country to the Treaty. Though difficulties still remain it looks like this will be achieved for the 26 members (not holding a referendum). However one sticky problem remains. Due to a decision of the Supreme Court taken here with respect to a previous case, Ireland is obliged to hold a referendum on the issue. And as it requires the unanimous agreement of all 27 members for the Treaty to become law, the decision of the Irish electorate assumes significant importance.

This in fact is the second time that the Lisbon Treaty has been put before the Irish electorate who voted NO first time around last year.
However following certain concessions and assurances it is now hoped that a YES can now be obtained thus paving the way for overall acceptance of the Treaty.

Perhaps the main argument against acceptance of the Treaty is that in the very way in which it has been handled it demonstrates a growing democratic deficit in the manner in which the EU operates.
Many people now feel alienated from European decision making believing that important decisions are being taken by unelected bureaucrats “in Brussels” significantly affecting their lives but over which they have no effective control.

Though democratic elections are held for the EU Parliament, people do not see how this has immediate relevance. Despite all assurances to the contrary the Parliament is still seen as little more than a “glorified talking shop” for an elite group who are richly rewarded for their membership of this political club. In truth most citizens would have great difficulty in naming their EU parliamentarians who momentarily surface every five years and then quickly disappear off the radar when elected.

Many citizens feel that as the EU becomes larger and more complex that power moves to the centre gradually superseding national, regional and local concerns.
Though of course it may well be argued that in an increasingly globalised world such a shift is necessary it does not help when citizens no longer feel involved in any meaningful fashion with the process.

Though this trend was already well in place before the Lisbon Treaty, perhaps in a certain way it acts to highlight the very nature of the problem involved.
What adds weight to such concerns is the manner in which this latest political process has been handled by our political masters. When it became apparent that the EU Constitution had become dead in the water, rather than significantly address the key problem i.e. the growing sense of a democratic deficit, they decided to change the procedure by which the Treaty would be accepted (with the direct assent of citizens no longer required).

This only acts to strengthen the sense that the interests of the politicians and public servants who comprise the EU power group perhaps differs in fundamental respects from any genuine concern with enhancing democratic accountability.

Then when a NO vote was delivered in the first Irish Referendum on the Treaty, rather than accepting this decision, this “power group” immediately sought to place pressure on its Irish members (e.g. Taoiseach and Minister for Foreign Affairs) to ensure that a YES would be delivered at a further referendum.

So from one perspective one could argue that the forthcoming referendum offers a unique opportunity for the Irish to speak on behalf of the wider electorate of Europe whose voice is not being heard. In this way a NO vote could be seen as a fine exercise of genuine democracy in practice.

Unfortunately it is not as easy as this!
It is naïve I believe to think that democracy can ever work in a pure disinterested fashion. Also despite its failings it could be validly argued that the Lisbon Treaty represents the best compromise - as between member country interests - that can be achieved at this time and that it only emerged after years of painstaking discussion and negotiation.

So from this perspective if the Lisbon Treaty was to be rejected life would of course still continue in the EU but at the risk of growing disagreement and fragmentation on various issues. Also this could send out the wrong signals at a very difficult time. With key challenges facing the world relating to trade, the environment, financial markets etc. the ability of the EU to operate on an agreed unified basis is desirable.
I think it is fanciful to believe - as some apparently do - that if this Treaty is defeated that we can simply go back and negotiate a better one. Given that the overall economic climate is much more difficult now that it was when negotiations originally took place, another agreement would be highly unlikely in the present situation.

There is also a strategic argument for Ireland which is very important to consider. Historically EU membership has proven beneficial for the country. Also as a small country we have been successful in accumulating over the years a significant amount of good will among other member countries (largely because of our positive commitment to EU ideals). To be seen to turn now in the opposite direction would not spell the end of the world. However being practical it could significantly erode that fund of good will which could then adversely affect our interests in various ways.

And given our present economic difficulties we can do with as much assistance from the EU as possible. I do not wish to overstate this point however for it is mainly at the margins that the difference would be felt!

Many of the arguments that are put up by both the YES and NO sides have little to do with the Lisbon Treaty. For example the Treaty has no direct relevance for issues such as abortion, neutrality and taxation. Also I do not believe that it directly impinges on worker rights. Admittedly, a significant issue has been raised by the membership of the new Eastern and Central European countries where wage rates are considerably lower than in the older established members. Thus applying traditional rights such as free movement of workers and free establishment of businesses does pose a threat to local workers (who have enjoyed higher wages). However this problem - though very real - is not caused by the Lisbon Treaty. Likewise a workable resolution will have to take place outside it in a pragmatic manner.

In general the EU has proven very responsive to social legislation protecting worker’s rights and this commitment is enshrined in the Charter on Human Rights which is part of the new Treaty. Though individual decisions on specific work related issues will necessarily be taken through the Courts (and cannot be readily predicted) the Charter does at least provide a social oriented backdrop from which such decisions will emanate.

I feel that the quality of debate in Ireland has been greatly marred by a polarisation of attitudes on both sides of the divide. YES proponents in debate seem committed to the untenable position that there is nothing questionable in the Treaty and that it effectively answers all the NO objections. Equally the NO side seem very trenchant in dismissing any of the positives that are put forward on the YES side.

Realistically anyone who attempts to look dispassionately at the issues will see that there are valid arguments to be made from both perspectives.
Ultimately the decision that one takes depends on the way one attempts to balance these arguments against each other (which in turn is greatly influenced by the particular standpoint that one adopts on the issue). In my own case I believe that agreement on a new Treaty is desirable for Europe at this point in time. Also Ireland’s strategic position in Europe can be better protected through a positive approach to the Treaty. This therefore will result in my case - as it did on the first occasion - in a YES vote.

Friday, August 28, 2009

Preliminary Comments on NAMA

The setting up of NAMA (National Asset Management Agency) here in Ireland is rightly achieving a great deal of attention at present from politicians, economists and the public at large.

It is truly a massive undertaking proposing to transfer to the agency some 90 billion euro of bank loans made to developers amidst the mania of the Celtic Tiger boom, thereby creating perhaps the largest property company in the world.

As the result of so many bad loans the banking system was in dire straits. So the government first rowed in to provide a guarantee to depositors, and then later went some way to recapitalising the banks.

However due to the extent of the crisis (with most loans now likely to realise considerably less than their book value) the Government has now set up this agency in a further dramatic step to restore banking confidence. So the agency intends to take these loans from the banks (a great deal of which are toxic) while promising to pay a sum for them which is likely to be considerably above any realistic estimate of their market value.

So it certainly looks like a good deal for the banks! Now in defence the government could say that this is vitally necessary so that the banking system becomes free again to issue credit as required. Also the reputation of the banking system abroad needs to be restored as it took a severe hammering during the recent financial crisis. And there is certainly truth to this argument with a great deal of the institutional investment coming from overseas in recent years!

However this only goes to show how capitalist economic considerations are far removed in reality from any real notion of economic justice.

The banking directors who profited greatly from their rash lending policies will not be punished in any meaningful fashion. At worst they have lost their positions and reputation but will continue to live in considerable financial comfort. If some leading bank official was to be successfully convicted for fraudulent behaviour it would at least send out a healthy signal, but I do not expect this to happen. Also there will be no action against those in the supervisory regime who failed so miserably to exercise any control over what was happening.

Likewise despite assurances to the contrary I expect the key developers, who literally owe billions to the banks, to continue be be treated with "kid gloves".

It is my belief that the market for property in Ireland is highly artificial at present thus making it nigh impossible to ascertain true market price.

Though property prices have fallen somewhat from their peak (in the case of houses about 30%), given the totally inflated prices they had reached during the boom they would need to fall considerably more before the market would truly bottom out. We have largely a limbo market at present where, in order to keep the prices at a high level, property is just not being sold. And the banks who have shown extreme reluctance to face up to the extent of their bad debt problem have effectively conspired with the largest developers to maintain this situation through granting a continuing moratorium on loan repayments.

But surely all this will change when NAMA takes control? Well, not really!

You see NAMA are likely to guarantee these loans at prices, basing calculations on some notion of current market value, which is totally unrealistic. Therefore to avoid undue criticism later from taxpayers that they have simply sold out, they are likely to wait in many cases - just like the banks before - for market values to recover (whereby they could then hope to justify their initial decision).

Meanwhile the developers likewise will have a vested interest in property prices recovering before making repayments (thus minimising their losses) and can be counted on to use every trick in the book to plead inability to pay.
One unsavoury aspect of this whole scenario is that many of these developers have deliberately set up company structures so complex that no one will be able to ascertain in any case their true financial strength. To put it bluntly I expect that countless millions in profits will remain safely stashed away. So the privileged lifestyles of the best known developers are not likely to change in any appreciable manner and many will surely surface again in the next property cycle fronting new company vehicles.

If things go the way that I broadly expect, then there could be very strong pressure in a few years time to seek an artificial solution through a somewhat premature reflation of the whole property market. Just think about it! The public finances are likely to remain in a dire situation. Growing problems in the operation of NAMA will surface. Property prices will continue to drop with no realistic chance of recovery in the near future. Taxpayers will become ever more irate at having to finance massive losses at a time when their own living standards have dropped considerably.

The pressure could be then irresistible for the Government to artificially incentivise the market pleading that this is now timely with prices already having fallen considerably. At one fell swoop this would bring back the old Celtic tiger feeling with the promise of more jobs, improving public finances, growing consumer confidence etc. And with property prices once again on the rise, NAMA could properly get to work realising all those loans that they had guaranteed (and hopefully at prices not too far from what had been originally offered to the banks).

And if anyone were then to ask then about the longer term consequences of these actions a Government spokesman could perhaps use Keynes' famous quote for justification, that "in the long run we are all dead".

Thursday, August 27, 2009

The Blame Game

Here in Ireland we have sailed into very troubled economic waters which are likely to remain so for a considerable time to come. While most European economies have been suffering due to the financially induced international recession, Ireland's problems have been compounded by the collapse of a greatly over hyped property boom.

Now, as so many false dreams lie in tatters the blame game has started in earnest with the Government, bankers and developers mainly in the firing line.

However the phenomenon of a boom is in fact a lot more complex reflecting a moral deficiency shared to a greater or lesser extent by the whole population.

During the Celtic Tiger years in Ireland a remarkable shift in values took place. The traditional system fostered by the Catholic Church gave way to an increasingly materialistic self serving attitude affecting all walks of life.

From this new perspective everyone seemed to be benefit as long as the Tiger continued. Government revenues soared due to rampant property sales and associated consumer spending. Unemployment effectively disappeared with countless new jobs servicing the boom being created. As house prices rocketed people saw their wealth rapidly increasing. With the banks anxious to provide as much credit as possible, mortgages for all and sundry became easy to obtain. In a continuing seeming win win situation, developers went on a wild splurge with commercial developments and housing estates mushrooming in every corner of the country.

When the home market no longer seemed sufficient to satisfy this insatiable demand, ambitions spread outwards. Around 2004-05 you could find any number of hotels hosting property conferences eagerly marketing new opportunities for buying apartments in Spain, Portugal, Hungary, Turkey, Dubai, Florida etc.

A key moment regarding the extent of this madness struck me when out of curiosity (around 2004) I studied the brochure for a forthcoming Conference in a South Dublin hotel concentrating on the new emerging Eastern European property market. Would you believe at that one Conference alone, 33 different exhibitors were lined up to sell apartments in Bulgaria!

During a prolonged boom such as we had in Ireland (from 1994 - 2007) a phony consensus develops in society where society as a whole unconsciously seeks to preserve the short term momentum of what has been achieved (while effectively dismissing long terms concerns). The general view at the time was that due to the "inherent strengths" of the Irish economy (as the fastest growing in Europe) that we could effectively deal with any downturn. Thus most economists predicted a "soft landing" if and when the property boom eventually stalled.

So in Ireland the Government in power greatly benefited from the boom with Bertie Ahern's Fianna Fail Party winning three straight elections. When it looked that the ruling party might lose the most recent election in 2007, in the final week support for it significantly improved (with the electorate entrusting it to prolong the boom)!

Likewise the construction sector and developers also had a clear vested interest in keeping the Tiger running. And as the increased income generated from this sector then created opportunities for other sectors e.g. hotels, car sales and consumer spending generally, business greatly benefited from the boom. Not least the general consumer electorate - who had seen years of full employment and sharply rising living standards - wanted the Tiger to continue.

In such an atmosphere, cautionary voices are effectively drowned out and accused of being negative and unpatriotic.

Say for example if management of a key bank had accurately foreseen some years ago the current slump thereby attempting to restrict credit, the consequent outrage of customers and shareholders would probably have led to dismissal of the existing directors and a speedy reversal of policy.

Likewise if a political party here in Ireland coming up to the last election had proposed taking immediate corrective measures if elected, it would have been duly rewarded by a dramatic fall in its vote.

When the false consciousness of a phony consensus exists in society, wiser voices are not heard. Rather those who seek to challenge the consensus are very often punished and ridiculed for their foresight.

Thus it is no comfort now to see the widespread condemnation by the electorate of Government, developers and bankers.

This is the same group that voted in the Government (to preserve the boom), who rushed to buy properties both here and abroad and who were only too happy to avail of the easy credit afforded by the bankers.

So, unfortunately these failures (which are very considerable) are shared by all in society to a greater or lesser extent. The requirement to fit in to the prevailing value system leads to an overall shift in behaviour and attitudes that is very difficult to avoid.

The great sin of capitalist Economics is that it attempts to divorce its workings from the moral responsibility of those actually exercising economic decisions.

Then when problems emerge with the system - as at present - the burden of failure is suffered in a greatly disproportionate fashion with those most culpable largely escaping and the truly vulnerable often worst hit. Unfortunately we will have much time to reflect on this glaring injustice in the coming years.