Tuesday, December 10, 2013

Ireland in Transition

I was watching an interesting programme presented by Ian Kehoe (from The Sunday Business Post) showing how the recent resurgence in the Irish economy owes a great deal to a considerable amount of overseas capital investment, especially with respect to sales of distressed property.

As is well known the Irish property boom came to a shuddering halt in 2008 leading to massive falls in value with respect to both residential and commercial property.

Many of the largest loans on these properties were sold to NAMA (an Irish state organisation that has arguably now become the largest property company in the world). Likewise, many other assets however still exist on the banks' balance sheets, which they are anxious to sell to the highest bidder.

And as Irish developers no longer possess the financial means, these assets are being quickly sold principally to the US (on both coasts) the UK and other international investors.
Some of these assets have been bought up also by successful Irish developers based abroad (though these would be in a minority).

For example the programme focussed on one Neville Isdell (former Chief Executive of Coca Cola) who has purchased the CHQ in Dublin's Docklands. This was developed with the intention of becoming an iconic commercial centre before the crash quickly ended all hopes. Though €45 million had been spent on its development it was purchased by Isdell for just €10 million.

Another excerpt featured William J. McMorrow of Kennedy Wilson a real estate auction company that is already invested billions in buying up large portfolios of property in Ireland.

Then there was the owner of a British chain of pubs Wethespoons that are now buying up pubs at knock down prices in Ireland with a view to becoming the biggest operator.

There was also a broker Michael Hasenstab from Franklin Templeton that invested several billion in buying up Irish bonds at the height of the crisis (when interest rates were very high). This audacious act paid off handsomely with large profits being made on the investment. It also injected much needed confidence into the bond market at the time with interest rates subsequently falling dramatically.

We also saw Wilbur L. Ross who bought a substantial stake in the Bank of Ireland (one of Ireland's two largest banks) again helping to stabilise its fortunes at the height of the crisis.

So what do we make of all of this from a wider economic perspective?

Undoubtedly the popular mood here would be one of deep resentment. Thus, as many ordinary folk still struggle greatly with an overhang of debt in their personal lives, they see these outside (largely anonymous) wealthy investors as vultures that our seizing large swathes of property at bargain basement prices.

Of course the attitude of the investors themselves would be somewhat different. They would point to this as healthy capitalism where market forces reign supreme. They would further maintain that they are in fact helping significantly to regenerate the Irish economy through their willingness to invest with the prospect of recovering markets thereby promoting new activity and employment.

And certainly from a short-term perspective there is a great deal of truth in this view.

However it does raise the very disturbing longer term spectre of Ireland becoming increasingly dependent on the whims of these outside investors.

Even before the crash Ireland had become heavily dependent on multinational investment (especially of US origin). Though this greatly increased wealth generation, a very significant proportion of this wealth then flowed out of  the economy through profit repatriation (running at about 1/6 of GDP).

Since the financial crisis, not alone has Ireland becoming even more dependent on such foreign investment in manufacturing industry and services but this has now spread dramatically into commercial retail and residential property activity.

So in the short to medium terms, what we are likely to experience in Ireland is a significant increase in the amount of money being repatriated from the economy each year.

Profit flows themselves are likely to increase due to the intensification of investment, especially in internationally traded services, with a growing contribution of outflows also from the retail sector.

Outflows with respect to interest repayments abroad will also sharply increase due to Government repayments on the substantial bail-out funds we received during the crisis from our Troika partners.

Now strictly these payments would be measured with respect to debt borrowed from abroad. However there is the further complication that since the crisis increasing amounts of Irish debt are now held by non-resident institutions (e.g. Franklin Templeton) which means in effect an additional large outflow.

On top of both these profit and interest outflows we will also see a large rise in outflows relating to rental income (as so much commercial and residential property is now controlled by foreign landlords).

Though it is very difficult to put an exact figure on it, it is not beyond the bounds of possibility that we could see in the next decade an effective doubling in the proportion of net foreign outflows. That would mean that up to 1/3 of the money generated from economic activity in Ireland could subsequently be repatriated to other countries!

This would imply that though a substantial - and even sustained - recovery may well emerge in the Irish economy over the next few years, its effects are likely to significantly bypass most ordinary citizens living here. Put simply for many years economic growth in Ireland is set to repay outside investors (rather than the majority of domestic citizens).

I would also fear that it may work in an very uneven fashion with a considerable amount of money (though domestic and overseas investment) eventually finding its way back into property thus inflating prices unduly once more. This in turn will create an artificial market for many domestically produced goods. Though this will enable higher levels of employment to be maintained, greater levels of inefficiency will operate. So the cost of living in Ireland is likely to stay above and even increase with respect to the EU average.

There is also the worrying fact that investor sentiment can just as easily turn against our interests in the future.

For example if Franklin Templeton considered (on shrewd profit calculations) to sell a substantial amount of its Irish debt in the future, this could have a very damaging impact on the Irish bond market generally.

So from this perspective, institutional investors (with no commitment to national economic priorities) now have the power to effectively blackmail small countries with respect to their own private interests.

This cannot be a healthy development for capitalism internationally. In fact, if the mistaken capitalist view that private greed somehow translates into public virtue, is allowed to continue unchallenged, then the international economic system itself is likely to be its eventual casualty.

We were given a severe warning sign of this through the financial crisis of 2008. However its deeper message has clearly not yet been heeded!

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