Ireland may be an Emerald Isle populated with cute little leprechauns who nibble nonchalantly on shamrock when nobody is looking, but, like Greece, which also brought the eurozone almost to its knees this year, it is a country with its own, iniquitous, political culture.
Its home-grown nexus between political and financial corruption accounts for a chunk of what is being described politely as “reckless” lending by its banks.
The preliminary report into the banking crisis commissioned by Brian Lenihan, Ireland’s finance minister, in February alludes to this.
It talked of “serious breaches of corporate governance, going well beyond poor risk assessment” that eventually had “a systemic impact”. These breaches help to explain how a country with a gross domestic product of only €160 billion miraculously conjured up a score of property billionaires during the brief property boom years.
Deutsche Bank pointed out last week (25 November) that the roots of the sovereign-debt crisis in the eurozone’s peripheral states differ from country to country. The Greek crisis was mainly due to “persistently unsound fiscal policy”, it concludes. In Ireland, where corporate debt tripled in 2005-07 and bank assets reached seven times gross domestic product, it was, as in Iceland, the private sector, especially the banks and property developers, that did the damage.
So it is the varied frailties of peripheral eurozone economies, coupled with the eurozone’s political and economic governance structures, hitherto inadequate, which have combined to create lucrative one-way bets for traders and speculators.
Since May, the European Central Bank (ECB) has reluctantly been putting its finger in the dam. Controversially, it has been supporting – and, according to its president, Jean-Claude Trichet, may continue to support – the individual sovereign-debt markets of troubled borrowers like Ireland in order to keep the eurozone banking system functioning. But, with fiscal and monetary policies virtually exhausted and speculators training their sights on Portugal, and even Spain, the practical and political limits to this ad hoc crisis management are approaching.
Actual usable funds at the European Financial Stability Facility (EFSF), the eurozone’s bail-out pot, will not add up to the €440bn advertised. This is one reason why the situation of Spain, a large EU economy, is so pivotal.
Then there is the darkening outlook for the global economy. Although 2010 has been a year of quite encouraging global economic recovery, this came off the very low base formed by the 2009 slump (see table). Official projections for 2011 point to slowing growth in the US and the eurozone. The International Monetary Fund (IMF) was already warning, in its October World Economic Outlook, that global growth “appears to be slowing as policy stimulus wanes”.
Japan’s already weak growth is slackening. China, now the world’s second largest economy and the tradable goods dynamo in Asia, is trying to restrain its breakneck expansion. The IMF sees China’s growth dropping from 10.5% to 9.6%. But China could be heading for an adjustment crisis. Food inflation is running at 10% and few believe that the official economy-wide inflation figure (4.4% in October) bears any relation to reality. Asset bubbles in its overheated property markets are getting worse.
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In its autumn forecast this week (29 November), the European Commission sharply upgraded its EU27 growth projection for 2010 compared with its spring forecast, but said “activity is expected to be moderate…in 2011”. The same applies in the euro area. Beneath the region-wide numbers, however, it is the strength of one or two eurozone members, especially Germany, that is notable. The Commission, like the IMF in October, also warns that the euro area sovereign-debt crisis could undermine recovery.
That threat is now palpable. Weak peripheral EU states are in no condition to contribute to a mutually reinforcing regional recovery and Germany and France cannot speedily pull their euro partners out of a slump induced by a banking crisis.
Confidence is under attack too. The G20 summit in South Korea failed to narrow economic policy divisions between East and West. The West itself is divided, with the US central bank, the Federal Reserve Board, committed to pumping liquidity into domestic, and so indirectly, global markets, while the ECB is trying to do the opposite.
And policymakers in the eurozone have been visibly struggling to contain the debt crisis. Alessandro Leipold, a former top IMF official and now economic adviser to the Lisbon Council, says “the behaviour of EU governments has been overly politicised”. Trying to introduce Ireland’s low corporate tax base into the bail-out negotiations smacks of seeking to settle old scores, he says. “Economically it’s a non-issue in the current crisis.”
Last week (24 November), the Commission was forced to quash a Wall Street Journal report that it was seeking to double EFSF funds. At the same moment, Bundesbank President Axel Weber was making himself even more unpopular in some quarters by suggesting the EFSF could be topped up.
This potentially explosive concoction of sovereign debt and private banking and financial markets driven by hi-tech operating within a unique currency union presents an unprecedented challenge.
It may be uncomfortable, but, with the democratic fabric in peripheral states being stretched, Germany is right to insist that banks and institutional investors should, on a case-by-case basis, have to bear a bigger share of the burden. This is patently unfair. It may also be the only way out of the mess.
Stewart Fleming is a freelance journalist based in London