Failure will hasten the IMF’s arrival to our shores
This week the story concerned the sharp rise in Government bond yields in Ireland and Portugal.
The reasons cited for the latest upward spike in Irish bond yields was that the EU agreement last week would mean that investors would have to take a greater share of losses in future state bailouts.
What this basically means is that the investors in countries in financial trouble may not be able to depend on the largesse of the German taxpayer to bail them out in the future. The markets interpreted this as meaning an increase in the risk of sovereign debt default in the event of future fiscal crises.
On Wednesday, 10-year bond yields in Ireland breached 7.5%, over 5% higher than Germany. This is the highest yield in Ireland and the highest differential over Germany since the introduction of the single European currency.
It is effectively expressing a market view that there is at least a 50% probability of the Government defaulting on its debt at some stage.
While Ireland does not have to borrow money at these elevated levels due to all of the debt sold over the past year, it will have to return to the bond markets in the early months of next year. If bond yields are still up at those elevated levels at that stage, then the Government, or more precisely Irish taxpayers, will be faced with an unsustainable financial burden.
The clearly defined task for Government over recent months has been to convince bond market investors of Ireland’s credit worthiness, but to date little success has being achieved.
That is very worrying and will become even more so over the coming weeks if the markets are not impressed with the four-year budgetary strategy or more particularly with the budget itself on December 7.
The stakes are now getting incredibly high and the margin for error is extremely narrow. If success is not achieved, then the IMF will not be too far behind.
Amidst all of this uncertainty, consumers are becoming increasingly nervous again. The ESRI’s consumer confidence index fell for the fourth month in a row in October. This reflects just how scared consumers are by the upcoming budget and indeed the two or three to follow over the coming years. This index is a pretty good predictor of consumer behaviour and the readings do not bode well for the retail sector in the run-up to the most important trading period of the year.
All is not lost however. There is still considerable purchasing power out there in the economy, but consumers are just too scared to spend and are much more inclined towards pre-cautionary saving rather than spending. Who could blame them? Figures from the CSO last week showed that the net savings of the household sector increased from €3.6 billion in 2008 to €11bn in 2009.
The savings ratio, defined as net savings as a percentage of net disposable income, increased from 3.9% in 2008 to 12.3% in 2009.
Consumers need to be given confidence to go out and spend, but there would appear to be a lot of work to be done before this might become a reality. However, the potential does exist.
The extent of the fiscal challenge was highlighted also on Tuesday with an exchequer deficit of €14.3bn recorded in the first 10 months of the year.
The current budget deficit, which is the difference between current revenues such as taxation and the day-to-day cost of running the country, stood at €11.7bn. This, in effect, means that we were spending almost €1.2bn more per month in running the country than we were taking in.
This is not a sustainable situation and has got to be remedied as quickly as possible through a combination of cutbacks in expenditure and increases in tax revenues.
Interestingly, interest costs on our rapidly expanding national debt totalled €3.2bn in the first 10 months of the year, which is equivalent to just over 13% of total tax revenues collected. This figure should focus the minds of those who do not accept the need for the magnitude of fiscal correction that our Government is planning.
