State borrowing cost ‘five times too high’

The cost of government borrowing compared to Germany is five times higher than it should be — given the strength of the economy — because of instability in the eurozone, according to the OECD.

The Organisation for Economic Co-operation and Development report paints a gloomy picture of the eurozone and global economy, saying there is little sign of a let up with Germany and the eurozone generally entering a technical recession and unemployment continuing to rise.

It offered no solution to the crisis other than applying more of the same remedies, cutting budget deficits and reforming labour and public services, despite showing that this feeds directly into rising unemployment in Ireland and other eurozone countries in the short term.

The Paris-based think tank says that the core EU countries are following in the footsteps of the troubled peripheral countries and predict an even bigger contraction of the German economy than the French over the coming year.

It estimates the rates demanded for lending to all the troubled eurozone economies are way over the odds when the fundamentals of the economies are taken into account, compared to the cost being demanded of Germany.

For Ireland with the country paying close to 6% for 10- year bonds at the moment, compared to 1.42% for Germany, the difference is 452 basis points. But it should be just over 125 basis points, which would mean about 2.6%.

“If the country was judged solely on its domestic fundamentals, the figure would not be as high. The extra demanded reflects a number of risks that are to do with cross-border spillover effects including risks of a euro area break up,” said Paul Van Den Noord, OECD economist.

This does not necessarily mean, however, that should the crisis end that Ireland can expect to pay around 2.6% for its borrowings, said Ireland OECD expert David Haugh. German rates would increase in this event and he expected the Irish rate would be in the region of 4%.

Looking at the current account balance, the OECD estimated that to bring the country’s debt to below 60% by 2030 will require the country to run a surplus of around 7% a year on average. This might not be as difficult as it sounds, said Mr Haugh, as an extra 1% GDP growth a year would have a significant effect on the country’s debt profile.

“The Government should be thinking about how to boost growth over the longer term rather than relying on cutting expenditure and increasing its revenues,” he said.

The OECD cut the growth forecast for Germany to 0.8% from 1.2% for this year, France’s to 0.1%, and Britain’s to -0.7% from +0.5% earlier this year. The only G7 nation expected to do relatively well was the US where third quarter growth is expected to be 2% this year based on final quarter growth of 2.4%.