The economists’ view
THE bailout, provided by a medley of different lenders, gives Ireland enough money to refinance maturing debt over the next three years and recapitalise its banks.
The newly recapitalised banks should be able to fund themselves from the European Central Bank and ultimately from the markets. And the state will get funds with an average seven-and-a-half year maturity, easing immediate refinancing pressure when the programme ends. It will even have an extra year if needs be, until 2015, to reach the target of a budget deficit contained within 3% of GDP.
The lending terms aren’t ideal for Ireland: the bailout looks both expensive, and lacking in transparency, because of the many different lenders.
Still, the 5.8% interest rate is roughly in line with what was asked of Greece, after adjusting for the longer maturity.
The package also contains good news for other ‘peripheral’ governments. Europe has decided not to haircut Irish bank senior creditors. That should make it easier for banks in those countries to roll over their debt, and keep funding their governments. Greece will be able to extend the maturity of its loans too.
Whether these latest developments are enough to appease the markets is debatable, and one can’t help the feeling that the focus will now move away from Ireland and on to Portugal and then Spain, and that’s a skittle the eurozone can’t easily afford to let fall.
IN order to limit potential global contagion, the rights of senior bondholders will be protected. Government sources suggested that the subordinated bondholders of AIB and Bank of Ireland are to share in the cost of the recapitalisation, though most likely on a voluntary basis (no details as of yet). This would have the effect of reducing the elevated interest payments attached to these instruments, benefitting future earnings.
The litmus test for the bank’s capital contingency funds will be to see whether access to term funding markets is restored, eventually, on an unguaranteed basis. Though until the economy is on a more stable footing, state guarantees are likely to remain in place, keeping earnings under pressure. Central bank reliance is expected to persist until the liquidity environment shows tentative signs of improvement. Overall the proposed Irish banking restructuring appears to be on significantly more shareholder friendly terms than previous reports suggested.
The risk of immediate dilution has been averted, affording management the flexibility to articulate investment cases and reduce risk weighted assets over the coming months. While we are slightly disappointed that the issue of loss making tracker mortgages isn’t directly addressed, the sector will benefit from monitored deleveraging as wholesale reliance is curtailed.
ON the key issue of the interest rate, the Government indicated that it will be an average of 5.8%, with the loan term being 7.5 years, in line with the current average maturity of Government debt. We had assumed an average interest rate of 6% on new debt issuance in our forecasts, so the rate is still within this.
As regards the banking costs, the immediate €10bn, if it needs to come from the Government, is likely to come from the NPRF, meaning that it will not have an effect on the debt level. The majority of any further funds would have to be borrowed, and would thus push up the debt level. If the full €25bn were borrowed by the Government, it would push up our peak debt level from 115% to 128% of GDP. The loans come with conditions, with those conditions being similar to the reforms already announced in the last week’s four-year plan. It is clear to us that the four-year plan was very much completed with this in mind.
Another significant part of the announcement was that in recognition that fiscal austerity will have negative implications for economic growth, Ireland has been given an extra year — to 2015 — to reach the 3% of GDP budget deficit target. This confirms that the EU believes that the economic growth projections published earlier this month are too optimistic. It does not mean that the requirement for €15bn in spending cuts and tax increases will be reduced. The hard work starts here in terms of bringing about the necessary restructuring of the banking system and implementing a painful austerity package.
IRELAND has been given until 2015 to reach the 3% deficit to GDP target, which is far more realistic. We had seen the deficit to GDP ratio at 4.4% in 2014. In terms, of the impact on the debt to GDP ratio, the upfront €10bn injection into the banks will be added to gross debt. Ireland, however, is utilising €17.5bn of internal resources which will reduce the increase in gross debt, but will affect the net debt number.
As such, we see gross debt to GDP at 110%, versus 114% previously, in 2014 assuming no more capital drawdowns by the banks. Ireland will thus still be highly vulnerable to any shock or any further drawdown of the €25bn contingency fund, which, if fully utilised would take gross debt to GDP to 125% in 2014.
THE Central Bank will run an enhanced PCAR (Prudential Capital Assessment Review) in March and if banks are assessed to be at risk of falling below the new 10.5% hurdle, further capital injections will be required.
It has also announced plans for a PLAR (Liquidity Review) which will set specific funding targets, consistent with Basel 111 and other international measures of stable, high quality funding.
Banks are required to come up with asset disposal plans by end April 2011. In this respect the offer of state credit enhancement may make securitising British mortgage books a more realistic prospect.
It looks like banks will be given some leeway to raise the capital themselves; in this respect Bank of Ireland has issued a statement confirming it intends to seek to generate the required €2.2bn capital through a combination of ‘internal capital management initiatives, support from existing shareholders and other capital markets sources’.
Any prospect of targeting senior debt has been ruled out by the Government, but subordinated debt may play a role.
The bank notes the Irish Government will subscribe for the incremental capital, should it not be in a position to raise sufficient capital within the proposed timeframe.
In IL&P’s case the group was confident it could raise its previous €145m requirement from internal sources and has issued a statement confirming it also expects to get the additional €98m from internal resources.
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