Irish Govt Pledges Bailout, Who’s Next?

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Well, it sure beats trying to secure an inter-bank loan or raising cash from the stock market right now.

“After one of the worst days of trading on the Irish stock market, Ireland’s Government granted a sweeping unlimited guarantee on all bank deposits at its six main banks for the next two years,” reports The Times here in London.

“Brian Lenihan, Ireland’s finance minister, said he had taken the unprecedented action, which starts immediately, to maintain financial stability after Irish banks’ shares collapsed.”

Think of this €400 billion insurance ($560bn) as a “competitive re-capitalization”, more akin than you might guess to those “competitive devaluations” that swept the world when global finance last suffered a Great Depression during the early 1930s.

Back then, national governments fought to squash the exchange-rate value of their own citizen’s money, bidding to grab export share and revive their home manufacturing.

Today, and not quite in contrast, national governments are fighting to squish the risk of collapse amongst their domestic savings and loans – the industry that now matters most – by pumping money into local banks and guaranteeing the security of cash savers.

The competitive bit? It comes in the cross-border flows that tax-funded bail-outs invite.

“The Irish pledge to underwrite the country’s banking system triggered a flood of cash from British businesses to Irish banks,” a senior Irish stockbroker told The Irish Times in Dublin on Wednesday.

“A spokeswoman for the [UK] Post Office – where savings products are backed by the Bank of Ireland – said there had been an increase in customers since the Irish government’s announcement” that it now guarantees all €400 billion ($560bn) of Ireland’s bank deposits, reports the BBC.

Smart move, you’ll agree. Monday saw the Irish Stock Exchange drop a massive 12.7% of its value in the market’s worst ever one-session plunge. Since guaranteed by the Taoiseach, the capital value of Anglo Irish Bank sank by almost one-half. But then, in poured the savings…and up went the ISEQ, jumping by 8% the next day.

“We just want the Irish government to look quite closely at the arrangements they are putting in place to make sure they comply with EU competition law,” said a British government spokesman on Wednesday. He picked his words as carefully as any man should before throwing stones inside his own glass-house.

The UK administration was the first to leap in and seize a failed bank when this global crisis first hit in September last year. Saving Northern Rock from itself, finance minister and Westminster-village idiot Alistair Darling also guaranteed the cash savings of every man, woman and child in the nation during what he laughably called the then “current instability in the financial markets.”

Not that the British nation has a great deal on deposit, of course. As BullionVault has noted before, private-sector debts now outweigh the sum total of all cash, bank savings and short-term near-money bonds in the UK economy (the M4 money supply) by a massive 43%. All too literally, the UK Cannot Pay What It Owes; there simply aren’t enough pounds in the world, neither as paper or photons.

But no matter; because in the new global race to bail out biggest and better, government-backed banks provide just the security which frightened cash savers need. Hence the headlines in London.

“Banks protest at Northern Rock’s unfair advantage,” reported the Evening Standard in February. “Northern Rock rivals complain of unfair competition,” said The Times one month later. Now “Northern Rock cuts mortgage rates as rivals go up,” reports the Daily Mail. But why ever not? Cheap mortgages have been government policy since the Tech Stock Crash on both sides of the Anglo-Atlantic. Higher home-ownership rates became a target and tenet of faith just as much in Whitehall as it did in the White House.

And with interbank lending once again ground to a halt – but with the full weight of tax-payers’ funds stood behind them – what’s to stop Fannie, Freddie, Northern Rock and all the other government-owned lenders from dominating their markets…pumping out tax-funded loans at politically-friendly rates of interest?

Never mind the preferred stock owners in Asia and Arabia, now cursing their part in the $200 billion cash raising somehow pulled off by the world’s major banks between July 2007 and June ’08. Citigroup alone managed to raise $41.7bn amid the frenzy of rights issues, so-called “hybrid” debt (it comes with equity-like rights and thus losses), and sovereign wealth fund injections. Its stock lost two-thirds of its value in the year to mid-summer.

But even after selling $130bn of its assets over that time, Lehmans Bros still collapsed eight weeks later, taking a big chunk of the $8bn in fresh capital it also raised from investors with it. Once bitten, and no doubt needing to re-capitalize financial firms closer to home, all that Korean, Japanese and petro-fund money will now steer clear of Western banking investments for as long as it takes bankruptcy, bail-outs and state nationalization to stop trumping risk capital.

In the absence of new financing, then, let’s apply this week’s Irish Sea cash-flows to the very big picture. For isn’t that movement of depositors’ cash the best Hank Paulson can hope for with his $700 billion bail-out of Wall Street…assuring foreign capital that it’s safe to return to the States, if only as cash-on-deposit rather than equity, because Uncle Sam is underwriting the banks? Doesn’t that risk setting the whole world alight with Irish-style promises, all chasing the same depositors’ funds?

“Everyone knows that a policy of bailouts will increase their number,” as former St.Louis Fed president William Poole said in a speech of late 2006. Calamity Poole, however, was only thinking this moral hazard applied inside the domestic United States.

“Every [US] company, financial or otherwise, knows that if it gets into trouble it is at least worth a major effort to attempt to secure a bailout because there is always a significant probability of success,” he explained, as if looking ahead (without seeing) to the $25bn bail-out of Chrysler, Ford and GM.

The race to rescue, however, has spread far beyond Detroit. Competitive bail-outs are now a globalized game, with tax-payers and savers both set to keep paying.

Adrian Ash
The Daily Reckoning Australia

Adrian Ash
City correspondent for The Daily Reckoning in London and formerly head of editorial at Fleet Street Publications Ltd, Adrian Ash has been studying and writing about the investment markets for the last 9 years. He is now head of research at BullionVault - giving you direct access to investment gold, vaulted in Zurich, on US$3 spreads and 0.8% dealing fees.
Adrian Ash

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Comments

  1. This is yet another example of the Irish milking the monkey that is the EU. Their household debt-to-income ratios are up there with Spain and NZ and Australia in terms of unsustainability. That in turn gives them a relatively small depositor base to cover by government guarantee. And just like their garnishing of a disproportionate share of EU agricultural subsidies, using these regulatory shenanigans they can also nick additional bank deposits from their fellow EU members and shore up their banks just like they shore up their inefficient small block farmers.

    Together with general productivity and fiscal disparities between the likes say of Italy and Germany, and the imperialistic march toward eating up the agricultural east while propping up the subsidised west, you can see the beginnings of a spectactular end to fortress Europe.

    Reply
  2. It’s looking like every country for themselves, its time to look up the history eg 1930, 1890 depressive scenarios 1 & 2 to seek ways to defend our families, because as sure as….. our leaders and greed gurus are going to leave the people to their own devices. Peter Schiff has a castigating comment on how the USA has been really hogging all the planets wealth as they continue to steal yet more from the international capital base ie $700B, he has a book called ‘crash proof’. But at current artificial $US value would not the amount owed increase once the US goes into tail spin, the dollar with it? ~ or am I missing something and the US have attempted to make themselves more ‘crash proof’ by still owing the same amount in artificial terms? Well I mean after US reckon that God is an American.

    So what I’m thinking here is that Ireland is at least playing by the rules sneakingly but the US are not grabbing what they can whilst they can. As an Aus I reckon our treasury should be dumping the US dollar for bullion, as quick as…. but they won’t because Aus will do what they did in the last Great Depression (GD2) and snivel. Aus sniveled up to the UK gold standard which made Aus worse off during the GD2 we had a total lack of Governmental initiatives and Aus did far worse than other Western countries.

    NZ would be doing a lot worse if it weren’t for the convenience of dumping their displaced population onto Aus. They rely on the Aus Defense Force because NZ dispensed with theirs, so much for ANZUS.

    CRASH PROOF AUSSIE STYLE: My advice to Aussies if and when the depression hits, if you have no income and no place to live and if you have a car (get one), head for northern Queensland or NT, and squat on Government land, I don’t think they can kick you off. You will be warm in winter, you don’t need a lot of clothes and there’s is plenty of water, and you can grow some staple food and trade your surplus for bread, etc. Forming small communities for protection is ok you can catch crocks and fish……..say no to the Government taking your children to WW3 and when its all over, the GD3, this time look at better ways of Governing the country and economy, because as sure as…… we are not getting it right.

    Charles Norville
    October 6, 2008
    Reply
  3. The Human Face of the Great Depression

    I would like to recommend Michael Cannon’s “The Human Face of the Great Depression” in this regard. On the back cover it has this review:

    “The crisis…

    “This deeply affecting book tells the story of what happened to individual Australians during the devastating Depression which swept the western world during the 1930s.

    “Political events are included, but the author’s main theme is the tragedy of smashed families, unnecessary suffering, and stoicism in the face of heavy odds…”

    The photos alone are worth a view.

    I would also recommend “Two Australian Depressions, One Banking Collapse” by Chay Fisher and Christopher Kent, a June 1999 Research Discussion Paper available as a download on the rba.gov.au website.

    I would also recommend “The 1930’s and the 1980’s: Some Facts” by P.D. Jonson’s and G.R. Stevens, a September 1983 Research Discussion Paper available as a print copy from the RBA – an electronic version of this paper is not available.

    From “Two Australian Depressions, One Banking Collapse”:

    “Over the past 150 years, Australia has experienced two macroeconomic depressions, both of which coincided with worldwide depressions. The first of these was in the 1890s and the second in the 1930s. These were also times of financial distress both domestically and in the rest of the world. For Australia there were many similarities across both depressions… in this paper we highlight one of the major differences between the two depressions. Namely, the 1890s involved the collapse of a significant proportion of the Australian financial system, whereas the disruption to the financial system in the 1930s was comparatively mild…
    “The central argument of this paper is that variation in the performance of the financial system across the two depressions was primarily due to variation in the condition of the financial system prior to each depression. We show this by examining the behaviour of a range of indicators of financial stability over the decade prior to each depression. These indicators are:
    (i) the level and nature of investment;
    (ii) property market speculation;
    (iii) credit growth;
    (iv) capital inflows;
    (v) degree of risk management within the financial system; and
    (vi) competitive pressures in the financial sector.
    “Each indicator suggests that the financial system during the 1880s was becoming increasingly vulnerable to adverse shocks. During that period there was a sustained increase in private investment associated with extraordinary levels of building activity and intense speculation in the property market. This was accompanied by rapid credit growth, fuelled in part by substantial capital inflows (much of which appears to have been channelled through financial intermediaries). At the same time, banks allowed their level of risk to increase in an attempt to maintain market share in the face of greater competition from a proliferation of new non-bank financial institutions.
    “In contrast, if anything there was only a moderate decline in measures of financial system stability during the 1920s compared with the 1880s experience. It is therefore not surprising that whereas the financial system essentially collapsed following the substantial shock to real output in the first year of the 1890s depression, a shock of at least the same magnitude during the first year of the 1930s depression had relatively little impact on what was clearly a more robust financial system.
    “Historically one of the major causes of financial instability has been rapid increases in bank lending in conjunction with unsustainable rises in asset prices. In recent times the catalyst for this process has been financial deregulation. In a way, this force was also present in the 1880s. The Australian banking system in the 1800s had operated under direction of the British Treasury in accordance to the ‘real bills doctrine’, which among other things prohibited lending backed by land. However, Pope (1991) suggests that after the arrival of ‘responsible government’ in the 1850s, these regulations were largely ignored and banks increasingly engaged in lending for speculative purposes. Increasing willingness to ignore the real bills doctrine was at least in part a response to increasing competition from non-bank financial institutions”.

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  4. “The Hungry 1890s”

    I perhaps should have included in the recommended reading the chapter entitled “The Hungry 1890s” from Michael Cannon’s book “The Land Boomers”; (see also John Simon’s RBA download below).

    A quote from the book, see below, is at the top of my article “Sydney House Prices to Crash at least 50%”.

    “The land mania of the 1880s took two main forms. The first was based on a plethora of building societies, whose optimistic officials believed that every family in the colony could simultaneously build their own house, keep up the payments through good times and bad, and support an army of investors who were being paid high rates of interest for the use of their money. The second form of mania was the deeply-held belief that it was impossible to lose money by ‘investing’ in land – a belief which persists to the present day” (Michael Cannon, The Land Boomers, (Melbourne: Lloyd O’Neil, 1986), p.18).

    Also from my article:

    Bust 1890s

    “The crash began in 1891. Land values fell to levels around one half their boom levels. In addition … data on individual suburbs are available. In Prahran, prices peaked at an average of over £1,000 per property in 1888 and fell to £520 by 1898. Similarly, in Brighton, average property values peaked at around £950 in 1888 and then fell to around £400 in 1893 and £300 in 1898. A comparison of these data to the accounts in Cannon (1966) suggests that the picture is fairly accurate but may understate the speed of the bust. For example, Cannon writes that, ‘by the end of 1891 the bottom had completely dropped out of the land market … In Collins Street, sites for which £2,000 a foot had been rejected a short time before, were now being offered for £600 a foot – and could not find buyers even at that price’ (Cannon 1966, p. 18)” (John Simon, Three Australian Asset-price Bubbles, rba.gov.au, 2003, pp.22-23)…

    Bust 1920s/30s

    “The world depression found Australia unable to meet her repayments, and the boom was rapidly translated into a disastrous slump. The average price of a house in Sydney fell from the 1925 level of £959 to £668 in 1935, but this was a bonus only to those who had money… for the years 1931 to 1934, building in Sydney came to a virtual standstill” (M.T. Daly, Sydney Boom Sydney Bust, (Sydney, George Allen & Unwin, 1982), p.169).

    Over ten years, from 1925 to 1935, average Sydney housing prices fell 30.3 per cent…

    Trade and debt

    “Is our lifestyle being financed … by the proceeds of others’ savings gluts?
    “… albeit a long way behind the US, the pumped up … [Australia]… happens to possess the fourth biggest external deficit on the planet…
    “Australia’s external gap is now more than half due to the net income deficit on interest and dividend payments.
    “… fingers need to be crossed that prices do not fall far from their present position in the top 5 per cent of the last half-centurys experience. Any meaningful reversion would drastically limit future macro-economic policy options” (Barry Hughes, RBA silent on imbalances, AFR, October 19, 2005, p.70).
    “Australia has become the second largest consumer of international capital…
    “A report to be published overnight by the International Monetary Fund shows Australia absorbed 4.1 per cent of the world’s surplus capital in 2003. This equalled Britain and was second only to the US, which consumed 71.5 per cent…
    “The deficit shows Australia is paying far more to the world in interest, company dividends necessary to service this foreign capital, as well as for imports of good and services, than it receives in return” (John Garnaut, Into the big borrowers’ league, smh.com.au, April 6, 2005).
    “Germany was easily the largest debtor nation, and in the period 1925-1929 she borrowed four times as much as Australia, the next largest debtor” (C.B. Schedvin, Australia and the Great Depression, (Sydney, Sydney University Press, 1970), p.39).
    “The closure of the London money market to Australian long-term borrowing… [and] the rapid accumulation of short-term debt in London which followed in the second half of 1929 and in 1930 was the most important single factor in shaping depression policy to mid-1931. The interaction between the pressure this debt exerted and the instrumentalities of domestic policy formation is an important theme… Australia found herself in a much more embarrassing position on the eve of the world depression than other large debtor nations” (Schedvin, p.106).
    “It did not take long for the [Scullin Labor] administration to appreciate that the heavy adverse trade balance was the most urgent problem that it had to deal with, for the growing trade deficit was primarily responsible for the deterioration in Australia’s international credit rating and was also giving rise to speculation that the country would be forced to default on interest payments due abroad” (Schedvin, p.140).
    “In the year 1932, just over 30 per cent of Australian breadwinners were out of work. Unlike the 1890s, this was a world-wide depression: but Australia’s ability to cope with it was gravely impaired by its heavy overseas debt…
    “How did Australians manage to work their way out of the difficulties? They traded their way out of trouble. That’s the modern, glamorous way of expressing it, but in fact they sweated their way out of it. They reduced their imports and increased their exports. Unfortunately, I doubt whether we could expect to “trade our way out” very easily [today].
    “… the extent of unemployment experienced in the early 1930s rapidly cut down the import bill… Thus in the year 1928-29, Australia’s total import costs £130 million. They cost only £51 million three years later. In case you think that changes in money, including the first big currency depreciation in our history, mainly caused this sharp fall, let me specify how the actual tonnage of imports fell away.
    “In the two years after 1929-30, imports of motor cars chassis fell from 62,000 to 4000. In the same two years the imports of electric cables and wires fell from 15,000 to 2000 tons. The impact of petroleum – our consumption of petroleum – was almost cut in half. The imports of whisky fell to a mere one-sixth, and in this era of the sardine sandwich even the imports of tinned fish were halved.
    “… we will not be able, in a future debt crisis, to fight our way to solvency with such ruthless cuts in imports.
    “Nor are we certain to ease a future debt crisis by the kind of speedy recovery in export prices seen in the past…” (Geoffrey Blainey, Our extended Australian family: over-extended or third time lucky, The Australian, March 2, 1990).
    Australia quickly recovered its 1929 sharemarket high primarily because its economy was based more on raw materials, than on industrials, and because its economy was not as closely tied to the United States and Europe as many other countries (Brian Taylor, Could this decade be the next 1930s? gold-eagle.com, December 13, 2002).
    The Australian sharemarket rose 196.1% from December 1916 to February 1929. It then fell 46.3% from February 1929 to August 1931.
    The sharemarket recovered its 1929 high in October 1934. (Brian Taylor, ibid.,).

    Reply
  5. Hi, i am a self confessed numbskull when it comes to economics but i was wondering if all this wealth is just disappearing into thin air, then why does the creation of money out of thin air create such an imbalance. surely it is the same amount just redistributed?

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  6. I don’t know if I’m that much better on economics kathy, but our leaders seem to know how to stuff things up so they are not much better and I was just mooting (above) how we mere mortals can empower ourselves to protect our families because as ‘watcher7’ suggests depressions cause severe social dislocation.

    The references given by ‘watcher7’are worth the understanding of history “Two Australian Depressions, One Banking Collapse” can be read for free. You will see that population demand and property speculation are two essential drivers for the 1880’s depression. We are seeing banks right down their paper profits because the credit outstrips repayment. Economies do not have physical money to cover all our assets so we use a thing called equity. In fact I would doubt there would be enough physical money to pay in cash all the wages of Aussies in one week. You see runs on banks and people buying physical precious metals that’s why governments in global economies are guaranteeing bank deposits. Aus government has not done this.

    You can see how the whole credit thing moves and when it stops, business stops, people need advances for things and can’t rely on carrying around a money belt full of cash or coins.

    You can see also that depressions like recessions are necessary because humans create these bubbles and like a snake shedding its skin renews itself.

    Technology is the tool used to form adjustment to renewal and when you think about it the 3rd world is in a continuous depressive state. They are inherently stuck between the old world and the new which is relative to us all – when you see the images of socially depressive states in our part of the world the images are haunting even as history past.

    Humans population will reach the end of the expansion capacity when technology slows the need for labour towards zero. Nanotechnology will make the cost of labour irrelevant which is a scary prospect for large populous economies. But I’m not sure how nanotechnology will change the capacity need for credit.

    Charles Norville
    October 7, 2008
    Reply
  7. Now I know why there were dark ages threw out history

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  8. kathy, allow me to take a stab at that one.

    “wealth” is not disappearing into thin air, perceived wealth is. See, “wealth” was overstated to begin with, so everyone feels like they’re getting poorer, but they’re not. They just didn’t realize how poor they were before, and now they are forced to come to that realization. Real wealth is not changing, although yes you are right by saying that inflation will redistribute it. It always favors one group over another.

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