Irish Eyes Are Crying, Part 5

Just so everyone's sure what's going on re: the coming Greek-style bailout of Ireland, it's not that Ireland needs to borrow money right now, it's that investors in the bank of Ireland are getting their money the hell out of Dublin.  It's a good old fashioned bank disaster.

While the government says it won’t need to raise money in the bond market until the middle of 2011, Irish lenders are depleting the collateral they need to get the emergency funding from the European Central Bank on which they depend. Corporate clients have pulled deposits from lenders including the country’s biggest, Bank of Ireland Plc.

With its lenders frozen out of Europe’s money markets and with their deposits shrinking, the Irish government may be forced to seek the bailout ministers have so far resisted. European Central Bank Vice President Vitor Constancio said today Ireland could use the European Financial Stability Facility to help prop up its banking system to restore investor confidence.

“It’s totally clear that they absolutely must accept external support sooner or later,” said Christoph Weil, an economist at Commerzbank AG in Frankfurt. Confidence in “the banking system is collapsing, and they can’t stop it by themselves.”

Bank of Ireland, the country’s biggest lender by market value, said Nov. 12 it suffered “deposit outflows over a five- to six-week period in late August and early September.” It didn’t provide a figure. The lender lost 10 billion euros ($14 billion) in deposits in the period, Ciaran Callaghan, an analyst at Dublin-based NCB Stockbrokers, estimated today. 

With Europe pulling billions out of Irish banks, the game is now up.  Their banking system is melting down as we speak.  It's just a question of time before the Irish agree to accept the EU's money.

Let's also recall that Ireland took the extreme austerity route as a measure to fix its economy.  What happened instead is that the country's economy plunged deeper into recession if not depression because the government was the buyer of last resort.  That support was taken away.  The result is that in the last three months, Ireland's economy locked up because all the oil was drained out of the engine.  "We had to fix the deficit!  We had to reign in spending!"  They did.

And this is the result.  It made a bailout all the much more likely.

So how are things going across the Irish Sea? Well, figures out today showed that the economy has bombed after briefly flickering into life in the first three months of 2010. There are rumours swirling around Dublin about the viability of Anglo Irish Bank. And the bond markets that were once impressed by the bravery of prime minister Brian Cowen's government have now turned on Ireland with a vengeance.

One measure of market confidence is the difference, or spread, between the yield on Irish government bonds and German bunds. Today that widened to a record level.

The reason for this is simple: the budget cuts have impaired the economy's ability to grow. The Irish government wants to slash the country's budget deficit from 12% to less than 3% by 2014, which would be eye-wateringly tough even if the economy were growing robustly. But when the economy is shrinking, it means the government is in effect running to stand still, hence the calls for even greater austerity to mollify the markets. That would, of course, simply weaken growth prospects still further.

Ireland, in other words, is perilously close to locking itself into permanent depression and deflation, from which the only way out may be a default that would further damage consumer and business confidence. There is indeed a lesson for the UK from Ireland: how not to do it.

And now Ireland is locked into that trap.  It's bailout or bust now.  The UK will be next...and we will follow if we listen to the austerity hawks.