VoxEU Column Europe's nations and regions

The IMF’s analysis of the Irish bailout

The Editors
/

17 Nov 2015

The IMF, together with CEPR and the Central Bank of Ireland, put on a conference that drew lessons from Ireland’s bailout package titled “Ireland: Lessons from its Recovery from the Bank-Sovereign Loop”. This column summarises the contributions by Eichengreen, Fatás and Schoenmaker, as well as panel comments by Christine Lagarde, Benoît Coeuré, Michael Noonan, and Valdis Dombrovskis.

The proceedings have been published online:

IRELAND: Lessons from Its Recovery from the Bank-Sovereign Loop

This column presents key extracts from the publications.

Paper by Barry Eichengreen: “The Irish Crisis and the EU from a distance”

History is littered with banking crises – a fact that renders Ireland’s 2008 crisis less than unique. What is special about the Irish case is that it was the first banking crisis in a country that is a member of the Eurozone. As such, Ireland, its government, and its central bank faced distinctive constraints when the crisis struck. The central bank could not expand its balance sheet at will – it could not print money to bail out the banks. It could provide Emergency Liquidity Assistance (ELA) but subject to assent of the ECB, a body on whose governing council it had just one vote. As a member of an economic and monetary union characterised by a single financial market, Ireland came under pressure to minimise destabilising spillovers to its European partners.

Conversely, the Irish economy and financial system were unusually strongly affected by events, policies, and decisions elsewhere in Europe. Here one might cite the onset of recession in other Eurozone countries, the policies of the ECB, and the rescue package provided by the EU and the IMF. Those strong effects then continued to be felt in the restructuring of the obligations to the European System of Central Banks that the country incurred in the course of resolving its crisis and in the implications for the country of the EU’s efforts to construct a banking union, an initiative in which Ireland’s own experience had no little influence.

This paper reviews the role of the EU and its institutions in the Irish crisis. The author is conscious that he is likely to be seen as carrying coals to Newcastle or, in this case, Dublin. Others in the room will be closer to the Irish case and better informed about its details. Still others will be better informed about the inner workings of the EU. The goal of this paper therefore is not to provide a detailed account of the crisis and EU response, but rather to offer some reflections on how Ireland’s status as a member of the EU and the Eurozone shaped its crisis in distinctive ways. Another caveat is that it is not possible to discuss the role played by the European Commission and the ECB without considering also the third member of the troika: the IMF. Happily, the organisation of this conference, of which the IMF is co-sponsor, signifies recognition of this fact.

Paper by Dirk Schoenmaker: “Stabilising and healing the Irish banking system: Policy lessons”

Ireland has recovered from an historic banking crisis. This paper reviews the policies to restore order to the Irish banking system. The overall assessment is that the Irish authorities have been successful in the management of the country’s banking crisis.

On balance, there was a strong focus on stabilising banks (restoring solvency, replacing management, and closing bad banks), but less emphasis on restructuring loans. The Irish banks are not yet healed, with 25% non-performing loans. A small but important group of highly indebted households and firms cannot resume consumption and investment due to debt overhang. Intensifying write-offs of bad loans would broaden the economic recovery.

The Irish taxpayers have been brave in shouldering the full costs of recapitalising the Irish banking system while part of the resulting stability benefits accrued to the wider European banking system.

In the new Banking Union setting with ECB supervision of the large Eurozone banks, we recommend that the European Stability Mechanism (ESM) directly recapitalise troubled banks after resolution measures are taken. The ESM would then become an effective vehicle for risk-sharing and would cut the bank-sovereign loop.

Paper by Antonio Fatás: “Putting the budget on a sound footing”

This paper analyses fiscal policy developments in Ireland during the past six years. Despite the significant fiscal progress during the 1985–2007 period, the large increase in government debt after 2008 led to a full-blown sovereign debt crisis and the need for a large fiscal consolidation. The adjustment that followed, while necessary, led to a debate between those who argued that it was too fast and others who believed that it was not aggressive enough.

This paper presents the arguments as well as empirical evidence to assess the costs and benefits of different speeds of fiscal consolidation. We conclude with some insights on the fiscal path ahead.

High-level panel discussion

A high-level panel – Ireland’s Finance Minister Michael Noonan, IMF Managing Director Christine Lagarde, Benoît Cœuré from the Board of the European Central Bank, European Commission Vice-President Valdis Dombrovskis, and moderator Wolfgang Münchau of the Financial Times – drew broad lessons from the Irish experience.

Noonan highlighted that the problems of the Irish banks became the problems of the sovereign. Although efforts to contain the cost to taxpayers were made, there remained a legacy cost, especially from Anglo-Irish banks. He had favoured bail-ins rather than bailouts, and regretted that the ECB had directly refused any burden-sharing with holders of senior bank bonds. Although the subsequent development of bank resolution policy had provided for such bail-ins, it was disappointing that this lesson had been drawn too late for Ireland.

On this issue, Cœuré noted that the decision not to have bail-ins of holders of senior bank bonds was taken at a time when the framework was different, where the dominant view in Europe and globally was to offer bailouts to avert financial stability concerns. Regarding the amount of bonds potentially subject to bail-in, he considered them not significant relative to the large-scale financial support provided under the programme and also by the ECB. Nonetheless, the ECB supports the progress made on adopting bail-in rules for Europe that will reduce uncertainties going forward.

In drawing lessons from the programme, Noonan urged that programme design focus on ultimate objectives and allow flexibility. Actions and deficit targets should be a means to an end, not goals in themselves. “Success can only be measured by the impact that is made in the lives of the people,” he said. “There must be more potential to modify a programme if some aspect is not working.”

With Ireland expected to return to pre-crisis output peak levels a year ahead of the Eurozone average, the Commission’s Valdis Dombrovskis certainly saw Ireland’s programme as successful. He hailed the Irish authorities’ ownership of the programme, which in practice was built largely on Irish reform initiatives, as a key factor contributing to that success. He noted that such ownership was critical for effective social dialogue in order to ensure a degree of understanding and acceptance of the programme. He also highlighted the benefits of front-loading fiscal adjustment as a means to restore financial stability and growth, although in Ireland’s case there had also been some phasing of adjustment.

IMF Managing Director Christine Lagarde saw many positive lessons, yet also some areas where the programme could have done better. She highlighted the clarity of purpose of the programme, with a focus on banking stability, regaining market access, and fostering recovery; this was, in part, a benefit of the lesser need for structural reforms in Ireland than in other European countries. She agreed that ownership was critical, benefiting from the fact that the authorities had already started to address challenges before the programme. Outstanding communication by the Irish authorities, the strong capacity of Irish officials to design and implement policies, and the building of trust between the authorities and the Troika teams were critical human factors for success. Among the areas where the programme could be improved, she noted that recapitalisation of banks is necessary but not sufficient to restore their health, and more progress on reducing distressed loans would have been desirable.