IMF Survey : Ireland Shares Lessons After Its Recovery From The Sovereign-Bank Loop
February 6, 2015
- Irish recovery off to a good start
- Banking sector stabilized and fiscal consolidation efforts on track
- Strong and lasting growth needed to create more jobs
Ireland is on the road to a strong recovery from its bank crisis but faces challenges ahead amid weak growth in Europe, according to participants at a conference in Dublin.
A conference in Dublin on January 19 brought together Irish government representatives, European officials, academics, journalists and the IMF’s Managing Director to discuss lessons from Ireland's recovery from the sovereign-bank loop. The event was organized by the Central Bank of Ireland, the Centre for Economic Policy Research and the International Monetary Fund.
The conference acknowledged that strong recovery was underway, benefiting from the impressive banking and fiscal reforms implemented by the Irish authorities as well as from broader European efforts to overcome the euro crisis. The important role played by the Irish authorities’ strong ownership and implementation capacity was recognized, while urging caution to remain on a path of reforms and consolidation to secure lasting recovery.
"The objective of our gathering is to draw lessons not just for Ireland, the EU and the IMF but also for other countries that are facing similar challenges now,” said Brendan Howlin, Minister for Public Expenditure and Reform, in his welcoming remarks.
Patrick Honohan, Governor of the Central Bank of Ireland, said the program supported by the EU and IMF had been “a significant success, without which the well-being of the people of Ireland would be much lower than it is today.” He reminded the conference participants of the doubts of success in 2010 and the high risk factors, which subsequently dissipated. In his view, the policies that followed had delivered market confidence and stabilized finances. “The rest is up to us, Irish policy makers and the Irish people, to complete the recovery of the economy,” he concluded.
The conference covered key aspects of the Irish program, with sessions on stabilizing the banking sector, putting the fiscal sector on a sound footing, and the role of euro area policies in regaining market access and more broadly. Each session was supported by a paper prepared by an international academic expert.
The way it was
Ireland needed to seek external financing from the EU and IMF in late 2010. This was the culmination of a severe banking crisis in the wake of a major property boom-bust cycle. The last act in the process saw the operation of the “sovereign-bank loop”—a vicious cycle where uncertainty about banks’ health fed into doubts around the sustainability of public debt, which only added to fears about the banks. In these circumstances, the government lost access to market financing at manageable interest rates.
Ireland’s program, supported by the EU-IMF, therefore had three main goals: restoring stability to the banking system; regaining market access for the government; and restarting economic recovery. A large banking recapitalization in early 2011 contributed to a stabilization of the deposits and other bank funding. Market access was progressively regained from mid-2012, such that the government was able to exit the program at the end of 2013 and rely fully on market financing on highly favorable terms.
Recovery took longer to emerge, with the first signs seen in job creation during 2012-13. But Ireland’s recent economic figures have surpassed even the most optimistic expectations. Growth, at around 5% in 2014, was led by strong exports and investment, and is expected to be highest in the euro zone.
Unemployment is down to under 11% from 15% in 2012, though it is still high by pre-crisis standards. While the recovery is set to remain solid this year, there are risks, including weak EU growth.
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 Munchau of the Financial Times—drew broad lessons from the Irish experience.
Irish Finance Minister Michael Noonan said program design should focus on ultimate objectives and allow flexibility. Actions and deficit targets should be means to an end, not goals in themselves. “Success can only be measured at the end point that is made in the lives of the people,” he said. “There must be more potential to modify a program if some aspect is not working.”
“The Irish economy has been an outstanding success over the last years and months,” said ECB’s Benoît Cœuré, while warning against complacency. On lessons learned, he underlined flexibility as a key element in Ireland’s success, as it helps cope with shocks.
European Commission Vice-President Valdis Dombrovskis said he considered the program in Ireland to be successful and he noted that Ireland had recovered quicker than the euro zone on average. He hailed the Irish government’s ownership of the program, along with “front loaded fiscal adjustment” since "financial stability is a precondition to economic growth.” Challenges remain in the current context of low growth in Europe, he warned.
IMF Managing Director Christine Lagarde highlighted clarity of purpose, financial and fiscal focus, ownership by the Irish authorities and resilience to stay the course as key factors to a successful exit from the crisis in Ireland. But in her view, “most important was the human factor” and she praised those who had conducted the programs and built trust.
Stabilizing and healing the banks
Dirk Schoenmaker (Duisenberg School of Finance) argued that Ireland was a success case for tackling severe banking crises. Yet he noted the large share of loans still in distress, and argued the bank recapitalization should have been made contingent on bad loan write-offs to reduce borrower debt overhang.
Looking ahead, he said that macro-prudential tools and an independent Financial Stability Committee are necessary to dampen credit and housing cycles. At the European level, strong banking supervision and direct recapitalization are key to improving financial stability and resolving banking crises, in his view.
Discussants covered the role of NAMA, an agency to manage bad loans, the possible merits of writing down smaller loans and the effect of reforms on competition in the Irish banking sector. The high headline ratios for bad loans did not reflect the resolution progress banks had made according to Ann Nolan of the Department of Finance. Banks had needed extraordinary liquidity assistance at the height of the crisis, but had performed well in the latest stress tests, said the ECB’s John Fell.
Putting the budget on a sound footing
Antonio Fatás (INSEAD) said debt sustainability is not guaranteed in the euro area, given that low growth slows debt reduction and negative shocks may reoccur. In many countries, he considered that the fast speed of fiscal consolidation had proven self-defeating. While estimates for Ireland remain under debate, he said Ireland’s adherence to all fiscal targets was remarkable and required large sacrifices.
Discussants raised questions on the relationship between cuts in expenditure, the impact on growth, and reducing the deficit. They welcomed the strengthening of Ireland’s fiscal institutions in response to the crisis.
Market access and Euro Area policies
Barry Eichengreen (University of California-Berkeley and University of Cambridge UK) argued that European integration facilitated financial exuberance and vulnerabilities were overlooked. In his view, rules of the euro area and EU, as well as the risk of spillovers, constrained Ireland’s crisis response. For instance, the blanket guarantee from 2008 was “ill-devised and regrettable” yet understandable as other EU defense mechanisms were absent.
Discussants examined shortcomings in internal and external controls before the crisis. Colm McCarthy (University College of Dublin) argued that Ireland would have had a smaller bubble and more options had it not been a member of the euro area. Alan Ahearne (National University of Ireland, Galway) said Europe and European policies had initially contributed to loss of market access but later acted positively to help Ireland regain it.