Ireland’s Promissory Note Deal

Ding dong the wicked bank is dead.  Anglo Irish Bank is no more.  Its successor, the Irish Bank Resolution Corporation is being liquidated.  Unfortunately, its legacy of debt piled on the Irish public’s shoulders is not dead.  Still, last Thursday’s announcement, which saw the infamous promissory notes replaced with a series of very long-term bonds, is a useful step in reducing the burden associated with the IBRC.  Credit is due, in particular, to the Central Bank of Ireland Governor, Patrick Honohan, who oversaw new arrangements being put in place that secured the approval of the ECB Governing Council.

European Day Of Action: Protest March Begins O...

(Photo credit: infomatique

In this post, I discuss the new arrangement and put some numbers on its benefits.  I also discuss some of the objections to the deal that have been raised in Ireland and conclude with a discussion of some of the legal issues considered by the ECB when approving the deal.

Some History

IBRC was created from merging two institutions that had borrowed extraordinary amounts of money under an Extraordinary Liquidity Assistance (ELA) program from the Central Bank of Ireland to pay off creditors.  This money was created with the approval of the Governing Council of the ECB.  The Irish government provided guarantees to the Central Bank of Ireland that these loans to the state-owned IBRC would be repaid.  The repayments would see the money created by the original loans taken out of existence.

To allow the IBRC to repay its loans (and to provide collateral for those loans) the Irish government agreed in 2010 to provide it with so-called “promissory notes”.  These notes provided the bank with payments of €3.1 billion per year over the next decade from the Irish government, approximately 2 percent of Irish GDP each year.   In calculations I reported here before, I estimated that IBRC would have paid off its debts to the Central Bank by 2022.  While the promissory notes had additional payments scheduled for years after 2022, these payments could have been cancelled and the bank liquidated.

Instead, the IBRC was liquidated last week.  However, rather than the Central Bank of Ireland taking possession of the promissory notes, an agreement was reached to rip up the promissory notes and instead provide the Central Bank with €25 billion in new very long-dated bonds.

 

The New Bonds

As described here, the new bonds have maturities ranging from 27 years to 40 years with a weighted-average maturity of 34.5. So this means no repayment of principal on these bonds for 27 years.  The bonds carry a variable interest rate that tracks six-month Euribor rates with an average additional margin of 263 basis points.

The impact of these interest payments on the cost of the transaction will change over time.  At first, the bonds will belong to the Central Bank of Ireland.  However, the Central Bank hands back its surplus income to the Irish Exchequer, so these interest payments can be considered a circular transaction in which interest is handed over to the Central Bank to eventually be handed back to the Irish government.

Crucially, however, the Central Bank of Ireland has agreed to dispose of the bonds over time by selling them to the private sector. This will gradually increase the amount of interest that is being paid out and not simply returned by the Central Bank. A presentation from the Department of Finance states:

The Central Bank of Ireland will sell the bonds but only where such a sale is not disruptive to financial stability. They have however undertaken that minimum of bonds will be sold in accordance with the following schedule: to end 2014 (€0.5bn), 2015-2018 (€0.5bn p.a.), 2019-2023 (€1bn p.a.), 2024 and after (€2bn p.a.)

If this minimum amount of sales is stuck to then it will take until 2032 for all the bonds to be in private hands.  On Irish television on Sunday, however, Patrick Honohan said the bonds would be sold  “as soon as possible” but also said he didn’t see pressure from the ECB being applied to force a quicker pace of sales than the minimum agreed last week.

The fact that the bonds need to be sold to the private sector (and at an uncertain pace) means that claims that the deal “pushes the cost out over 40 years at low interest rates” are not entirely correct.

If the Irish government was able to borrow large amounts of money now over 40 years at Euribor plus 263 basis points then they would have done so and used the money to retire the promissory notes and liquidate IBRC.  At present, we can have no guarantee that the sales of these bonds will occur at par value.  If private investors in the future are only willing to purchase these bonds at higher yields than the Euribor-plus-263bp coupons, then the Irish government (in the form of its Central Bank) will incur a loss on these sales.  So while it turns out the new arrangements place a far lower burden on Irish taxpayers over the next few years, they don’t “kick the can” of refinancing the IBRC debt quite as far down the road as many have been assuming.

Some Calculations

Here is a spreadsheet that I’ve put together that allows for a comparison of the new arrangements involving €25 billion in new bonds with how this €25 billion would have been paid off under the previous promissory note structure.  The calculations of the annual cost of the promissory notes are along the lines of those reported in my post from last November.

Importantly, the spreadsheet assumes that bond sales correspond to the minimum described above, so the estimated benefits will be lower if the bond sales are faster.  It also assumes that the sales of private bonds will occur at par value and won’t add to the estimated costs.  Future Euribor rates up to 2024 are estimated by deriving forward rates from the mid-swaps interest rates reported in Friday’s Financial Times and then held constant for subsequent years.

A summary of the calculations:

  • The promissory notes would have paid off the €25 billion in 10 years, meaning an average net cost of €2.5 billion over the next decade. This is lower than the annual €3.1 payment because some of the payments would have taken the form of interest payments to the Central Bank which could have been returned to the government.
  • In stark contrast, the total net payments under the new arrangements over the first decade are only €1.4 billion. While I project €11.2 billion in total interest payments through 2022, all but this €1.4 billion go to the Central Bank.  In this sense, the new arrangements provide a very substantial relief over the next decade relative to the previous ones.
  • Slightly less positive is the fact that €6.5 billion in long-term bonds must be sold up to 2022. From the point of view of financial markets, these sales will be treated in pretty much the same way as new bond sales. They represent the Irish public sector incurring a new debt to the private sector.  So the new arrangement leads to financing demands of €7.9 billion over the next decade (€1.4 billion to pay the interest and €6.5 billion in bond sales) relative to €25 billion required under the promissory notes.
  • After 2022, the new arrangements become more demanding. The decade 2023-2032 sees €9.6 billion in interest payments to the private sector and €18.5 billion in bond sales.  The decade 2033-2042 sees €13.8 billion in interest payments and €4 billion in principal payments. Finally, 2043-2053 sees interest payments of €7.36 and €21 billion in principal payments.

There are a number of ways to think about the benefits of the new arrangements.

  • With the public debt ratio now over 122 percent and investors potentially concerned about the prospects of sovereign debt restructuring taking place if the debt ratio cannot be stabilized, the dramatic reduction in financing requirements over the next decade is helpful.  It reduces the chances of a sovereign default triggered by inability to meet payment demands to the private sector.
  • More generally, delaying payments off into the future allows them to be dealt with at a time when inflation and economic growth have reduced the burden they impose.  For example, the final two principal payments of a combined €10 billion will occur in 2051 and 2053.  If made today, these payments would account for 6.25 percent of Irish GDP. However, if nominal GDP grows at 4 percent per annum over the next 40 years, these payments would be closer to 1 percent of the GDP at the time of the payment, making it far easier to simply roll this debt over.
  • One way to calculate the reduced burden due to delaying payments is to calculate the net present value (NPV) of the stream of payments.  The spreadsheet uses a 6 percent per annum discount rate and calculates the NPV of the promissory note payments as 19.5 billion and the NPV of payments under the new bonds as €12.8 billion.   This represents a 34.4 percent reduction in the NPV.  While clearly some way short of a full write-off, last week’s deal still represents a clear improvement on the promissory notes.

 

Objections to the Deal

Some of the reaction to the deal in Ireland has been negative.  Some have criticized the new arrangements because they don’t involve a full write-off of the IBRC’s debt.  However, the European Treaty’s outlawing of “monetary financing” makes it clear that loans from central banks to state-owned banks can’t simply be written off and there was never any chance whatsoever that such a write-off could have emerged from negotiations with the ECB.  Those with moral objections to the nature of this debt should consider whether the Irish authorities should have rejected a deal that reduced the burden of the debt because of the absence of an unattainable deal.

A second objection has been the idea that the deal simply “kicks the can down the road” or (more emotionally) “forces our children and grandchildren to pay off huge debts”.   Well public debt rarely ever gets paid off.  Instead it is rolled over as long as financial markets believe governments have the capacity to honor their debts.  Unless economic growth and inflation come to an end (in which case the Irish people will have a lot more than IBRC debt to worry about) future generations of Irish taxpayers should be able to roll over these debts  (Though before Ireland’s children all grow up and have children of their own, the country will face the challenge of selling large quantities of the new bonds next decade without generating losses).

A final objection that has been widely aired is that by replacing the promissory notes with new bonds, the Irish government has taken something that wasn’t sovereign debt and replaced it with sovereign debt that must be honoured in some way that the promissory notes didn’t have to be.  I have no idea why people believe this.  The promissory notes were debts issued by the Irish sovereign, hence they were sovereign debt.  And they were counted as sovereign debt by Eurostat, the official arbiter of these matters in Europe.

It is possible that people have had in mind that the promissory notes could be cancelled if Ireland left the euro and so was no longer subject to the monetary financing  prohibition.  However, if a euro exit was to occur at some point in the next few years, there would be nothing preventing the Central Bank of Ireland from cancelling the new bonds or indicating it would roll them over forever and hand back all interest payments.  In fact, because the transition to the bonds being held in private hands in the new arrangement is slower than the repayment of ELA under the old arrangement, the flexibility to cancel or default on these obligations in a crisis scenario is more significant than it was previously.

Monetary Financing?

A final question is whether the IBRC’s previous funding or the current arrangements constitute a violation of the European Treaty’s prohibition of monetary financing. This is probably worth a separate discussion of its own and I may return to it.  For now, let’s take a look at the relevant section of the Treaty (Article 123)

1. Overdraft facilities or any other type of credit facility with the European Central Bank or with the central banks of the Member States (hereinafter referred to as ‘national central banks’) in favour of Union institutions, bodies, offices or agencies, central governments, regional, local or other public authorities, other bodies governed by public law, or public undertakings of Member States shall be prohibited, as shall the purchase directly from them by the European Central Bank or national central banks of debt instruments.

2. Paragraph 1 shall not apply to publicly owned credit institutions which, in the context of the supply of reserves by central banks, shall be given the same treatment by national central banks and the European Central Bank as private credit institutions.

The promissory note arrangements could have been considered a violation of Article 123.2. While it was legal for the Eurosystem to loan money to the IBRC, it was questionable as to whether it was receiving the same treatment as other banks.

ELA loans are generally intended to be provided for a short period of time while emergency measures are taken to save or liquidate a bank.  However, IBRC was going to take at least 10 more years to pay off its ELA loans.  Furthermore, it was using a non-marketable instrument (the promissory notes) to provide collateral against these loans.  IBRC did pay a risk premium on its ELA loans but the profits the Central Bank made from these premium payments were returned to the government.

All told, the IBRC arrangements could have been considered monetary financing.  However, no legal case was ever taken against it.  The ECB Governing Council could have shut down the ELA operation using its powers under Article 14 of the ECB statute.  However, they consistently approved the operation and one could argue that if a ten-year repayment was legal, then a forty-year repayment could also have been legal.  The Article itself isn’t exactly prescriptive on which loans terms are or are not legal.

Anyway, for one reason or another, it was decided to scrap the IBRC altogether and provide replacement bonds to the Central Bank of Ireland.  Now the question is whether the new arrangements violate Article 123.1.  This article forbids the direct purchase of government bonds by central banks in the Eurosystem.

The CBI has ended up with €25 billion of Irish government bonds, which would be exactly the outcome had they violated the Treaty and directly purchased the bonds.  However, because the bonds ended up at the CBI indirectly because of the liquidation of IBRC, it can be argued that last week’s exercise was not monetary financing.

A separate question is whether the current arrangement constitutes a “type of credit facility”.  Mario Draghi says that the Governing Council members “took note” of the last week’s events in Ireland.  Their reluctance to do any more than take note suggests that the Governing Council members don’t believe the new arrangements are monetary financing.

It’s worth pointing out that the “indirect route” by which the Central Bank has ended up owning these bonds didn’t exactly involve an Act of God by which the Bank ended up holding them accidently.  The official story is that IBRC was put into liquidation because a Reuters story reported the government was considering liquidating the bank and this rendered the bank unstable. The reality is the IBRC was liquidated because the Irish government preferred the new arrangements that emerged as a result.

On balance, I’m inclined to agree with Wolfgang Munchau that the current arrangements are monetary financing in spirit if not necessarily according to the letter of the law.  And like Munchau, I have no great problem with this.  A weakening of unnecessary monetary purity may be required if the euro is to be saved.

Update: Alternative Bond Sale Scenario

I have put up a new spreadsheet that illustrates the scenario in which the Central Bank of Ireland sells all €25 billion of its bonds by 2022.  This is one possible scenario as to what might be meant by “as soon as possible”.

The spreadsheet shows that this faster pace of sales would undo nearly all the gains associated with minimum-sales scenario.  In addition to requiring the Irish public sector to find buyers over the next decade for €25 billion in long-dated Irish notes carrying coupons with modest spreads (a funding requirement not so different from what would have been required with the promissory notes) the net present value gain from the new arrangement falls from 34.4 percent to 6.1 percent.

These calculations show that the benefits from last week’s announcements are fairly uncertain and will likely depend upon future negotiations between the Central Bank of Ireland and the ECB Governing Council as to the appropriate speed at which the bonds should be sold.

How Much Would Ireland Benefit from Replacing the Promissory Notes with a Long-Term Bond?

Lots of people I’ve spoken with about the dreaded Anglo promissory notes are mystified at why the Irish government seems willing to replace the notes with a 40-year bond.  Isn’t it just replacing one kind of debt with another? Won’t we just end up paying more over the long-run? Here‘s a post where I try to answer these questions. Warning: This is a tricky topic and it’s an unusually wonkish post.

Ireland Debt Negotiations: Not About Interest Rate on Promissory Note

The byzantine complexities of the IBRC’s promissory note-emergency liquidity assistance arrangements are such that it is inevitable that even the smartest of people will get confused.  Unfortunately, Irish Times reporter Arthur Beesley (who does excellent work covering Brussels) came a cropper in this morning’s article on the negotations over restructuring Ireland’s bank-related debt.

Arthur’s article discusses the issues as follows:

On the table is the provision of about €30 billion in bonds from a European bailout fund to the former Anglo Irish Bank to replace expensive State-funded promissory notes …

The release of European bonds to the former Anglo would be in addition to the €40.2 billion Ireland is receiving from European sources under the original bailout agreement.

This is one element of the package which would certainly necessitate parliamentary votes in a number of countries.

The key issue in this part of the negotiation is the rate of interest which would be charged on any bonds from the temporary European Financial Stability Facility or its successor, the ESM.

The basic idea is that the Government would remain on the hook for EFSF or ESM bonds given to the former Anglo but that the annual interest rate charged would be far lower than the 8.2 per cent which applies now.

Precisely what rate would be charged remains subject to negotiation, the official said.

Under present arrangements the State would pay €16.8 billion in interest by 2031, bringing the total cost of the Anglo note scheme to €47.4 billion.

This description misses the key issues at stake here in a number of ways.

The problem with the promissory note arrangement is not that it causes the state to incur high interest costs. In fact, the opposite is the case. The 8.2 percent interest rate quoted here relates to interest payments that the state is making to IBRC, a state-owned institution. This is one arm of the state paying another so the interest rate has no impact on the state’s underlying debt situation.

In the same way, the IBRC uses its promissory note payments to repay its ELA debts to the Central Bank of Ireland (another arm of the state) and the (lower) interest rate it pays on ELA also has no relevance. The Central Bank returns the profits it makes on these ELA loans to the state (see its 2011 annual report).

What is the interest cost to the state of the current arrangement? As I described in detail in this paper, the Central Bank takes in the principal payments on ELA and then retires the money that it created when granting the ELA in the first place. This reduces the balance sheet item “Intra-Eurosystem Liabilities” which the Bank currently pays 0.75% percent on.

So the effective interest rate to the state of the promissory note arrangement is 0.75%, not 8.2%.  The problem with the current arrangement is not the interest rate but rather the schedule for repayment of the principal, which will see a punishing 2 percent of GDP paid over each year over the next ten years.

The article mentions a figure for the total cost of the promissory notes of €47.4 billion. However, because most of the interest cost is returned to the state, the true net cost is far lower. Effectively, the total cost will be the €31 billion in principal on the notes that were issued plus the cumulated interest costs calculated at the ECB refinancing rate. This will be far less than €47.4 billion.

In relation to substance, the article suggests the negotiations are focused on replacing the promissory notes with bonds from the EFSF and or ESM, which could then be repo’d with the ECB allowing most of the ELA borrowings to be paid off. The state would then provide EFSF\ESM with the funds to cover the annual interest on the bonds with funds.

One version of this arrangement could see the bonds pay out €30 billion in 2042, with the Irish state providing the principal to EFSF\ESM and IBRC finally repaying the ECB.  A more likely scenario would see a gradual repayment of the principal via repayment of ECB and retirement of the EFSF bonds.

If these bonds are placed directly rather than borrowed from the market, then one could argue that they should carry an interest rate of close to zero, since the EFSF is no longer adding a profit margin to its cost of funds (and the cost in this case is zero).

An arrangement of this type could mimic the low interest cost to the state of the current arrangements while adding a long-term schedule for repayment of principal.  However, it carries with it some serious political complications. As the Times article notes, this arrangement would require political approval throughout Europe and that may be difficult obtain. In addition, this debt would have to be repaid even if Ireland left the euro because of its official status, while a post-euro Central Bank of Ireland would have the option of agreeing to a unilateral restructuring of the promissory notes.

An alternative arrangement that avoids these political risks is to simply alter the current arrangements to have the promissory note schedule be far more back-loaded than at present. This requires only the agreement of the ECB. As I wrote here a few weeks ago, there is a strong argument that it is time the ECB could Ireland some slack.

No Mr. Noonan, NAMA Does Not Borrow From the ECB

One of the great myths about the Irish economy that has circulated in recent years is the idea that the National Asset Management Agency (NAMA) has borrowed money from the European Central Bank. I tried on various occasions in the past to observe that this is not the case without having any impact. However, I had hoped that the people running Ireland understood how NAMA works. Apparently this was too much to hope for.

Here‘s Minister for Finance, Michael Noonan, in the Dail yesterday (H/T NAMA Wine Lake):

The money which we accessed for bridging finance from NAMA was money which is due to be repaid to the ECB for the loans it gave to NAMA to acquire the impaired assets in the bank. Again, it is ECB money that is providing the bridge. What will happen is that when the circle is completed and the shareholders give their consent, which is my expectation, the NAMA funds will be restored and NAMA will do what it intended to do last month, namely, it will repay another portion of what it owes to the ECB.

Just for the record (and I know now for sure I’m wasting my time) NAMA has issued bonds to the Irish banks in return for property assets. It can redeem those bonds as it acquires cash for the property assets. The bonds can be used by these banks as ECB-eligible collateral. However, NAMA is not a bank. NAMA is not ECB-eligible counterparty. NAMA has never borrowed, and will never borrow, from the ECB.

Promissory Note Arrangement an Exercise in Political Optics

From a public relations point of view, the revised promissory note arrangement has been a great success for the Irish government. This editorial in the Sunday Independent declared

In the staring match between Ireland and the EU and the ECB, the other guys blinked first.

The Irish Times, only slightly more restrained, headlines the new promissory note arrangement as a “coup” for Michael Noonan.

What is supposed to have been achieved? Apparently, the Irish state has saved having to make a cash payment to IBRC with the burden of the payment being delayed until 2025.

In reality, a quick inspection of the announcement makes clear that neither of these claims are true.

The Irish state has not been saved making a cash payment: NAMA, an arm of the state, has provided €3.06 billion in cash to the IBRC, which IBRC is using to repay Emergency Liquidity Assistance loans, just as the ECB (the blinking guys) had always insisted.

In a separate arrangement, the government are planning to have Bank of Ireland provide a one-year loan to IBRC so that NAMA can be repaid and the state’s cash levels (including NAMA) can be restored to what they were prior to the ELA payment. IBRC will need to repay this loan next year.

Because the state is providing cash to IBRC to make its promissory note payment, the only thing added to what was already supposed to happen is that the state has arranged a one-year loan from Bank of Ireland.

Is arranging short-term loans from Bank of Ireland—a bank that has limited access to capital markets and is looking to shrink fast to meet troika-imposed deleveraging targets—a route to putting Ireland’s debt on a more sustainable path? Clearly not.

So the deal does literally nothing to improve debt sustainability. It also compromises the supposed operational independence of NAMA and raises questions about state intereference with the majority-private-owned Bank of Ireland.

For these reasons alone, this arrangement is an unwelcome development. However, in addition, it appears that the shenanigans surrounding this arrangement have seriously upset European officials who are better able to see what is going on than the Irish media.

This story from Arthur Beesley of the Irish Times likely illustrates the attitude of our EU colleagues.  In relation to Minister Noonan’s comments that he now wants a wider deal to replace the promissory notes altogether, the story reports:

“This risks further antagonising the ECB governing council,” said a euro zone source.

“His remarks were not helpful, particularly on the day after the bank agreed to facilitate an operation designed purely to give him an opportunity to make a statement saying that the payment of the promissory notes was settled with bonds.”

The Euro zone source is making clear that, as far as they are concerned, this deal was purely about optics.

I suspect that pennies may start to drop in Ireland about what has been arranged when Bank of Ireland have their shareholder meeting. For now, though, I’ll let it drop.

Promissory Note “Deal”: Not What Had Been, Em, Promised

Yesterday’s promissory note announcement was so complex that one might imagine that the government’s officials have been cooking up the various different elements for months. However, there is some fairly strong evidence that the additional elements (the role of NAMA and Bank of Ireland) reflect last-minute changes forced on the government by the ECB’s refusing to give any ground.

The reason I was surprised yesterday afternoon to hear of NAMA and Bank of Ireland’s involvement is that the shape of the deal that was supposed to be announced had been pretty well flagged beforehand and yet this deal was different.

What had been flagged in the moments leading up to the announcement was the IBRC were going to receive their cash payment from the promissory note but (and this is the crucial bit) rather than use it to repay ELA, they would use it to purchase a bond.  The actual announcement say them make an ELA repayment via incurring a debt to Bank of Ireland that must be repaid next year.

Why do I say the original plan was a cash payment to be used to purchase a bond? Well, for starters, there’s the IBRC’s own annual report, released yesterday morning but presumably sent to press a few days beforehand. On page 168, it describes the proposed arrangement as follows:

Following an outline request, made on behalf of the Minister for Finance, the Bank is in discussions with the Department of Finance and the NTMA regarding a settlement proposal to utilise the funds due from the next instalment under the promissory notes on 2 April 2012 to acquire an Irish Government bond with an equivalent value.

“Utilise the funds … to acquire a bond” can’t really mean anything other than receiving a cash payment and using it to buy a bond rather than pay off ELA.

Then we had Governor Honohan’s appearance at the Oireachtas Finance committee on Tuesday. Honohan was given a number of chances to describe the deal in the offing and in each case chose to describe it as a cash payment that would then be used to buy a bond.

For example, here’s an excerpt from Deputy Michael McGrath’s questions

Deputy Michael McGrath: In the course of public disclosure, originally made early last week, of the shape of the deal on this month’s payment, it was stated the cash payment would be made by the State to Anglo Irish Bank but that in return the bank would buy an Irish Government bond.

Here’s the portion of Honohan’s answer relating to the cash payment.

Professor Patrick Honohan: With regard to cash payments, the detail is still not absolutely final. Assuming this arrangement works out, when it is complete – even if it takes a few more days – any cash payment would circle back. There will be no net cash outlay and any cash payment made by the Exchequer would come back.

Here’s Honohan replying to Deputy Pearse Doherty

Professor Patrick Honohan: That speaks to the issue of cash payment. A cash payment which is immediately extinguished by another transaction is still a cash payment which is valuable for communicating to markets that the Government does make its payments, even if the total effect of the transaction is to extinguish that cash payment and have the cash come right back to the Government in a prompt manner. I hope there is no tendency to get terribly excited about a cash payment which is rapidly extinguished.

Finally, when asked about Deputy Stephen Donnelly about IBRC’s cash needs, the Governor replied

Professor Patrick Honohan: The question I noted in particular related to how much cash IBRC needs. In fact, the objective of the plan is to eliminate the cash need by postponing it.

However, in actual fact, under the current plan the IBRC has a €3.1 billion cash need that it is honouring by means of a complex chain of transactions in which it borrows from NAMA and Bank of Ireland. There is no sense in which the IBRC’s cash needs have been postponed.

I can only assume that the “assuming this arrangement works out” element of Honohan’s reply to Michael McGrath didn’t actually work out. And the likely reason for this failure was that the ECB insisted, as it appears they had all along, that a €3.1 billion ELA repayment be made, something which required a cash payment.  That this cash has been temporarily sourced from NAMA and then Bank of Ireland doesn’t at all change the fact that this deal is not what had been flagged and does not have nearly the benefits of that deal.

Optimistic ministerial talk of “movement from the European authorities” seems highly misplaced.  (If the original proposal had gone through, there would have been some grounds for such a statement.) More accurate, I think, were junior minister Brian Hayes’s comments on Today FM to the effect that negotiating with the ECB was negotiating with bankers and you couldn’t get far with that, and that future negotiations needed to be with European politicians.

Promissory Note “Deal” Fails to Meet Low Expectations

Despite a lot of hype in recent weeks that the Irish government were going to arrive at a deal with the ECB that would reduce the burden imposed by promissory note payments to the IBRC, I had remained fairly skeptical that any announcement this week would represent significant progress.

In my last post on this issue, last Saturday, I had noted that any deal that was done was just in relation to the March 31 payment and did not affect future payments. I had written:

Is it likely that the ECB will agree at a later date to a more comprehensive restructuring of the promissory notes allowing for a systematic payment deferral? I would guess not. While you could argue that a deal on the current payment shows some flexibility on the part of the ECB, an alternative viewpoint is that six months of “discussions” failed to get anything other than a fairly meaningless one-off deferral.

My pessimism turned out to be too optimistic. In fact, it appears that the Irish government made essentially no progress with the ECB even regarding the current payment.

The arrangement arrived at today (ministerial announcement here) is so complex that it will bamboozle everyone and this confusion will provide plenty of cover for those who wish to claim that it represents useful progress. However, effectively what is happening is that the Irish government are providing the IBRC with a long-term bond, the IBRC are exchanging that bond with Bank of Ireland for one year in return for €3.1 billion in cash and this cash will be used to repay the IBRC’s Emergency Liquidity Assistance (ELA) loans.

What has been achieved? In essence, the government has delayed paying out the cash for this year’s €3.1 billion but the IBRC (and hence the state) now has to repay Bank of Ireland this amount next year. This is effectively a one-year deferral of this payment, which is far worse than the long-term deferral of the payment that I had already described on Saturday as “fairly meaningless”.  Because the ECB have fully achieved their goal — getting a full €3.1 billion ELA repayment — calling this “a deal” with the ECB is hardly appropriate. Rather, it represents an arrangement with a privately-owned Irish bank that maintains the appearance of some sort of deal having been agreed with the ECB.

What further puzzles me about this transaction is that Governor Patrick Honohan described the plan to the Oireachtas Finance committee on Tuesday as follows:

The arrangement regarding this first tranche is very much in the direction in which I want us to go. It is a major step forward qualitatively in the approach.

I guess one could say it is “the direction we want to go” in the sense that this arrangement represents a deferral of the cash payment, however short-term. But the actual arrangement used to implement this deferral — borrowing the cash on a short-term basis from a privately-owned bank — is not at all a sustainable way to refinance a debt that amounts to almost 20 percent of GDP. So I fail to see how this is a major step forward, qualitative or otherwise (I had been puzzling about qualitative major steps ….)

Where does this leave us? In the same position as I reckoned we were last Saturday. No deal of any substance has been done with the ECB nor is one forthcoming. An arrangement to borrow long-term funds from EFSF or ESM to pay off IBRC’s debts and retire the promissory notes may happen. But it would require political approval across Europe, will not happen before Ireland passes the Fiscal Compact and would effectively amount to a second EU-IMF bailout with all the terms and conditions that this implies.