Standalone Deal on March 31 Payment Not Important

There has been a lot of media coverage in Ireland this week of a potential deal in the coming days involving the promissory notes issued by the government to the IBRC.

A comprehensive restructuring of these notes, worth about 20 percent of Irish GDP, would be beneficial to Irish debt sustainability. There have been various comments about this issue on Irish discussion boards and blog comments to the extent that a maturity extension would have no benefits as it does not change the debt-GDP ratio and “debt is debt”.  To that, I would ask people if they took out a €100,000 loan, which would they find easier: Paying the debt back over one year or over thirty years? “Debt is debt” is a fairly limited insight when thinking about the question of whether a particular debt burden is sustainable.

That said, the recent reports (e.g. here and here) make it clear that the any deal done in the next week, if it occurs, will only involve the €3.1 billion payment due on March 31.  The Irish proposal appears to involve either making the March 31 payment with a long-term bond or else making the payment in cash and having IBRC immediately loan it back to government by purchasing a long-term sovereign bonds.

These proposals would make essentially no difference to Irish debt sustainability as they don’t have any impact on the burden of future payments. And to be fair, Minister Noonan appears to acknowledge this. This RTE story reports him as follows

He also said the deferral of the payment at the end of March was just one element, and that the bigger picture was to secure an easier way of paying the promissory note. He said this would be less onerous on the taxpayer and that the serious piece of negotiations would happen in the second part of the year.

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.

If a shorter-term deal is struck, my guess is that it will occur because the ECB are hoping that the EU will provide the funds before March 2013 to allow the promissory notes to be retired.  Such a deal would see EFSF or ESM providing a long-term low-interest loan to the Irish government, which would then provide the money to IBRC in return for the promissory notes, with the money then used to pay off ELA debts.

Of course, such a deal would require political approval of EU governments and, specifically, Germany, and thus would require passing the Fiscal Compact. As any such deal would require all the political manoeuvrings associated with a second bailout, it may well also involve additional funds to help deal with the ongoing problems in the rest of the Irish banking sector (very well documented in the Central Bank’s excellent and surprisingly frank Macro-Financial Review) as well as the provision of “standby” funds to cover future deficits.

Will the March 31 deal happen? The consistent briefings from Minister Noonan would point to the likelihood that it will, as he has now pushed things to the point where he will have some pretty serious egg on his face if it doesn’t happen. Alternatively, the same officials who have been briefing that a deal will happen have also been bringing up various red herrings like “we need to make sure we don’t have a technical default” or “there may be legal issues with payment via bonds”. This stuff hardly instils confidence and the brinksmanship suggests there are very strong forces on the other side who do not wish to see this deal happen.

Anyway, relative to the long-term issues of a permanent restructuring of the notes and the problems afflicting the Irish banking sector, the question of the March 31 payment is a side-show. As such, I hope the government has not wasted too much political capital on it. Noonan’s statements this week are likely to have been seen as megaphone diplomacy by some members of the ECB Governing Council and it would be a pity if they have caused longer-term damage in return for a limited short-term gain.