Alasdair Macleod – 16 November 2010
Another week and another crisis: this time Europe and Ireland. The banking crisis in Europe, for that is what it really is, has been bubbling away since the credit crunch like molten lava. The European banks have over €2 trillion of PIIGS government and private sector debt on their books, and unimaginable quantities of derivatives. At the time of the first banking crisis the euro nations announced they would underwrite their private sector banks, so it became inevitable that their ability to do so would one day be challenged. This is recognised by Ireland’s apparent negotiating stance in the developing crisis, which simply put is that she believes she can face up to her own government finances, but not her private sector banking liabilities.
There are four possible outcomes or combinations to this problem: Ireland loses her fiscal sovereignty to the EU, the ECB bails out the Irish banks, Ireland leaves the euro, and Ireland defaults. We can rule out Ireland leaving the euro for the moment for analysis at a later date if required, which leaves us considering the other three. Broadly, the EU will want to direct Irish tax policy as a quid pro quo for financial and ECB support, while Ireland merely wants ECB support without EU interference. The ECB meanwhile has seen that Greece’s rescue package has already come unstuck and will insist on having greater control over Ireland’s affairs.
It would be a mistake to view EU involvement as a purely economic rescue, because its interest is driven by political motives. For example, it will want Ireland to raise corporation tax from 12.5% to European levels as part of a rescue package, not because it will help close the budget deficit (which it won’t) but because they see this as unfair competition with their own high rates. This approach betrays the socialist instinct to enforce socio-political outcomes at the expense of sound economic solutions, thereby supporting the interests of the major Euroland nations. The last thing Ireland needs is to cripple her private sector with higher taxes at Brussels’ behest, and Ireland would be wise to reject this approach as being contrary to her own self-interests.
Ireland is yet again being bullied to accept the playground’s unwritten rules, but if she is prepared to stand her ground, she is in a stronger negotiating position than at first appears. If she does not obtain acceptable terms from Euroland, it will not be the end of the world for Ireland, but it may be for Euroland.
The downside for Ireland on no agreement is default, which actually may have attractions compared with the long-term misery of being screwed by Brussels. We can further provoke this thought by considering a simple rhetorical question: who will emerge from their difficulties first, Iceland, or a Brussels-subordinated Ireland? Iceland, by going through her process of default is bound to recover from this painful process within a year or two, because her government is forced to face economic reality to the exclusion of socio-political preferences. Ireland under Brussels will not take the necessary economic measures, because she will be merely kept alive by the drip-feed of Brussels subsidies.
The downside for Euroland is considerably more serious. Her private sector banks and the ECB would have to write down or write off large amounts of Irish debt, followed inevitably by Portuguese and Greek debts. With Ireland, these would be only the first three dominoes to fall in an escalating crisis, eventually forcing all Euroland nations to bail out their own banks.
There is another good reason why EU control over Irish sovereignty should be resisted. The Irish struggled for centuries to rid themselves from the British, and they are unlikely to live with the reality of rule from Brussels for long. The independence movement and the IRA would have a new focus with all the horrors entailed. Perhaps it is not just coincidence that one of the shrewdest political operators in all Ireland, Gerry Adams, is resigning his parliamentary duties in Northern Ireland and Westminster to take a shoe-in seat in the Dail. He will be well-placed to spearhead an IRA revival with a campaign refocused against Brussels.
The Irish government almost certainly sees the threat from Gerry Adams, in which case she must insist on her position against the Euroland bullies. Logic suggests the Euroland bullies will eventually back down because they have most to lose. But if Ireland gives in, the EU risks a revival of separatist violence, possibly encouraging other movements such as Spain’s ETA. But there is little time to settle this because bond investors and the ECB are facing a rapidly deteriorating situation.