Thursday, August 15, 2019

Irish and Euro Area debt as recession fears rise

Debt data above are in respect of 2017 and 2007 for the European Union's 27 member countries (ex-UK) taken from the International Monetary Fund’s (IMF) Global Debt Database as both public and private debt data are available.

Eurostat public debt data of gross general government debt in 2018, show that Germany and Malta were the only two countries that had lower ratios of gross domestic product than 2007 before the onset of the financial crisis. Sweden had a low rate of 39% in 2018 compared with 37% in 2007.

Net debt of governments can vary. For example, some governments have pension funds to pay public staff while Ireland hasn't. In 2018 the German net debt ratio to GDP was 39%; Sweden's was 5% while France's was 88%.

The average weighted gross rate for the 19 countries of the Euro Area (EA19) in 2018 was 85.1% compared with 61.2% in 2007 — the target debt ratio ceiling is 60% for individual countries and Germany was at 61% in 2018.

The highest public debt ratios were led by Greece at 181% of GDP; Italy 132%; Portugal 121%; Ireland 104%* and both Belgium and Cyprus at 102%.

The chart above shows that since the crisis, several countries have seen big jumps in public debt.

Greece had a budget surplus in 2018 while Ireland's was in balance for the first time in a decade. France, the EA19's second-biggest economy hasn't reported an annual budget surplus since 1974 when its public debt ratio was 22% while Italy, the third-biggest euro economy, has only had one annual budget surplus (in the mid-1920s) since 1910 see 2018 data for debt and annual financial outturns.

The Danes and the Dutch had high levels of mortgage debt at the time of the bust and the levels were still high in 2017 while Ireland reduced household debt exposure.

Gerrman firms had low non-financial corporate debt in 2017, which may have resulted from own resources or a low investment rate, while Ireland's high non-financial corporate debt likely results from foreign multinational balances.


*The Irish data on the above chart uses Modified Gross National Income (GNI* — strips out some of the main distortions from Irish GDP, related to multinational firm activities and tax avoidance), instead of GDP.

In 2017 GDP was valued at €294bn; Modified GNI (GNI*) was valued at €184.0bn. In 2018 the levels were €324.0bn and €197.5bn.

Household debt in 2017 was at 126% of disposable income, a level last seen in 2003 — having peaked at 212% in 2009. However, Ireland’s household debt ratio is still the fourth highest in the EU.

The Department of Finance (DoF) says that Ireland’s household debt is also high relative to EU peers, at the 6th highest household debt ratio in the EU, when measured on a GNI* basis.

On Non-Financial Corporate (NFC) debt, the DoF in a paper this year suggests that the Irish firm component in 2017 was at 95% of GNI* (see from Page 16).

The paper notes that Ireland has the third-highest private debt ratio when looking at headline debt-to-GDP, but only the sixth-highest using core debt-to-GNI*. It adds that "Irish firms with the capability of borrowing internationally have increased their borrowing, smaller firms who must borrow domestically have continued deleveraging. This supports the narrative and research that Irish SMEs continue to deleverage, whether by choice or due to lack of access to bank funding, which in turn could be constraining investment."

The DoF cites research that "one in five Irish SMEs are unsatisfied with their investment levels, while Lawless et al (2018) estimate that Irish SMEs are underinvesting by approximately 30%. Neither paper, however, finds lack of access to bank funding as the primary reason for this."

Despite the property bubble Ireland ended 2007 with almost €50bn in public debt while the National Pensions Reserve Fund had assets of €21bn. At the end of 2018 the value of the gross Irish public debt was €206bn.

Budget deficits including bank bailouts amounted to €152.5bn in 2008-2017 and a surplus of €46m was achieved in 2018.

IBRC in the chart above refers to Anglo Irish Bank — its bailout was mainly of depositors including other financial firms and companies.

Enda Kenny, taoiseach/prime minister, at an early morning press conference in Brussels on June 30, 2012, hailed an apparently dramatic move by EU leaders:

“The agreement that we have now brought about here allows the European Stability Mechanism (ESM) to be used directly in capitalising banks and that represents a seismic shift in European policy and it is one I have been advocating for several months.”

EU leaders had specifically agreed that the issue of Ireland’s legacy bank debt should be re-engineered to reduce the burden on the Irish people, Kenny added.

The summit communiqué made a reference to Ireland but alas there was no hint of a "seismic shift" for Ireland. In the following months, the Irish Government wasn't able to name any key leader, in particular, Angela Merkel, German chancellor, who had endorsed the EU assuming responsibility for Irish public support of banks totalling about €64bn.

The FT's global business columnist, Rana Foroohar, looks at the signs of a looming economic downturn in the world and how to spot the next world recession.

Recession fears

The US and China remain in a trade war; Canada's ethics commissioner has found that Justin Trudeau, prime minister, violated the Conflict of Interest Act in a lobbying case. Trudeau faces the electorate in October; Britain may face turmoil following a non-deal exit from the European Union; Germany is on the brink of recession; Matteo Salvini, a deputy prime minister of Italy and leader of the anti-EU, anti-immigrant League party, is trying to bring down his own government and trigger a general election; Spain is deadlocked in forming a government and may have to hold another general election, while Japan and South Korea are in another trade war, related to second world war compensation claims. In South America, Mauricio Macri, the right of centre president of Argentina, was trounced last Sunday in a primary election by his Peronist populist opponent, triggering steep falls in the peso and the stock market.

Negative bond yields

This month Bloomberg reported that 25% of global bonds in circulation have negative yields.

This week Sweden sold SKr1.5bn (€140m) of 10-year government bonds with an average yield of -0.295% and according to the Swedish debt office, it got 24 bids worth a total of Skr3.7bn. It joined a club that includes Germany, Switzerland, Japan and Ireland! Last May the average yield was a positive 0.25%.

The Swedish Riksbank was the first to introduce a negative rate, in July 2009 and the Danish and Swiss central banks also adopted negative rates to deter foreign inflows to their currencies. The ECB followed later.

The Fed's federal funds rate was at 5.25% in June 2007. Its current rate is 2.25%

As fears of global recession rise, the US 10-year Treasury yields have fallen from 3.24% in early November 2018. According to The Wall Street Journal, the 10-year Treasury note fell to as low as 1.574% Wednesday, the weakest since September 2016. On Friday the yield on the benchmark 10-year note rose slightly to 1.540% while the 30-year Treasury yield was at 2.001%, up from its record low of 1.985%.

The US 2-year note closed Friday at 1.488% — on Wednesday the short-term bond yield fell to 1.559%. The lower yield than the 10-year note is called an inverted yield curve, and is a signal that bond investors foresee weak growth and lower inflation in years ahead, and expect the Federal Reserve will cut interest rates again.

Yields fall as prices rise. Rising prices result from inflows of funds to low-risk assets.

According to Reuters, the US curve has inverted before each recession in the past 50 years. It offered a false signal just once in that time.

The search for high yield can mean investing in risky government and corporate bonds.

This week, Michael Hasenstab of California-based Franklin Templeton, who became famous in Ireland for investing in Irish bonds in 2011 after the international bailout, lost nearly $1.8bn last Monday on Argentine bonds, following the rush from Argentine assets that followed the poor showing of Mauricio Macri, the Argentine president, in the weekend primary elections.

The Financial Times reports that 20 years ago over half of the global bond market had yields of at least 5%, according to ICE Data Indices. Following central bank quantitative easing (QE) during the financial crisis, the ratio fell to under 16%. Today the rate is only 3% of the global bond market — the lowest share on record.

Bank of America data show that US bonds account for about half the $55tn global investment-grade bond market, but they pay 88% of all yield.

The Wall Steet Journal reports that a Bloomberg US corporate bond index is at 23.3% year to data while some of the High Yield Bonds ICE Data Indices are in high single digits.

When bond prices rise, their yields drop. In the case of the German government’s 10 year bond, yields have sunk below positive territory and into the negative. The FT explains why some investors still want to purchase an asset that they will lose money on.

So-called “real” rates, adjusted for inflation, had often been negative in for example 1975 when annual consumer inflation in the UK and Ireland exceeded 20%, but prior to 2009 it was not expected that nominal rates would dip below zero.

Chart doctor: the mysterious music of the yield curve
©FT 2019

SEE also: Low interest rates, globalization, technological change and ageing