Irish Show Greeks Suffering Is Price of Admission to Euro Union
By Dara Doyle - Jul 20, 2010
For the first time in history, the Greeks are following the Irish with the understanding that mythology has no place in the path to redemption.
Facing the largest budget deficit among the 16 countries sharing the euro, Ireland began raising taxes and cutting pay for state workers 18 months ago. When decades of profligate Greek governments threatened to unravel the euro in March, Prime Minister George Papandreou belatedly embraced the Irish model and acknowledged that failing to emulate the northern Europeans would return his country to the financial underworld.
“Ireland’s wage cuts are a blueprint for Greece and other European countries that lost competitiveness,” said Ralf Ahrens, who helps manage about $20 billion as head of fixed income at Frankfurt Trust and holds Irish government bonds.
While Germany and France are the biggest economies in the euro region, the survival of the currency union as it stands now may depend on whether the Greeks on the Aegean can be successful in mimicking the Irish 1,800 miles away on the Atlantic.
“The scale of cuts in pay and spending here are unprecedented across Europe,” said Garret FitzGerald, 84, the Irish prime minister in the 1980s who reduced budgets and raised taxes. “We’re Northern European, less emotional, and more accepting of what needs to be done in a crisis.”
The cost of insuring against a default on Irish sovereign debt fell by more than a third during the past 18 months, while it more than quadrupled for Greek debt.
Deficit Differential
Ireland’s budget deficit will equal 11.7 percent of gross domestic product this year, the European Commission forecast on May 5. Greece aims to reduce its indebtedness to 8.1 percent of GDP. Analysts aren’t convinced that junk-rated Greece can outdo Ireland, whose creditworthiness is eight steps better even after the cut this week by Moody’s Investors Service.
Ireland joined what’s now the European Union in 1973, eight years before Greece. The 1980s were characterized in part by FitzGerald’s attempts to stabilize the economy. The country’s output per capita was about $17,200 in 1995, 12 percent below the average in a survey by the Organization for Economic Cooperation and Development.
As the country attracted manufacturers such as U.S. computer maker Dell Inc. with low taxes, exports started to boom. By 1999, Ireland was the fastest-growing economy in western Europe and a founding member of the euro, giving it easier access to international credit. Greece joined in 2001.
Property Bubble
Then came the bust as the bubble in the real-estate market burst in 2007 with prices plunging as much as 50 percent and the country’s biggest banks, led by Anglo Irish Bank Corp., faced ruin. The government spent 7 billion euros ($9 billion) to rescue Bank of Ireland Plc and Allied Irish Banks Plc, and then set out to cut government spending.
“Ireland talked of consolidation measures when other countries didn’t even dream of it,” said Christoph Weil, senior economist at Commerzbank AG in Frankfurt, where the euro is anchored at the European Central Bank headquarters. The country “could serve as a role model to Greece,” he said.
Ireland’s economy has emerged from the worst recession of any developed nation since the Great Depression and is forecast by the European Commission to expand at the fastest pace of anywhere in the euro region next year.
Greece, which was telling the world its budget was in control and its economy was growing as the Irish wielded the axe, is headed toward its sharpest contraction since the 1980s and inflation is en route to be the worst in a decade. In May, three people were killed in Athens as protesters vented their disdain for Greece’s politicians.
State Salaries
The Irish government will reduce its “World War-type” budget deficit next year by almost 50 percent as costs from bailing out the country’s banks recede, the Dublin-based Economic & Social Research Institute reported on July 14.
The decrease is helped by extra income tax and an average 13 percent cut in public workers’ pay. By contrast, the Greek government planned as recently as November to increase state- employee wages by 1.5 percent.
“We’ve got a lot of first mover advantage,” Prime Minister Brian Cowen said in a July 12 interview on Bloomberg Television’s “InBusiness” with Margaret Brennan in New York. “For a small open economy, we don’t see any options but to go the way we’re doing it.”
Still Danger
Ireland isn’t out of the woods, according to Karl Whelan, a professor at University College Dublin and a former economist at the Federal Reserve in Washington.
The economy shrank about 10 percent in the last two years as the decade-long real-estate boom imploded and, unlike in Greece, the financial system came close to collapse.
“If the government hadn’t acted, we would have ended up as a ward” of the International Monetary Fund, Whelan said. “We still might.”
The cost of insuring against a default on Irish sovereign debt in the shape of credit-default swaps declined to 260 basis points from a record 396 on Feb. 17, 2009, according to data provider CMA.
Greek default swaps surged to 1,087 basis points from 235 in the same period. A basis point on a credit-default swap contract protecting 10 million euros of debt from default for five years is equivalent to 1,000 euros a year.
The difference in yield, or spread, between 10-year Irish government bonds and comparable German bunds, the euro-region’s benchmark, stands at 278 basis points, up from an average 39 during the past decade. The Greek spread is 772 basis points.
“It’s not that clear that the worst is over, but the position compared to other countries is more favorable,” said Ahrens of Frankfurt Trust. “We like Irish bonds.”
Backs to Wall
Pay cuts are rippling across Ireland. Workers at a plant in Cavan in northeast Ireland, run by Kingspan Group Plc, Europe’s largest maker of flooring and insulation panels, accepted pay reductions this month to ensure its survival.
In the agreement, compensation for new hires will fall 13 percent to about 11 euros an hour. The existing 130 workers say take-home pay dropped to about 12 euros an hour, down as much as 40 percent from 2007 partly because overtime pay is lower.
“Our backs were to the wall,” said Declan Ferry, a labor organizer who helped negotiate the deal. “A lot of other companies in the area were watching closely to see what would happen here, and almost the next day, we had a call from a neighboring company wanting to do the same thing.”
Irish labor costs will drop 10 percent from 2009 to 2011, compared with an increase of 3 percent to 4 percent across Europe, according to estimates from the European Commission.
No Exit
In Greece, the commission forecasts costs will rise 6.7 percent in the three-year period, though Greece’s largest union for non-state workers agreed to a pay accord last week that includes a pledge to freeze salaries this year.
“If you don’t have the option of a currency devaluation, there’s no other way out,” said Alan McQuaid, chief economist at Bloxham Stockbrokers in Dublin. “Take the pain.”
Elected in October on pledges to raise wages for public workers and step up spending to boost the economy, Papandreou’s union-supported Pasok government revised the 2009 budget deficit to more than 12 percent of GDP, or four times the EU limit and twice the previous government’s estimate.
The government waited until March to lower pay for state workers, as part of deficit-reduction decisions that triggered a wave of strikes and protests across Athens and in other cities. Bond spreads at that time hovered at about 300 basis points.
Austerity Outbursts
“What is certain now is that people here understand what the problem is in Greece and we have to get out of this hole we’re in,” said Dimitris Maroulis, manager of the economic analysis division at Alpha Bank SA in Athens. “We have to reduce public sector debt and return to markets. That’s why they’ve accepted all these substantial reforms.”
Austerity-related protests have been all but muted in Ireland. On March 31, the day after the government said it would pump as much as 22 billion euros into Anglo Irish to keep it alive, fewer than 100 demonstrators protested outside the company’s headquarters in central Dublin.
“While the Irish complain about official corruption of their political and business elites, there is greater trust in those groups and the state to provide what they are supposed to,” said Scott MacDonald, head of credit and economics research at Aladdin Capital Holdings LLC in Stamford, Connecticut, which oversees $12.5 billion, in an e-mail. “The anger and mistrust in Greece is far higher.”
To contact the reporter on this story: Dara Doyle in Dublin at ddoyle1@bloomberg.net
