Category Archives: IMF and Ireland

22/6/15: IMF Review of Ireland: Part 2: Banks

IMF assessment of Irish banking sector remains pretty darn gloomy, even if the rhetoric has been changing toward more cheerleading, less warning. Here is the core statement:

"Bank health continues to improve, but impaired assets remain high and profitability low. The contraction in the three domestic banks’ interest earning assets continued, albeit at a slower pace in 2014." IN other words, deleveraging is ongoing.

"Nonetheless, operating profitability doubled to 0.8 percent of assets on foot of lower funding costs as well as nonrecurrent gains from asset sales and revaluations (Table 8). Led by the CRE and SME loan books, there was a sizable fall in the stock of nonperforming loans (NPL), by some 19 percent in 2014, although NPLs are still 23 percent of loans." Note, at 23% we are still the second worst performing banking system in the euro area, after Greece.

"This fall, together with rising property prices, allowed significant provision releases while keeping the coverage ratio stable. Profitability after provisions was achieved for the first time since the onset of the crisis. Together with lower risk weighted assets, this lifted the three banks’ aggregate core tier 1 capital ratio by over 1 percentage point, to 14½ percent."

Now, take a look at the chart above: loans volume fell EUR6.5bn y/y (-3.6%), but interest income remained intact at EUR7.9bn. While funding costs fell EUR3.7bn y/y. The result is that the banks squeezed more out of fewer loans both on the margin and in total. Give it a thought: loans should be getting cheaper, but instead banks are getting 'healthier'. At the expense of who? Why, the remaining borrowers. Net trading profits now turned losses in 2014 compared to 2013. Offset by one-off profits.

Deposits also fell in 2014 compared to 2013 as economy set into a 'robust recovery'. It looks like all the jobs creation going around ain't helping savings.

A summary / easier to read table:

Notice, in addition to the above discussion, the Texas Ratio: Non-Performing Loans ratio to Provisions + CT1 capital (higher ratio, higher risk in the system). At 108, things are better now than in 2012-2013, but on average, 2011-2012 Texas ratio was around 104, better than 2014 ratio. And that with 51.7% coverage ratio and with CT1 at 14.5%. Ugh?..

On the other hand, deleveraging helped so far: loan/deposit ratio is now at 108% a major improvement on the past.

Net Stable Funding Ratio (NSFR) - a ratio of longer term funding to longer term liabilities and should be >100% in theory. This is now at 110.5%, first time above 100% - a good sign, reflective of much improved funding conditions for all euro area banks as well as Irish banks' gains.

Liquidity Coverage Ratio (LCR) - monitoring the extent to which banks hold the necessary assets to cover any short-term liquidity shocks (basically, how much in highly liquid assets banks hold) is also rising and is above 100% - another positive for the banks.

Still, the above gains in lending margins - the rate of banks' extraction from the real economy - are not enough for the IMF. "Lending interest rates must enable banks to generate adequate profits to support new lending. While increasing, Irish banks’
operating profitability remains relatively low. Declines in funding costs aided by QE will assist, but there are also drags from the prevalence of tracker mortgages in loan portfolios and from prospects for a prolonged period of low ECB rates. However, with rates on new floating rate mortgages at 4.1 percent at end March, compared with an average of 2.1 percent in the euro area, political pressures to reduce mortgage rates have emerged. The mission stressed the importance of loan pricing adequate to cover credit losses—including the high costs of collateral realization in Ireland—and to build capital needed to transition to fully loaded Basel III requirements in order to avoid impediments to a revival of lending."

Here's a question IMF might want to ask: if Irish banks are already charging almost double the rates charged by other banks, while enjoying lower costs of funding and falling impairments, then why is Irish banks profitability a concern? And more pertinently, how is hiking effective rates charged in this economy going to help the banks with legacy loans, especially those that are currently marginally performing and only need a slight nudge to slip into arrears? And another question, if Irish banks charge double the rates of other banks, what is holding these other banks coming into the Irish market? Finally, how on earth charging even higher rates will support 'revival of lending'?

Ah, yes, question, questions… not many answers. But, per IMF, everything is happy in the banking sector in Ireland. Just a bit more blood-letting from the borrowers (distressed - via arrears resolutions tightening, performing - via higher interest charges) and there will be a boom. One wonders - a boom in what, exactly? Insolvencies?

25/3/15: IMF on Ireland: Risk Assessment and Growth Outlook 2015-2016

In the previous post covering IMF latest research on Ireland, I looked at the IMF point of view relating to the distortions to our National Accounts and growth figures induced by the tax-optimising MNCs.

Here, let's take a look at the key Article IV conclusions.

All of the IMF assessment, disappointingly, still references Q1-Q3 2014 figures, even though more current data is now available. Overall, the IMF is happy with the onset of the recovery in Ireland and is full of praise on the positives.

It's assessment of the property markets is that "property markets are bouncing back rapidly from their lows but valuations do not yet appear stretched." This is pretty much in line with the latest data: see

The fund notes that in a boom year of 2014 for Irish commercial property transactions "the volume of turnover in Irish commercial real estate in
2014 was higher than in the mid 2000s, with 37.5 percent from offshore investors." This roughly shows a share of the sales by Nama. Chart below illustrates the trend (also highlighted in my normal Irish Economy deck):

However what the cadet above fails to recognise is that even local purchases also involve, predominantly, Nama sales and are often based on REITs and other investment vehicles purchases co-funded from abroad. My estimate is that less than a third of the total volume of transactions in 2014 was down to organic domestic investment activity and, possibly, as little as 1/10th of this was likely to feed into the pipeline of value-added activities (new build, refurbishment, upgrading) in 2015. The vast majority of the purchases transactions excluding MNCs and public sector are down to "hold-and-flip" strategies consistent with vulture funds.

Decomposing the investment picture, the IMF states that "Investment is reviving but remains low by historical standards, with residential construction recovery modest to date. Investment (excluding aircraft orders and intangibles) in the year to Q3 2014 was up almost 40 percent from two years earlier, led by a rise in machinery and equipment spending."

Unfortunately, we have no idea how much of this is down to MNCs investments and how much down to domestic economy growth. Furthermore, we have no idea how much of the domestic growth is in non-agricultural sectors (remember, milk quotas abolition is triggering significant investment boom in agri-food sector, which is fine and handy).

"But the ratio of investment to GDP, at 16 percent, is still well below its 22 percent pre-boom average, primarily reflecting low construction. While house completions rose by 33 percent y/y in 2014, they remain just under one-half of estimated household formation needs. Rising house prices are making new construction more profitable, yet high costs appear to be slowing the supply response together with developers’ depleted equity and their slow transition to
using external equity financing."

All of this is not new to the readers of my blog.

The key to IMF Article IV papers, however, is not the praise for the past, but the assessment of the risks for the future. And here they are in the context of Ireland - unwelcome by the Ministers, but noted by the Fund.

While GDP growth prospects remain positive for Ireland (chart below), "growth is projected to moderate to 3½ percent in 2015 and to gradually ease to a 2½ percent pace", as "export growth is projected to revert to about 4 percent from 2015". Now, here the IMF may be too conservative - remember our 'knowledge development box' unveiled under a heavy veil of obscurity in Budget 2015? We are likely to see continued strong MNCs-led growth in 2015 on foot of that, except this time around via services side of the economy. After all, as IMF notes: "Competitiveness is strong in the services export sector, albeit driven by industries with relatively low domestic value added." Read: the Silicon Dock.

Here are the projections by the IMF across various parts of the National Accounts:

So now onto the risks: "Risks to Ireland’s growth prospects are broadly balanced within a wide range, with key sources being:

  • "Financial market volatility could be triggered by a range of factors, yet Ireland’s vulnerability appears to be contained. Financial conditions are currently exceptionally favorable for both the sovereign and banks. A reassessment of sovereign risk in Europe or geopolitical developments could result in renewed volatility and spread widening. But market developments currently suggest contagion to Ireland would be contained by [ECB policies interventions]. Yet continued easy international financial conditions could lead to vulnerabilities in the medium term. For example, if the international search for yield drove up Irish commercial property prices, risks of an eventual slump in prices and construction would increase, weakening economic activity and potentially impacting domestic banks." In other words, unwinding the excesses of QE policies, globally, is likely to contain risks for the open economy, like Ireland.
  • "Euro area stagnation would impede exports. Export projections are below the average growth in the past five years of 4¾ percent, implying some upside especially given recent euro depreciation. Yet Ireland is vulnerable to stagnation of the euro area, which accounts for 40 percent of exports. Over time, international action on corporate taxation could reduce Ireland’s attractiveness for some export-oriented FDI, but the authorities see limited risks in practice given other competitive advantages and as the corporate tax rate is not affected."
  • "Domestic demand could sustain its recent momentum, yet concerns remain around possible weak lending in the medium term. Consumption growth may exceed the pace projected in coming years given improving property and labor market conditions. However, domestic demand recovery could in time be hindered by a weak lending revival if Basel III capital requirements became binding owing to insufficient bank profits, or if slow NPL resolution were to limit the redeployment of capital to profitable new loans." Do note that in the table listing IMF forecasts above, credit to the private sector is unlikely to return to growth until 2016 and even then, credit growth contribution will remain sluggish into 2017.

And the full risk assessment matrix:

Oh, and then there is debt. Glorious debt.

I blogged on IMF's view of the household debt earlier here: and next will blog on Government debt risks, so stay tuned.

25/3/15: IMF on Irish household debt crisis

IMF on Irish household debt crisis (from today's Article IV paper):

"Household balance sheets are healing gradually, yet loan distress remains high and over half of arrears cases are prolonged. Households have cut nominal debts by 20 percent from peak through repayments primarily funded by a 4 percentage point rise in their trend savings rate. Debt ratio falls have been large by international standards but debt levels remain relatively high at 177 percent of disposable income. Household net worth has risen 25 percent
from its trough."

One note of caution: IMF statement ignores sales of household debt out of the Central Bank-covered statistics to vulture funds. Furthermore, repossessions, insolvencies, bankruptcies, voluntary surrenders and some mortgages restructurings have also contributed to the reduction in household debt. Thus, not all of the debt reduction is down to organic debt repayment by households.

It is also worth noting that per chart above, Irish household debt is currently at the levels of 2005-2006 - hardly a robust reduction on crisis-peak.

More from the IMF: "A recent survey finds household debts concentrated among families with mortgages, having 2 to 3 children, with the reference person aged 35 to 44, and in the two top income quintiles. Yet, their debt servicing burden is still similar to other groups, reflecting the high share of long-term “tracker” mortgages, with an average interest rate of 1.05 percent at end 2014."

The problem is that the recent survey IMF cites covers data through 2013 only! (

Overall issues, therefore, are:

  1. Irish household debts remain extreme relative to disposable income;
  2. Distribution of household debts is adversely impacting the most productive segment of Irish population and the segment of population in critical years for pensions savings; and
  3. Deleveraging of the households is by no means completed and remains exposed to the risk of rising interest rates in the future.

All points I raised before and all points largely ignored by Irish policymakers.

25/3/15: As Bogus Is, Bogus Does… IMF on Irish MNCs-led Growth

The IMF has published its Article IV consultation paper for Ireland and I will be blogging more on this later today. For now the top-level issue that I have been covering for some time now and that has been at the crux of the problems with irish economic 'growth' data: the role of MNCs.

My most recent post on this matter is here:

IMF's Selected Issues paper published today alongside Article IV paper covers some of this in detail.

In dealing with the issues of technical challenges in estimating potential output in Ireland, the IMF states that "Irish GDP data volatility and revisions make it difficult to assess the cyclical position of the economy in the short-run. Ireland’s quarterly GDP growth data are among the most volatile of all European Union countries, more than twice the variability typically seen."

The IMF provides a handy chart:

And due to long lags in reporting final figures, as well as volatility, our GDP figures, even those reported, not just projected, are rather uncertain in their nature:

However, as IMF notes: other structural issues with the economy, besides poor reporting timing and quality and inherent volatility, further 'complicate' analysis:

"Multinational enterprises (MNE) accounting for one-quarter of Irish GDP can vary their output substantially with little change in domestic resource utilization. As shown in a recent study, MNEs represent only 2.1 percent of the number in enterprises in Ireland but slightly over half of the value added in the business economy. MNE output swings, sometimes related to sectoral idiosyncratic shocks (e.g., the “patent" cliff” in 2013...), can occur with little apparent change in
domestic resource utilization."

In other words, there is little tangible connection between output of many MNEs and the real economy. And the latest iteration of tax optimisation schemes deployed by the MNCs is not helping the matters: "The sharp increase in offshore contract manufacturing observed in 2014 is another example of such a shock. Such shocks to the productivity of the MNE sector may be best treated as shifts in potential GDP, because the result is a change in GDP without any significant change in resource tensions or slack in the

But MNCs are important for Ireland's tax base, right? Because apparently they are not that important for determining real rates of growth. Alas, the IMF has the following to say on that: "Swings in the value added of MNEs contribute substantially to variations in Irish GDP. Yet such swings are not found to have a significant effect on [government] revenues."

How big of an effect do MNCs have on the real economic growth as opposed to registered growth? IMF obliges: "The gross value added excluding the sectors dominated by MNEs behaves quite differently from aggregate GDP in some years. For example, in 2013 it grows by 3 percent at a time when official GDP data
were flat." In other words, the real, non-MNCs-led economy shrunk by roughly the amount of growth in the MNCs to result in near-zero growth across the official GDP.

However, since 2013 (over the course of 2014) a new optimisation scheme emerged as the dominant driver of manufacturing MNCs-led growth: contract manufacturing. IMF Article IV itself contains a handy box-out on that scheme, so important it is in distorting our GDP and GNP figures. Per IMF: "In 2014, multinational enterprises (MNEs) operating in Ireland made greater use of offshore
manufacturing under contract."

A handy CSO graphic illustrates what the hell IMF is talking about:

As covered in the link to my earlier blog post above, "Goods produced through contracted manufacturing agreements are treated differently in the national accounts than in customs measures of trade. As these goods do not cross the Irish border, they are not included in customs data on exports. If, however, the goods remain under the ownership of the Irish company, they are recorded as exports in the national accounts. Payments for manufacturing services and patent and royalty payments are service imports in the national accounts, offsetting in part the positive GDP impact of contracted manufacturing."

And to confirm my conclusions, here is IMF on the impact of contract manufacturing (just ONE scheme of many MNCs employ in Ireland) on Irish growth figures: "Contracted manufacturing appears to have had a significant impact on GDP growth in 2014 although it is difficult to make a precise estimate. Customs data on goods exports rose by 2.8 percent y/y in volume terms in the first nine months of 2014. In contrast, national accounts data on exports rose 12 percent in the same period. The gap between these two export measures can be attributed in part to contracted production, but could also reflect other factors like warehousing (goods produced in Ireland but stored and sold overseas) and valuation effects." Note: I cover this in more detail in my post.

"Assuming conservatively that contract manufacturing accounted for about half of the difference between customs and national accounts data, the implied gross contribution to GDP growth in the first three quarters of 2014 from contract manufacturing is 2 percentage points. However, there is a need to take into account the likelihood that service imports were higher than otherwise, but it is not possible to identify the volume of additional service imports linked to contract manufacturing."

One scheme by MNCs accounts for more than 2/5ths of the entire Irish 'miracle of growth'. Just one scheme!

And now… to the punchline:

Update: Seamus Coffey commented on the 2013 figure for domestic (real) economy cited above with an interesting point of view, also relating to the broader issue of the Contract Manufacturing: and his blogpost on the subject is here:

26/2/15: ‘Kermit The IMF’ on Irish Growth: It’s Not Easy Being Greeen…

This is an unedited version of my column in the Village Magazine for February 2015

January IMF review of the economic situation in Ireland rained a heavy dose of icy water over the already overheating Government spin machine, and much of the IMF concerns centre around exactly the same themes that were highlighted in these very pages last month.

Top of the IMF worries list is growth.

Budget 2015 assumed GDP expansion of 3.9 percent in 2015, with 3.4 percent average growth from 2016 through 2018. The IMF forecasts growth of 3.3 percent in 2015, 2.8 percent in 2016 and “about 2.5 percent thereafter”. In simple terms, over 2015-2018, cumulative growth forecast discrepancy between IMF and the Government is now just shy of 3.3 percent. Put differently, based on IMF forecasts, Irish Government may be significantly overestimating economic prospects of the country.

Source: IMF and Department of Finance

The drivers behind IMF’s skeptical view of our prospects are exactly in line with those discussed in this column before. Exports growth is likely to be much shallower than the Government anticipates, while the domestic demand is still subject to massive debt overhang carried by households and companies.

As an aside, the IMF assessment of the Budget 2015 measures is far from confirming the mainstream Irish media and Irish Left’s view. The IMF had this to say about the measures: “Income tax cuts that increase the already strong progressivity of the system are the main items. While not significant to the revenue intake, reductions in property taxes by 14 local authorities, including Dublin, are a setback for collections from this recent broadening of the tax base.” Doing away with the tax breaks is fine, if it is done in the environment of falling distortionary taxes. Still, coupled with elimination of the property capital gains relief, the entire Budget 2015 was hardly a transfer from the poor to the rich, but rather a net tax increase on the upper earners, especially the self-employed professionals, relative to lower waged.

But back to the impact of growth risks on our Government’s balance sheet. Consider the IMF estimates for public debt dynamics.

Firstly, note that public debt fell from 123 percent of GDP in 2013 to 111 percent of GDP at the end of 2014. Impressive as this change might be, it is driven by one-off changes and not by any significant debt drawdowns. Consolidation of the IBRC into General Government accounts and its subsequent liquidation first pushed Irish Government debt up by 6.2 percent of GDP (EUR12.6 billion) in 2013 and then cancelled most of the same in 2014. All in, IBRC liquidation shaved off 6 percentage points off our 2014 debt to GDP ratio. In between, change in the EU accounting rules raised our 2013 GDP by 6.5 percent. Stronger economic conditions and smooth exit from the Troika Programme have meant that the Irish Government was free to spend some of the borrowed cash reserves on buying out IBRC-linked bonds held in the Central Bank. This drawdown of previously borrowed cash contributed to some 4 percentage points drop in Irish debt to GDP ratio. For all the Government’s bravado, last year’s economic recovery contributed only 1.75 percentage points to the debt decline or roughly one sixth of the overall improvement.

Still, barring adverse shocks, we remain, for now, on course to drive debt to GDP ratio below 100 percent of GDP before the end of 2019.

As IMF notes, however, a temporary drop of 2 percentage points in 2015-2016 forecast nominal GDP growth rates would push our debt to GDP ratio to 117 percent in 2016. And on the balance side, a one percent rise in primary spending by the Government can push public deficit to 3.6 percent of GDP in 2015 and 3.0 percent in 2016 instead of Government projected 2.7 percent and 1.8 percent, respectively.

The IMF is concerned that the Irish Government is suffering from the ‘adjustment fatigue’, especially once the upcoming political pressures of the general election start looming on the horizon. The danger is that “…medium-term fiscal consolidation is at risk from spending pressures, requiring the adoption of a clear strategy to enable the restraint envisaged to be realized. … As the public investment budget is already low, current expenditures will have to bear the brunt of spending restraint, while ensuring the capacity to meet demands for health and education services from rising child and elderly populations. Nominal public sector wages and social benefits must be held flat for as long as feasible and the authorities will need to continue to seek savings across the budget.”

Somewhat predictably, the Irish authorities offered no strategy for fiscal management beyond 2015 and no expenditure policy solutions that can address such risks. Instead of sticking to promised costs moderation, the authorities told the IMF that increased current spending, including on higher public sector wages, can be offset by “discretionary revenue measures”. In other words, should the Government want to fund pre-election giveaways to its preferred social partners (aka public sector wage earners) it can simply hike taxes on less favoured groups. A slip of the veil revealing the ugly nature of our politics-captured economic strategy.

Politics is now firmly displacing economics in both, the way we set our forecasts, as well as interpret the existent data.

Take, for example our reported nearly 5 percent growth over 2014. Various recent ministerial statements extoled the virtues of the Government that made Ireland “the envy of Germany” as the best performing economy in Europe. Largely ignored in the official rhetoric was that much of this growth came from the “contract manufacturing outside Ireland that is dominated by a few companies”. The problem is that none of it has any real connection to Ireland and, as IMF notes, much of it “could quickly turn”.

Private domestic demand, excluding aircraft leasing and investment in tech services-linked intangiblesrose by closer to 3 percent. Again, according to the IMF this figure may be a more realistic estimate of the real recovery. In other words, somewhere between 30 and 40 percent of the recorded growth in 2014 was down to just one an accounting trick. And multinationals had plenty other accounting tricks up their sleeves that no one is bothering to count.

Even the 3 percent domestic growth estimate stands inconsistent with the data on household finances. Stripping out gains in household net worth attributable to the property markets, households’ financial positions hardly improved in 2014. Mortgages in arrears accounted for 23.7 percent of all house loans outstanding, when measured by the balance of loans, down from 25.6 percent a year ago. Based on the Central Bank data, at the end of Q3 2014, some 244,816 mortgages accounts (amounting to EUR46.1 billion) were either in arrears, in repossession, or at risk of arrears – a number that is roughly 4,500 higher than a year ago. Based on the Department of Finance data, 85 percent of all accounts in arrears ‘permanently restructured’ at the end of November 2014 involved arrears solutions that result in higher debt over the life time of mortgage than prior to restructuring.

Based on the Central Bank data, Q3 2014 household deposits in the Irish banking system stood at EUR85.9 billion, slightly down on EUR86.0 billion a year ago.

In part, the above figures translate into the improvement in banking sector performance at the expense of households. In the first half of 2014, Irish banks recorded their first positive return on assets since the beginning of the crisis, and the net interest margin (the difference between the bank lending rate and the cost of funding) rose to a crisis-period high of 1.5 percent. But credit growth remained negative, contracting at a rate higher than in 2011. Put this in simple terms, the banks continued to bleed their clients dry at a faster rate than the recovery was making them stronger, and there was preciously little observable improvement in households’ financial positions compared to 2013. Certainly not enough to claim the picture to be consistent with rapid economic growth.

The IMF isn’t undiplomatic enough to say that, but the Fund is clearly concerned more than the Irish authorities at this state of imbalances. As they should be: the Central Bank internal stress-testing for new mortgages being issued by the banks today is for the interest rates rising to over 6-6.5 percent over the life time of the loan.

Of course, the Central Bank is a myopic institution when it comes to telling us what effects such rates would have on existent corporate and household loans. But give it a thought. Currently, average existent mortgage on the market is priced at interest rates below 2 percent per annum. And with that, 17.3 percent of all mortgages accounts are officially in arrears, and 34.3 percent of all balances relating to mortgages loans are either in arrears, in repossessions or restructured.

Should the interest rates double, let alone triple, what mortgages default rates on currently performing mortgages can we expect? What amount of economic growth do we need to shore up our household finances sufficiently enough to escape the interest rate squeeze that even the Central Bank admits might arrive in the foreseeable future? Can the current trends in the recovery – the ones that are leaving households out in the cold, while superficially inflating official GDP figures – deliver any sense of sustainability of our economic performance across the financial, fiscal and economic areas in this country should even mild shocks take place?

One can only wonder as to the answers to these questions, as well as to the silence of our authorities on these topics.