JOINT COMMITTEE ON FINANCE, PUBLIC EXPENDITURE AND REFORM díospóireacht -
Wednesday, 16 May 2012

Audit of Irish Debt: Discussion

Chairman

I welcome Dr. Sheila Killian, who is the head of the department of accounting and finance at the University of Limerick. She is accompanied by Dr. John Garvey and Ms Frances Shaw. I remind members that a briefing paper which was prepared in advance of today's presentation has been circulated by e-mail. After Dr. Killian's opening remarks, Ms Shaw will address members on Irish sovereign bonds, the mechanics of the bond market and distressed sovereigns in the bond market. Those matters are covered on pages 2 to 13 of the briefing paper I have mentioned. Dr. Killian will speak about the scale of Irish debt, opacity in the bond markets and interconnectedness. Those matters are covered on pages 14 to 27 of the briefing paper. Dr. Garvey will speak about the extensive ongoing discussion on the existing European austerity policy, the policy's social and economic impact in member states and expected long-term effects, how the austerity agenda will evolve and what an alternative European agenda might look like. Those matters are covered on pages 14 to 28 of the briefing paper.

I remind members, witnesses and those in the Gallery that all mobile telephones must be switched off and immobilised entirely. I must advise the witnesses that by virtue of section 17(2)(l) of the Defamation Act 2009, they are protected by absolute privilege in respect of their evidence to this committee. If they are directed by the committee to cease giving evidence on a particular matter and they continue to do so, however, they are entitled thereafter only to a qualified privilege in respect of their evidence. Witnesses are directed that only evidence connected with the subject matter of these proceedings is to be given. They are asked to respect the parliamentary practice to the effect that, where possible, they should not criticise or make charges against any person or persons or entity by name or in such a way as to make him, her or it identifiable. Similarly, members are reminded of the long-standing ruling of the Chair to the effect that they should not comment on, criticise or make charges against a person outside the House or an official by name in such a way as to make him or her identifiable.

Dr. Sheila Killian

I will begin by introducing my colleagues. Ms Frances Shaw manages the trading floor at the University of Limerick, which is the source of some of the data we used for our study of Irish debt. She is doing her PhD on sovereign debt. Dr. John Garvey lectures in risk management, with a focus on capital markets. Last year we prepared a publication, "An Audit of Irish Debt", with which some members may be familiar. However, for today we have prepared a more up-to-date and focused briefing paper. If members are to read only one of these, I recommend the briefing paper, because it is more up to date and useful and we will refer to it throughout our presentation. It is 29 pages in length and is the most useful of the three documents provided. The Chairman has outlined what each of us will talk about, so I will hand over to Ms Shaw now.

Ms Frances Shaw

An Irish Government bond is a debt security issued by the Irish Government with a promise of repayment of par value at maturity. The Irish Government currently has approximately €83 billion outstanding in sovereign debt. Figure 1 in the briefing paper shows the ten benchmarked bonds Ireland currently has outstanding. Along with the coupon and maturity details, we can see from the bond prices that the majority of our bonds are trading at a discount or below par. Page 2 of the briefing paper provides reasons bonds would trade at a discount or a premium, the two main risk factors being credit risk, which includes the risk that an issuer would default on its obligations, and interest rate risk. Further risk factors that affect bond markets are detailed on page 4.

In figure 5 on page 6 we can see the special inverse relationship between the bond price and the yield to maturity. These two graphs represent the price and yield of our current five-year benchmark bond. We can see how the yield continued to rise from early 2010 through to July 2011 and simultaneously the price of the bond fell. It should be noted that changing yields and prices in the secondary market have no effect on the sovereign entity that has issued the debt. Despite the rise in yield as described on page 7, the Government will continue to pay the coupon rate of 4.6% and a par value of €100 at maturity, just the same as when yields were low.

The second section of this discussion in the briefing paper relates to the mechanics of the Irish bond market and how Irish sovereign bonds are traded. There have been a lot of questions recently surrounding the identity of Irish bondholders and bond market participants. In the primary market bonds are issued to 16 primary dealers by the National Treasury Management Agency through scheduled electronic auctions. These 16 primary dealers bid on the bond, which in turn determines the bond price, and those successful in the auction can then sell the bonds on to their investors. All Irish bonds are then listed and traded in the secondary market on the Irish Stock Exchange. As described on page 8 of the briefing document, the primary dealers are under no obligation to provide the NTMA with details on their clients undertaking the trades in the Irish bonds. Since December 2000, Ireland has used a clearing house called Euroclear for daily settlement of its bonds. The annual coupon payments and the principle value at maturity are also paid through Euroclear, although the Central Bank keeps a bond register for each bond issue. Euroclear groups all security positions together into one account and this one account makes up over 99% of the holders, meaning it is not possible to identify the individual bondholders from the Central Bank register.

I will now talk about distressed sovereign entities. Page 9 of the briefing document outlines the definition of default. Definitions vary across the literature, defying the public perception of default as a binary event. The Standard and Poors definition defines default as the failure to meet a principle or interest payment on the due date contained in the original terms of a debt issue. Therefore, any type of restructuring or rescheduling is also classed as default. Unlike corporate debt, sovereign debt markets are characterised by weak contractual enforcement, in that creditors are unable to seize assets directly in the borrower country in the case of default. Owing to this lack of secured assets the question often arises as to why sovereigns repay their debt. Pages 10 and 11 in the briefing document discuss this question and an examination of the literature yields four main reasons.

First, they do so to avoid penalties. This is to avoid trade sanctions and embargoes that might be enforced by creditor countries if the borrower were to cease payment. The second reason relates to reputational costs, such as access to international bond markets and the increased cost of credit. The literature concludes that reputational costs are often short-lived with regard to access to international bond markets. Although access may be lost during default, once all restructuring is complete, markets do not tend to discriminate against countries that have defaulted. However, markets do discriminate in terms of the cost of credit for these countries, as measured by spreads and credit ratings. It should be noted that sovereigns that defaulted on their debt in the 1980s were able to re-access the international bond markets approximately four years after default. The third reason for continued repayment of debt relates to the adverse impact that default could have on domestic financial systems. The fourth reason is that of high political costs.

Finally, this section concludes with two short examples of recent debt crises where countries chose not to repay debt. First, the case of Iceland, which chose not to repay its banking debt allowing its banking system to collapse in 2008. Second is the case of Argentina, which defaulted on its debt in 2001, making it the largest debt default in history. My colleague, Dr. Sheila Killian, will now talk about the scale and scope of Ireland's debt.

Dr. Sheila Killian

My contribution focuses on the central part of the report, which starts at page 14 of the briefing paper. This section contains a lot of detail, so I will concentrate on just three main points: the scale and diversity of Irish debt; opacity in the bond markets; and the interconnectedness of the financial system.

On the scale of Irish debt, page 14 shows the six main types of debt with which we are dealing. Many reports, such as the recent CNBC report, include household debt and corporate debt in Irish debt, thereby making Ireland the most indebted country in the world. Household debt is a serious issue, but we do not address it in this briefing paper. Instead, we focus more or less on the debt for which the State has responsibility. We have looked at the six categories of debt mentioned on page 14: Government bonds, which were issued by Ireland as a sovereign when we were accessing the market; the bailout moneys, which are lines of credit coming from the IMF, the EFSF and the EFSM and some bilateral loans from Denmark and the UK and a facility from Sweden; the bank bonds in the banks, both guaranteed and unguaranteed, which are, effectively, owned by the State; promissory notes owed by the State to the Irish Bank Resolution Corporation, formerly Anglo Irish Bank; and the bond issued in March 2012 as part of the restructuring of the most recent promissory note payment. There is significant detail on pages 16 to 18 of the briefing document that deals with each of these in turn and I hope this will be useful. This kind of information is time sensitive, so it is, to a certain extent, already outdated by the quarterly bulletin from the Central Bank, which was issued last night. Nevertheless, the information on the quality of the debt and market sensitivity is still, hopefully, useful.

A table on page 19 summarises the state of play, based on estimates and information. However, as I mentioned, the figures have changed since this was written last week. Two points may be taken from this. First, it is important not to regard all of the national debt as one big amorphous mass of equal rank or to regard a default on Irish debt as a binary or all-or-nothing event. These types of debt have different levels of market sensitivity. Second is the sheer scale of the debt, particularly with regard to the relatively narrow tax base from which it is expected to be repaid.

From page 20, the briefing paper discusses the issue of opacity, or a lack of transparency in the bond markets, an issue which bedevilled our work on the debt audit last year. Unlike the case of company shareholders, where there is a register of shareholders and everyone who has a share in the company can see who else owns the shares - there are good policy reasons this should be the case - there is no such provision for bondholders. The argument is that a bond can be regarded as an IOU for an amount, kind of like a €100 note that circulates freely and for which there is no need to know who owns it or all the other €100 notes. This is a valid argument in the case where the holders of €100 notes or the fact somebody owns them does not affect policy in any way. In the current situation, when the presence of the bondholders and identity of the bondholders is congruent to policy, it is problematic for public discourse on the bondholders to have that kind of opacity. This is not helpful.

Partial lists of bondholders are available from sources such as Bloomberg. One such is available on page 21, listing holders of debt in AIB. These kinds of lists emerge from time to time in publications. They are less helpful than they might appear for three reasons. First, the amount of coverage the list has, which can be seen here on the top right-hand corner of page 21. This is a list of the holders of 2.77% of the bonds. It is a tiny slice of the bonds, which vary between 3% and 10%. Second, many of the names do not tell us much about beneficial ownership, so the name at the top of that list is Julius Baer Multicooperation, which is a private Swiss bank and tells us nothing about beneficial ownership. Third, they are not grouped by related parties. For example, Nos. 9 and 10 on the list are Union Investment GMBH and Union Investment Luxembourg SA, so we do not have an idea of aggregation. For those reasons, those partial lists are less helpful than they might be.

The Central Bank provides information on the residence of the Irish bondholders. That is also less meaningful than it might be, as so many multinational companies have their treasury management operations within Ireland. Therefore, we have Irish resident companies that manage funds on behalf of non-resident entities. So the fact that bonds are being held by resident companies does not necessarily tell us very much about the beneficial ownership of the bonds. The residence information and the general figures on non-financial corporate debt do not have as much meaning as we might think.

This leads to the idea of interconnectedness. Page 23 of our presentations shows a shot from a 2010 IMF study on financial interconnectedness, displaying a number of nodes of such interconnectedness. Ireland is one of the most financially interconnected countries in the world, and we can see from the diagram that there are ties to Sweden, the United Arab Emirates, the Czech Republic, Saudi Arabia and China. These interconnections do not just mean that we are a very open economy and are open to the impact of actions elsewhere; they also mean that any action taken by Ireland will have repercussions overseas. This introduces the idea of a solution to Ireland's issues being carried out on a more multilateral basis. My colleague, Dr. John Garvey, will discuss the implications of that.

Dr. John Garvey

What is clear from Dr. Killian's outline of the reality of Ireland's case is that it is a unique example of a distressed sovereign. Its debt is characterised by a very diverse set of liabilities, some of which are in the traditional form of sovereign debt and others are pieces of private debt that have obviously been made public by the very wide guarantee given by the Government. Given the level of interconnectedness in the European banking system, as well as the particular characteristics of the sovereign debt market, the choices available to both European institutions and to Ireland are quite limited in that context. I would like to set out why the current approach by European institutions will change, in my opinion, and what an alternative European agenda might look like in terms of coping with this issue. Although the environment right now is chaotic, it is useful to look at a model for how public policy develops, and then we can look at the austerity policy within this context. I will use this to explain why the policy will change and then I will look at alternative policies which have been discussed in respect of sovereign debt restructuring and so on, and which may have been set aside in the past.

In a normal environment, the development of policy usually requires a pre-existing solution that is set out within what is called a policy stream. It is seen to address a particular problem, and then an event or a crisis occurs, and a policy window opens and is used as a hook for implementing a policy. Let us take an example from elsewhere, such as environmental law. People might work towards a solution to solve climate change but when something like Hurricane Katrina happens, that is the hook which forces it through and leads to a change in policy. That is not the case for the current policy being adopted in Europe. According to the model for policy development, the solution of austerity should already have been developed and seen as a way of managing a sovereign debt crisis within the eurozone. However, that is not the case. This is a reactive policy that seeks to stabilise and solve the current system. Austerity policy is widely accepted as a solution for sovereign debt crises and distressed sovereigns, but that is not really what we have. We do not have a traditional distressed sovereign case here because it was a crisis in the global financial system which emerged most acutely in some eurozone countries, and which led to the formulation of this austerity approach. While the austerity measures such as increasing taxation and privatisation are probably an appropriate first step to stabilise and send a signal to the market, the eurozone crisis is not a classic example of a sovereign debt crisis, so it is probably not the solution on its own. We can see that in the change in dialogue at political level in Europe and locally as well. There is an increasing gap between the objectives of austerity and what is actually happening on the ground.

Austerity has to be supported by more engaged activity on the European interbank market by European institutions as they try to add more liquidity to the European banking system. We are seeing responses by senior politicians, who are more willing to accept that the existing approach is probably insufficient to cope with the gravity of the problem. We are beginning to hear people talking about new solutions to the eurozone crisis. One such discussion is about growth orientated policies. The new French President and a number of others have spoken about such policies. These policies are not very well specified at this point. They may represent an alternative agenda down the line but they are not specific at the moment. We are also in an exceptional situation where the extent of the debt overhang in some member states, like Ireland, would probably extinguish any positive effect of many of these suggested growth policies.

There are complementary activities which could help in this context. One might be in the area of financial regulation. We are familiar with ex ante financial regulation which looks to control risks that might emerge in a financial system. However, a number of years ago, ex post financial regulation was proposed within the IMF to deal with sovereign debt restructuring. As Ms Shaw outlined, the sovereign debt markets are unique and are not like corporate debt markets, because sovereign debt is not collateralised. There are two problems which restrict a country from restructuring its debt. The first is called the funding problem, which is a situation where a country has no funds while it enters into restructuring negotiations, and cannot pay for critical services. The second is called a “hold out” problem, which we saw recently in Greece, where a group of creditors will not enter into negotiation and will then hope to benefit from any restructuring that others agree. In other words, they get full repayment while others only get partial repayment. Financial regulation and current IMF structures are useful in dealing with that. There may also be ex post regulation at European level, which may look to devise regulation in the Irish sovereign debt restructuring that is not entirely dissimilar to something like chapter 11 bankruptcy laws in the US. These are ideas that were put forward through the IMF more than ten years ago, but they did not get past the US Government at the time. While austerity may have a limited timeframe as the focus of discussion for future policy, there may be alternative solutions and they may lie in the area of this sovereign debt restructuring legislation, which is similar to bankruptcy law in the US.

Chairman

Before I go to committee members for questions, I would like to look at the headline figures on page 19, which contains the tabular summary of the debt. To clarify, are all of those different categories to be included in the general government debt, or are there some figures that can be excluded, and if so, why? This is for the purpose, for example, of the contemporary discussion of debt as a proportion of GDP.

Dr. Sheila Killian

The calculation of general and national Government debt is not the same as the consideration of these six categories. We examined these six categories because they are quite distinct and can be measured to a certain extent. For example, they are all long term; it does not include any of the short-term financing of the banks. This is not by any means an attempt to be comprehensive; we are just looking at them in order to demonstrate the diversity of types of debt. As I said, unfortunately, this stuff is already outdated, as the Central Bank spoiled our fun by issuing a quarterly bulletin last night.

Chairman

One of the things the committee is aiming for is to assist the public in understanding the global figure of the debt and to see if we can come up with a conclusion with regard to what the debt consists of. The presentation has been very helpful in this regard. For this purpose, are there figures in there that we can easily strip out? Are we comparing apples and oranges? To some extent we must be. We are familiar with the figure with regard to promissory notes, for example. They are figures we already understand. Can we put the two together and see how we would reach the figure for general government debt?

Dr. Sheila Killian

Certainly. For a start, the bank bonds would not normally be included in Government debt. We have the guaranteed bank bonds and particularly the unguaranteed bank bond, which-----

Chairman

Because of a contingency associated with them?

Dr. Sheila Killian

Yes. There is no logical reason to include the unguaranteed bank bonds except for the fact that they continue to be paid. For that reason, I thought we might as well look at them. That is why they are there. This is not by any means a comprehensive effort to map the breakdown of government debt. It is just a look at some particular discrete elements which are either included in or contiguous to the government debt.

Chairman

All right. That is very helpful.

Deputy Joe Higgins

At this committee on a previous occasion I raised that very issue with the Department of Finance and others, and we got a commitment - which I did not follow up, admittedly, although neither did anyone else - that we would get precisely what the Chairman suggested there. I wonder whether the distinguished guests from the University of Limerick might be able to assist us. It would be very useful if we had a detailed breakdown of the total government national debt as it stands and how it came to be what it is, including the different component parts such as bank bailouts and previous debt. It would be useful if this were also done for NAMA and the banks. Is that information collated anywhere? Could the witnesses assist us with that?

Dr. Sheila Killian

We do not have it conveniently collated. Partly, it is bedevilled by the lack of transparency. It is possible to put together fairly precise information on Government bonds and on the bailout funds, for example, but it is more difficult to examine the level of short-term support that goes from the Government to banks. We had a great deal of difficulty in trying to ascertain this when we did the debt audit last year. Much of that information is overtly not in the public domain.

Deputy Richard Boyd Barrett

Is Ms Killian referring to the ELA?

Dr. Sheila Killian

Yes. The difficulty is that information comes out in a staggered form. It is straightforward enough to get figures for last June for one category of the debt, or one might get figures for September for another category of the debt. To get it all together on one page in an up-to-date fashion is much more difficult than it would initially appear. One can get a picture of a particular point in time, but it will be historical.

Deputy Peter Mathews

It has to do with debt-to-GDP ratio.

Chairman

Excuse me, Deputy Mathews. I am going to go to Deputy Michael McGrath.

Deputy Michael McGrath

I can assure my colleagues I will be brief. I thank our guests for their attendance and for their helpful contributions. The fact that the presentations were circulated in advance gave us a chance to look through them.

The Chairman just referred to the table that breaks down the debt levels that were examined, and Dr. Killian, or perhaps Dr. Garvey, mentioned different levels of market sensitivity for the different elements of debt. Is there an established hierarchy among the debt that is laid out here in the event of a crisis or of debts being called in? For example, when a company goes into liquidation there is an established hierarchy that determines who gets paid first, second and third. Is that the case for the debt shown here?

On a related point, negotiations are under way with regard to the promissory notes and the remaining €24 billion that has not yet been exchanged for a Government bond. If, as seems likely, what emerges is that the promissory notes are refinanced, perhaps through the EFSF or ESM, would it mean that that type of debt would be elevated? A promissory note does not have the same status as a Government bond, for example, but if it is exchanged for bonds from one of the European bailout funds, are we looking at a copperfastening of that debt liability?

Dr. Garvey mentioned a policy window and growth policies. As Deputy Higgins said, this has become the talk of the moment. What does he think is likely to emerge from the ongoing discussions with the new French President, Mr. Hollande, and the German Chancellor? Various European Heads of State are now actively talking about growth-oriented policies, but in practical terms, where is the beef? Are we looking at additional borrowings from the European Investment Bank, or eurobonds? What could this lead to in practical terms? What are the options that could result in some stimulus for European economies?

Dr. Sheila Killian

I will deal with the first one or two questions. I should emphasise that the three of us might have quite different views on where this could go. That needs to be clear initially.

There are two ways of looking at hierarchies of debt. One is the traditional way, applying to companies, of who gets paid first. The other is by considering market sensitivity - that is, non-payment of which creditor would be more disastrous in terms of reputation. We are in a period of massive uncertainty, as everyone in this room knows, so it is quite difficult to predict the consequences, but we can certainly say, for instance, that the original Government bonds have far higher market sensitivity, in terms of restructuring, than the promissory notes or the unguaranteed bank bonds, for which, arguably, there would not originally have been an expectation of repayment. We can consider it along these lines, and we have made a brave effort in the table to describe some elements as having a high level of sensitivity and others as having a medium to low level of sensitivity. Due to the period of turbulence we are in, it is difficult to be precise about this.

The Deputy is quite right in that if we refinance the promissory notes through ESM or bailout funds we are putting them in a more sensitive location.

Dr. John Garvey

On the question of growth-oriented policy, as I set out in the briefing paper, policy at the moment is reactive, which is not ideal, obviously, but we are where we are, if you like. However, I cannot see that debate going anywhere constructive. This is my own view, and I only say it because this is as much a political as an economic issue; there are common European institutions dealing with very different political economies within Europe. There are two reasons such policies will not go anywhere. The first is political; if growth-oriented policies are to be implemented, where does the benefit fall? German taxpayers will not be too happy if they fall outside Germany, for a good reason. The second reason they might have a limited lifespan is that the extent of the debt overhang in those countries that are distressed, such as Ireland, is so great that any growth-oriented policy that might flow towards Ireland would be extinguished by economic behaviours; people will behave in an ultra-conservative manner in the expectation of further austerity measures. Does that answer the Deputy's question?

Deputy Michael McGrath

Yes, thank you.

Deputy Peter Mathews

I thank the delegates for their presentation. A few points arise. Page three of the submission refers to the scale of Irish debt. It states that many reported figures such as that from the recent CNBC report include household debt and corporate debt as part of the total, bringing Ireland to the top of the list of most indebted countries worldwide. While personal debt is a very serious issue in Ireland, it is outside the scope of this discussion.

I understand the argument on which the presentation is predicated but I would argue that we have to address the root of the problem. If our sovereign debt rises to 120% or even 130% and we ignore the debt overhang on households and small and medium businesses, we are not even on the playing pitch. That is where our focus should be.

Almost ten months ago, on 25 August 2011, in Jackson Hole, Wyoming, the governors of central banks from all over the world met in convention. The BIS economists - the delegates probably know them personally as well as academically - presented papers on the 18 OECD leading developed countries and the effects of the three elements of debt on any economy, the household debt, the non-financial corporate debt and the sovereign debt. The resources and energies of a country or an economy must service and repay those levels of debt. In layman's terms, what was understood by that paper was that if a country goes over 90% levels compared to GDP or income------

Chairman

Sorry, Deputy, there seems to be mobile telephone interference. I ask that it be switched off because it interferes with the sound production here and it is really not very good.

Deputy Peter Mathews

-----that is really our problem. I refer to an article in The Irish Times of today. What has been happening in the German economy for the past number of years is an effective 40% undervaluation of the euro as the engine of its economy. That is one whopping advantage. It really behoves the German economic and political leaders to recognise that this country - Ireland - was saddled with a minimum €75 billion of private sector bank losses in the first instance. The bank that is now IBRC, then, Irish Nationwide Building Society and Anglo Irish Bank, accounts for approximately €35 billion and also the Central Bank of Ireland and the ECB stepped in to replace the funding of the senior bondholders in AIB and Bank of Ireland. This notion of pretending that it is short-term liquidity is not correct because it is stuck money. This is where we must press the case to the euro system that we did it for Europe. We saved the euro at the end of 2008 and the beginning of 2009 and through 2009 while the contagion fires were smouldering and Greece became the focus of attention. This message has not sunk through to the policy makers and the politicians of Germany. Before the whole situation goes out of control it is time that they start to recognise what the embedded losses are and which need to be recognised through full provisioning and not model provisioning as BlackRock did for us, but portfolio provisioning by bankers who need to be honest about the collectability of the debts they carry on their balance sheets.

Chairman

Has the Deputy a question for the delegates?

Deputy Peter Mathews

I wish to refer to a typographical error on page 7 of the submission which the delegates may wish to correct. It is contained in the reference to the issuing to the primary markets. Issuing at a discount simply means that the selling price is below par and at a premium, meaning above par. I refer to the third last line on page 7, in case this document is being circulated.

Dr. Sheila Killian

I completely agree with Deputy Mathews on the issue of household debt and I am confident my colleagues are also in agreement with me on this point. The issue of the household debt is the big one because when households are that indebted, particularly for any kind of Irish recovery, for people to spend and support small and medium businesses and to get the economy moving-----

Deputy Peter Mathews

And SME debt too.

Dr. Sheila Killian

Exactly. The household debt and the debt of small domestic corporates is enormous. There is an urgent need for an exercise to be done on that question, analogous to how national debt was examined. We are not trying to pretend it is not important by excluding it but rather one needs to have scope somewhere. In my view there is a very urgent need for that debt to be addressed.

Deputy Peter Mathews

It is our primary requirement. By the way, if we got the-----

Chairman

Sorry, Deputy, please, we have that point. Do the witnesses wish to respond to any of the questions raised by Deputy Mathews?

Dr. Sheila Killian

I agree with him on that point.

Deputy Peter Mathews

If I may ask just one little question. As Germany benefits from an undervalued euro in the German economy, if we were to achieve a creditor write-down to our two remaining banks - the big engines for the economy - along with the Anglo ELA-promissory note of €70 billion, that would equate to about a 30% devaluation which would be the start of the recovery of this economy.

Deputy Mary Lou McDonald

I thank the delegates for a very excellent piece of work and a very interesting presentation. I have a question on the promissory note and the submission shows a hierarchy of medium to low and then ratcheting up to high in the manner in which it was restructured. What does the promissory note mean in terms of the debt to GDP ratio? What does this piece of debt mean in respect of the overall debt burden? I ask the delegation to spell that out. I ask it to set out if there were any additional immediate costs as a result of that change made by the Government for financing the note. I ask it to speak about the payment of unguaranteed bonds because they were low and unguaranteed and yet they were paid. I ask for its views on the notion of overall debt sustainability and in terms of the troika peak projections into 2015. This is a subject which has been raised at this committee repeatedly, the debate about debt levels and their sustainability.

Dr. Garvey made a very interesting remark about the kind of change of pace in the focus on growth strategies and stimulus strategies and so on and the dilemma that the debt overhang creates for such a policy and perhaps making it self-defeating. I do not wish to put words in Dr. Garvey's mouth but he indicated that the debt overhang compromises any growth strategy that might be initiated. What is his view of a growth strategy in a policy environment and climate where austerity is the only game in town? Does he regard the austerity agenda equally as a compromising or self-defeating matter in respect of any growth?

We will be voting on the treaty at the end of the month. It contains specific provisions in respect of debt. I ask him to outline what those new rules, if adopted, will mean in terms of dealing with this debt in euro and cents.

Chairman

To clarify, is the Deputy referring to the debt brake or to the reduction of debt?

Deputy Mary Lou McDonald

I am referring not to the deficit but rather to provisions regarding the reduction of debt, namely, the 5% of excess.

Dr. Killian used the term "opacity" in referring to bondholders. The lack of opacity in this regard is particularly problematic in the current climate where there is an ongoing heated exchange in respect of public policy. Representatives of financial institutions are often to be heard on the airwaves putting forth the industry view on these matters, but the lines become blurred when we do not know the identity of the bondholders or beneficial owners. It potentially compromises the quality and integrity of the entire public debate. Dr. Killian has made the case clearly as to why that is problematic, but does she have any solution in this regard?

Dr. Sheila Killian

I am pleased there are no difficult questions.

Chairman

There is no pressure on Dr. Killian.

Dr. Sheila Killian

My colleagues and I have very different opinions as to how all of these issues will ultimately play out. I will give my views before asking my colleagues to give theirs. On the promissory notes, the latest data from the quarterly financial accounts show that overall Government debt is some €173 billion, with the promissory notes amounting to approximately one seventh of that. However, they constitute a unique segment of debt and there is a widespread and understandable perception that they are perhaps the easiest element of Government debt to restructure. When the recent payment was restructured, it bumped the payment of €3.1 billion from a promissory note to actual Government debt. That has two effects, namely, it moves the debt up the hierarchy and, second, there were transaction costs which, as I understand from the press release at the time, amounted to some €4 million in terms of interest and other payments. The matter will have to be dealt with again in March 2013 when the next payment falls due. There is a certain logic to deferring a problem in the current environment, but it is not a solution.

On the issue of unsustainability, the tendency to look to the ratio of debt to GDP is understandable given that it is such a common measure and is included in the treaties. An alternative way of viewing these matters is to consider debt in ratio to the source of repayment of the debt, which is what one would do if one were examining the accounts of a company. We will be repaying the debt from our tax base, approximately two thirds of which come from individuals, rather than companies, in the form of income tax and VAT. Dividing our debt by the number of taxpayers leaves it looking quite unsustainable.

On the question of opacity in regard to the identity of bondholders, I cannot, unfortunately, offer any easy solution.

Deputy Mary Lou McDonald

Dr. Gillian's replies were refreshingly clear.

Dr. John Garvey

In regard to the discussions on a growth strategy, questions inevitably arise as to where that might fit with the current austerity measures and what might be required, in a theoretical world, if they were to be extended. Looking at historical instances of growth policies and how they have been adapted for countries in severe recession, such as Japan, is of limited use. The success of any growth strategy is sensitive to people's expectations within an economy in terms of how much they need to put aside for their retirement, for taxes and so on. In that context, growth policies will have limited impact on the upside because of people's expectations. I would not expect any such eurozone policy to be effective given the aggregate level of debt overhang. To clarify, this is my own personal view.

Deputy Mary Lou McDonald

I accept that nothing can be predicted with 100% certainty in this regard. Is Dr. Garvey saying that a growth strategy is or can be compromised by two factors, namely, excessive debt overhang and policies of austerity?

Dr. John Garvey

I am inclined to say "Yes", but the question must then arise as to how one funds a growth policy. That is the paradox. Where does the funding come from, will it be adequate and will it be effective? The issue of the debt must be addressed in a way that does not lead to a bank run or a collapse of the European financial system. That is where the solution will ultimately be found, but nobody, in my view, has yet reached that point.

Senator Aideen Hayden

Dr. Garvey's contribution was very interesting, particularly in regard to the IMF proposal in 2002 and the sovereign debt restructuring mechanism. He seems to be saying that policy within the European Union has been reactive, that is, that Europe has been constantly on the back foot in terms of defending the euro. In other words, we are going through a process which is too slow in getting us to the point we are seeking to reach. If I understood correctly, Dr. Garvey seems to be saying there is a third stage we will inevitably reach where we will be looking at some type of sovereign debt restructuring generally within the eurozone. Will he elaborate on that?

The delegates mentioned that a growth strategy will be problematic for Ireland because the debt overhang within our economy makes it difficult to see a growth agenda trickling down sufficiently to make a substantial difference. On the other hand, there is the issue of interconnectedness whereby we punch above our weight in terms of the damage developments in our economy could potentially cause within the international community. While Deputy Peter Mathews referred to a €70 billion write-down, it seems we are in a peculiar or particular position in that it will be more problematic to deal with the Irish situation than it might perhaps be to deal with a more peripheral country like Greece or even Spain.

Reference is made in the delegates' document to Iceland and Argentina, with the implication more or less being that what happened in those countries in terms of their respective defaults did not have an especially damaging impact in the longer term, particularly in the case of Argentina. The difference seems to be that in the latter case there was a default on sovereign debt, whereas this was not the case with Iceland. Going back to a previous discussion with Deputy Mathews in terms of household debt, whereas the Icelandic authorities effectively devalued the currency by 50%, Irish debt would remain in euros. As such, there would be enormous implications for the population in terms of increasing the already very high volume of personal debt. Proceeding down that track, therefore, would seem only to add to our troubles.

Will our guests explain why the issue of opaqueness is relevant? The position in this regard may just not be as obvious to me as it is to Deputy McDonald. It is quite common for nominees to hold shares in companies and it is not always obvious where the beneficial ownership of shares lies. If we were to do as Deputy Mathews suggests and opt for a write-down of €70 billion, would it be of relevance-----

Deputy Peter Mathews

The Senator misunderstands what I am proposing.

Chairman

The Deputy should not correct the Senator at this point.

Senator Aideen Hayden

If there was to be a write-down on a Europe-wide level, as seems to be suggested on page 7 of the document-----

Deputy Peter Mathews

I was referring to bank debt, not sovereign debt.

Senator Aideen Hayden

Yes. If there was to be a write-down of sovereign debt as suggested, would opaqueness be important? Would we not need to know where the bonds are ultimately held, particularly in the context of the impact that a write-down could have on the wider community? I refer here to the fact that pension funds hold many of these bonds internationally. Are our guests in a position to indicate why opaqueness is such a problem.

Dr. Sheila Killian

I will deal with the question of opaqueness. If one considers the comparison to company shareholders, then certainly some shares can be held by nominees. However, it is not difficult to obtain ownership information relating to companies. There is a reason for this. If we owned a company between us, we would need to have a certain element of trust in each other. One needs to know, for example, when someone, through nominees or otherwise, reaches a critical point. Nominees are not a way of completely hiding the ownership of companies.

The reason it is a problem - it is not a solvable one - is that it is an issue for public discourse. If the presence of the bondholders and this debt is dictating policy in the country, then the identity of the bondholders - and theories and conspiracies about who they might be - is interfering with public understanding of the nature of the debt. This means that public discourse is less informed than should be the case. The anonymity of bondholders is unhelpful. In that context, on one hand, one can imagine very wealthy and malign people in this regard and, on the other, one can visualise widows going to their credit unions. One can paint the identity of the bondholders and the consequences of default in many different ways. That is not helpful. That is what I mean by the unhelpfulness of the opacity of the bondholders.

Dr. John Garvey

In the context of being on the back foot, I was not criticising austerity because it is probably a necessary first step. It will also probably be an ongoing requirement if the eurozone is to emerge from the crisis. My point is that austerity is struggling to deliver. The intention was to provide clarity to the market and to restore confidence in the European banking system. In the context of interbank lending, etc., liquidity is, however, still drying up in the European banking system. At some point, this will become exhausted and problems will again emerge. These might be accelerated in the near future by the Spanish banking crisis and so on. The solution resides with the European institutions in my view. There will have to be a solution which deals with restructuring the sovereign debt of some member states. I should not say sovereign debt but rather that part of private debt that has been made public, particularly in the Irish case. This restructuring will have to be done in a way that maintains a stable European banking system. A legislative approach to that might be far more effective than other approaches. In other words-----

Senator Aideen Hayden

As I understand it, the IMF proposal refers to dealing with sovereign debt restructuring mechanisms and not bank debt.

Deputy Peter Mathews

The banks are credit-----

Chairman

Deputy Mathews, there is currently an interaction taking place between Senator Hayden and the witnesses. I will allow the Deputy to come back in at a later stage.

Deputy Peter Mathews

I was clarifying the position.

Chairman

Yes, I know. However, our guests are here to answer the questions we pose.

Senator Aideen Hayden

As our guests stated, most members of the public view all of this debt as a large, amorphous pool of debt. They do not distinguish between particular categories of debt, such as those relating to Government bonds, guaranteed bank bonds, etc. For ordinary people, the conversation in respect of this matter is quite confusing. Reference has been made to different forms of write-downs. However, I am referring to the IMF proposal in respect of the sovereign debt restructuring mechanism which is referred to on page 7 of our guests' document.

Dr. John Garvey

The sovereign debt restructuring mechanism that was spoken of in 2002 referred only to traditional sovereign debt.

Senator Aideen Hayden

So it is not really a mechanism to deal with our current difficulties.

Dr. John Garvey

It is not a mechanism that ever existed.

Senator Aideen Hayden

I know that. However, it is a proposal.

Dr. John Garvey

If one is going to write down banking debt in the context of a very fragile banking system, one must arrive at a way of doing so which will not lead to disorder. The consequences of the latter would probably be worse. This is a legislative approach to trying to achieve some clarity. It is a reinterpretation of how that sovereign debt resolution mechanism might work in the current context.

Deputy Richard Boyd Barrett

I thank our guests for their presentation, which was very helpful and illuminating. I look forward to studying it in greater detail. Our guests are grappling with an issue that is quite pivotal to our future. There remains a great deal of confusion in respect of our national debt.

I wish to obtain clarification on the scale of our national debt and what comprises that debt. On the basis of the table provided by our guests, our total national debt - which does not include ELA and other things - is €198 billion. Interestingly, this is greater than the figure, namely, €183 billion, provided by the Government in respect of 2012. Will our guests indicate why the figure they have provided is significantly higher than that of the Government? The Government's figure is, of course, due to rise in the period to 2015. According to our guests calculations, it appears that more than 60% of the national debt is bank-related in nature. That does not surprise me in the least but it is a very telling fact. We are soon to vote on a treaty under which we will be required to pay down that debt over a specified timeframe. This will come at a heavy cost to both the economy and our society. Will our guests confirm that if bank-related debt were removed, we would be well within the 60% debt-to-GDP ratio and that we would not require any austerity measure?

Our guests stated that the €83 billion in Government bonds are currently being sold on the secondary markets for amounts that are considerably less than face value. These bonds relate to debt issued up to 2010. I am trying here to disentangle the bank-related debt from the debt Ireland had previously. How much of the €83 billion in Government bonds to which I refer is money that was borrowed up to 2010, but after the crash, in order to recapitalise the banks or as a response to the financial crisis?

In the context of the fiscal treaty, debt levels in 2015 will, according to the Government's figures, be €206 billion. The figures provided by our guests indicate that actual current debt levels are higher than indicated by the Government. The figures I have from the Irish Fiscal Advisory Council indicate that in 2015 the gross debt will be €206 billion and that the average interest rate on that would be approximately 5%, which will mean €10 billion in repayments in 2015. Can the witnesses confirm that is roughly what we are talking about in terms of repayments on the national debt, or is it possibly more given that their figures seem to indicate the national debt is higher than what the Government has indicated? Is it their understanding that the requirement in the treaty to repay one 20th of the gap in debt between the 120% debt level we will have in 2015 and the 60% debt level required in the treaty will be approximately 5% of €100 billion annually, and that in the first year, based on those figures, it will be approximately €5 billion in terms of debt repayment - €10 billion in interest and €5 billion to pay down the principal in year one? What would the witnesses say about those calculations if they think they are wrong?

I wish to ask Dr. Garvey a question on the growth issue. If I understood him correctly, he said that the shift towards at least talk of growth in Europe is unlikely to translate into real growth given the debt overhang because the scale of the national debt will preclude public investment to any significant degree and the degree of household debt will act as a constriction on people wanting to spend. Therefore, we are banjaxed at the level of demand and at the level of investment because of the level of debt. Is that more or less what they are saying? Is the logical conclusion therefore that if we do not have significant debt write-down, there is simply no way out of the current economic crisis?

Dr. Sheila Killian

The first point is that the table is not totalled for a reason, namely, that it is not a table of the national debt. These figures will not give a total of the national debt. They indicate six different categories of debt.

Deputy Peter Mathews

And contingent debt.

Dr. Sheila Killian

Yes. It is not an effort in any way to show they add up to the national debt. That is why there is not a total and the table is not labelled as the national debt. It simply sets out different categories of debt. We included unguaranteed bank bonds simply because we seem to be continuing to repay them, not because there is an obligation to do so. These are different categories of debt but they are not intended to give a total-----

Deputy Peter Mathews

Indicatively, there is about €160 billion of debt, if one takes out the guarantees because they are only contingent.

Dr. Sheila Killian

Extracting the bank element from the national debt is a brave and relevant effort. It is not immediately transparent how one would set about doing that. In terms of the original Government debt figure of €83 billion - we have not been back to the markets for a while and that was the debt at that time - our level of debt hung below €40 billion up to around 2008 and then it shot up. That was obviously because of the global financial crisis. The extent to which one can attribute that directly to our domestic banks is less clear. We can certainly say that our national debt was much lower before the crisis and we can attribute it to the crisis. In attributing it directly to the banks, it is more difficult to get a conviction on that.

Bonds are currently trading at a significant discount. Bonds will trade at a discount or premium depending on the original interest rate at which they were issued. For instance, for simplicity in numbers, if a €100 bond is issued which has a 10% coupon on it, that will pay one a tenner per year. If the current bank interest rate is only 5%, getting a tenner per year on that bond will be worth €200; therefore, one would pay a premium for such a bond unless one thinks it will default. The premium or discount of a bond is related strongly to the nominal interest it has and the relationship of that to the normal interest rate in the market.

Deputy Peter Mathews

And the risk of getting it back.

Dr. Sheila Killian

Yes, whether one thinks one will get one's capital back. They are the two big drivers of it. That is the reason when bonds come closer to maturity they tend to go back down closer to par. While one might get a tenner per year on such a bond, one will only get €100 when it is repaid if that is next year. That has a bigger impact on one and also the time value of money. Whether bonds are trading at a premium or a discount is driven by how close they are to maturity and by their interest rate vis-à-vis the market interest rates as well as market sentiment around the Irish bonds generally. One has to be careful not to read too much into the discount or premium of a bond. If bonds are issued at a time when interest rates were higher, that makes them slightly more attractive. Does Dr. Garvey wish to take the Deputy’s other question?

Dr. John Garvey

Yes. There is a discussion on growth policies at European level but, as mentioned earlier, I believe it will be abrupt because of political tension. If some agenda is agreed, it might be limited in its extent and in terms of the amount of money available for growth policies, that money will have limited effect.

Deputy Richard Boyd Barrett

The question to which that is connected, which the witnesses did not address, is the point about the debt in 2015 and the interest to be paid on it.

Dr. Sheila Killian

Many variables will kick in between now and 2015. We can see what the cost of servicing our bonds will be because they are fixed. Some of this is variable, it is up for renegotiation and there is now much more open discussion about the idea of possibly applying to the ESM between now and 2015. We may have further bailout funds between now and 2015. We have not done the sums on what the interest payments will be in 2015 because there are many variables that will kick in between now and then. Therefore, we have not calculated that.

Deputy Richard Boyd Barrett

The debt is set to increase and we will have to pay interest on that.

Dr. Sheila Killian

If one considers this from a straightforward point of view, the debt can only decrease when it is either written off, forgiven or paid down. Given our narrow tax base, none of those things will happen in the immediate term.

Deputy Kieran O’Donnell

I congratulate the witnesses on their publication and it is good to see people from Limerick up here. Am I correct in taking from table 1 on page 19 that our national debt is probably of the order of €160 billion, which would be €83 billion in terms of Government bonds, €49 billion under the rescue fund and the promissory notes? Am I more or less accurate on that?

Dr. Sheila Killian

There or thereabouts. The figure from the Central Bank last night indicated that total Government liabilities reached €173.3 billion at the end of 2011.

Deputy Kieran O’Donnell

When Government bonds are issued by Ireland or any country, do they normally end up remaining in the hands of the original purchasers? Have the witnesses done any study to track that? For example, how many of the €83 billion worth of Irish Government bonds are held by the original purchasers of those bonds?

Deputy Peter Mathews

The primary dealers.

Deputy Kieran O’Donnell

Yes.

Ms Frances Shaw

When they are originally issued to the primary dealers, the primary dealers are acting on behalf of their investors or clients. The primary dealers have to report to the Irish Stock Exchange the levels of activity on those bonds everyday but they do not have to report who their purchasers are.

Deputy Kieran O’Donnell

Have the witnesses been able to do any empirical work that would show that, in terms of the level of trading, they are not in the hands of the primary dealers?

Ms Frances Shaw

One can look at the level of trading and tell from it, on average, that the greater the volume of trading there is on them, there is a chance they are being held for a shorter period. We looked at the idea of the character of the holders changing from long term to short term. Dr. Garvey might wish to speak about that.

Dr. John Garvey

In a normal advanced economy much traditional sovereign debt would be held by commercial banks. There would have been a shift in that profile. When a country becomes distressed, different participants are more eager to look for volatility, for example, hedge funds. One cannot get a precise picture of that no matter how much one shifts it in terms of ownership. The Bank for International Settlements carried out a survey of the banks that report to it and there was a considerable amount of European mainstream banks holding Irish Government debt because it was the highest quality within the European Union at that stage and the German and French institutions were the most conservative. However, that survey is well out of date at this stage. To be honest, I think volumes are low.

Deputy Kieran O’Donnell

Do we have an idea about the €83 billion at this stage? Have studies been carried out on who holds the debt now?

Dr. Sheila Killian

No, because of the anonymity of the bondholders. There is information to suggest that approximately 17% is held by Irish residents but that is not meaningful.

Deputy Kieran O’Donnell

Figure 8 on page 23 relates to interconnectedness between various countries in the context of Greece. Could Dr. Killian outline her overall view on the current state of play and how it might unfold in terms of the situation with Greece and its interconnectedness with this country?

Dr. Sheila Killian

I forgot my-----

Deputy Kieran O’Donnell

I would like to hear the witnesses' views. It is topical.

Dr. John Garvey

Much of this is about market perception. Ireland and Greece are on a different trajectory in any case, at least in the medium term and, I hope, indefinitely. I see us as being insulated right now from negative effects. My concern relates to the potential for a banking crisis in Spain. I do not have a clue about the potential exposure but the situation is worrying in an Irish and European context.

Deputy Kieran O’Donnell

Is that in terms of the exposure of the Spanish banks?

Dr. John Garvey

Yes, in terms of the size of their potential write-downs.

Deputy Jim Daly

The witnesses are very welcome. I thank them for their presentation which was exceptionally interesting and enlightening. I have just two questions which are a bit repetitive but I wish to tease out the growth issue further. Could someone explain how sovereign debt rather than household debt prohibits growth and the structural challenges posed in order to bring growth into the economy given the debt to GDP ratio that we have?

The second question relates to the opaqueness of the situation in regard to bondholders. I read an illuminating blog on the issue by a particular lady. Much discourse has been informed by people who advised the Government prior to the bailout, some of whom were bondholders. The question arises as to whether some of them were paid to advise Governments by people who were shareholders in the ECB. Will the witnesses elaborate on their concerns and their reaction to such theories? Principally, there seems to be a potential for conflicts of interest. I am interested in hearing the views of the learned witnesses on the issue.

Dr. Sheila Killian

The potential of a conflict of interest is a serious concern. That is why there was such public appetite for a list of the bondholders because there is obvious moral hazard if one had somebody in a position to advise that the bonds should be repaid if he or she was a person to whom they would be repaid.

People who have done stress tests on the banks also hold bonds in the banks. There might be good reasons for that but one does see the names arise. The concern exists but there is very little that can be done about it because it is difficult to get a complete picture of the bondholders. One can get a partial picture but they are not always disclosed, as such, which is not very helpful. There was a list of Anglo Irish Bank bondholders in circulation last year, which could not have been a complete list but it was being passed around third hand or fourth hand as a complete list which was not particularly helpful.

Dr. John Garvey

Deputy Daly is speaking about the local situation in the Irish context. That was presented early in the crisis as a potential solution but I do not think it is feasible in the Irish context because a lot of the benefits would potentially leak out of the country in terms of investment. I am not an expert in that regard. Perhaps Dr. Killian has something to add.

Dr. Sheila Killian

I am not an expert either. I am a bigger fan of targeted growth than Dr. Garvey, if it is targeted towards specific sectors. Doctors differ.

Deputy Jim Daly

And patients die. To return to bondholders, are there proposals at a macro level to deal with the challenge of identifying bondholders through pan-European or global legislation?

Dr. John Garvey

No, we are not aware of any measure.

Deputy Jim Daly

It must be equally as big an issue in the American context. They must have much bigger concerns about that very issue. Do the witnesses have an idea of the direction in which the situation is going internationally?

Dr. Sheila Killian

It is unfortunate but if one goes back to the €100 note analogy, they are bearer bonds or instruments in the same way as one would have seen in western films as a child. In that way they are set up to be anonymous in a non-sinister fashion. It just becomes problematic when public policy and policy is being dictated by the existence of the debt.

Deputy Jim Daly

I thank Dr. Killian. That is very helpful.

Deputy Olivia Mitchell

I thank the witnesses for their presentation. My questions have probably been asked previously in a slightly different way. The witnesses must forgive me if I ask a question which they have answered. Bank-related debt is a generic term we use for all bank debt. Is there a difference between bank debt which is outstanding and has not yet matured and bank debt that has been covered by the Government already – in other words it has borrowed for it, so it is bank–related debt for which money has been borrowed to pay off?

Dr. Sheila Killian

Does Deputy Mitchell mean the banks have borrowed money?

Deputy Olivia Mitchell

The Government has taken on the debt and paid it off.

Deputy Jim Daly

It is in the course of doing it.

Chairman

We must keep the interaction between the member who has the floor and the witnesses.

Deputy Olivia Mitchell

I refer to money that has been borrowed by the Government in order to pay off bank debt that became mature in the past four years.

Dr. Sheila Killian

Does Deputy Mitchell mean money that has been borrowed by the Government to capitalise the banks in one way or another?

Deputy Olivia Mitchell

Exactly. It is all called bank-related debt.

Dr. Sheila Killian

It is difficult to establish how much of it is bank-related.

Deputy Olivia Mitchell

I get the impression that Dr. Garvey does not see any solution. He sounds very pessimistic altogether.

Dr. John Garvey

I do not mean to be.

Dr. Sheila Killian

He is always like that.

Deputy Olivia Mitchell

To the extent that a solution may be found by separating bank debt from sovereign debt, does it matter that the Government has already paid off so much of the bank debt? That is one question. Dr. Garvey is looking puzzled.

Dr. John Garvey

No.

Deputy Olivia Mitchell

I have another question which I will add at this juncture as well which relates to the Greek situation. Prior to the most recent recapitalisation in Greece there was much talk about the fact that Greece would never be let go because it owed so much money to France and Germany. Now it is being said that perhaps it could be let go because of the write-down and that the exposure is not as much as it was to the French and German banks. I read recently that the exposure of the French and German banks to public and private debt in Greece is huge by our terms. What is the relative scale of it? I read that the exposure of France is approximately €54 billion and perhaps more and that Germany's exposure is a little less at approximately €43 billion. What is the relative scale of the debt? If Greece were to exit the euro and a default ensued, is it likely that it would hasten the day when we would see some action on dealing with the bank debt, and separating it from sovereign debt?

Dr. John Garvey

Part of the reason politicians said the Greek default might not be as serious as it would have been some years ago is because of other activity European institutions have begun to undertake in the European banking system in terms of maintaining liquidity between banks to ensure that cash continues to flow between them. If Greece had unilaterally made the decision to default four years ago those systems would not have been in place. To the best of my knowledge that is the reason people say it will have less of an impact.

Deputy Olivia Mitchell

The overall exposure, therefore, does not matter.

Dr. John Garvey

It does matter. Obviously, losses will be suffered on the balance sheets of a number of European financial institutions but if liquidity in lending is maintained within the European banking system, I would think that effect is reduced somewhat.

Dr. Sheila Killian

A major political question arises also because it is not just a question of letting Greece go or whatever. Greece will have an election in June and will decide whether it stays in or leaves. In that context and in the context of the noises being made by the people recently elected in June who are dealing with it now, there is a change in tone on the part of Angela Merkel in terms of an openness to deal with Greece. There is a great deal of politics in this and in that respect the members are the experts rather than us.

Deputy Olivia Mitchell

Nobody is saying the intention is to let Greece go but, in that scenario, what would be the impact on the rest of Europe?

Dr. Sheila Killian

It is clear from-----

Deputy Olivia Mitchell

Is it likely to hasten the solution to our problems?

Dr. John Garvey

That may be the case. At the end of the document I mention the idea of a legislative response, in other words, some way debt can be written down in a controlled manner. I do not know how that framework can be set up. There is no international convention that deals with a bankruptcy procedure for a country. I did not know that it had been done previously in that these ideas had been discussed in the IMF in 2002 and the second Bush Administration was not willing to allow them because it thought it would contribute to market inefficiency in the sovereign debt markets. I am not expert in law, unfortunately, and therefore I cannot see how that can happen while maintaining a functioning banking system but it may be possible. The eurozone crisis is a unique and unprecedented situation but the Deputy is right-----

Deputy Olivia Mitchell

Dr. Garvey sounds depressed about the whole issue.

Dr. John Garvey

I am sorry. That is just my tone of voice.

Dr. Sheila Killian

He always sounds depressed.

Dr. John Garvey

I apologise.

Deputy Olivia Mitchell

I was trying to get an optimistic or positive note from Dr. Garvey.

Chairman

I think the Deputy got the closest to it.

Senator Michael D’Arcy

It is a very good paper and one of the more informative that I have seen. When the Governor of the Central Bank, Professor Honohan, was before the committee some weeks ago he made a point of which I am not sure many people were aware, namely, that in the agreed Greek sovereign default the ECB write-down was zero. It did not write down anything of the moneys owed to it. How many examples are there of ECB write-downs, either with national banks, EFSF or any other funds, where it told a country that it is basically screwed, that there is no point in trying to get back all of the moneys and therefore it will try to get only some of it?

In terms of growth, I am looking at a decadenal approach to this because in the treaty we are dealing with now the debt brake kicks in at the end of 2018, which is seven years from now, and it will last for 20 years. We have the best part of 30 years, therefore, to grow our GDP. There was an increase in GDP from 1982 to 1992, 1992 to 2002 and then 2002 to 2012. That will colour how well we will trade and also refers to the figures Deputy Mathews spoke about in terms of our GDP ratio to household, corporate and other debt.

The Central Bank figures for the last quarter were released yesterday and household debt was reduced from the last quarter by €2 billion. That is a big reduction of over 1% in one quarter. I did not source the figures for the entire reduction in the calendar year but I assume if it was €2 billion in one quarter it was €7 billion or €8 billion in the annualised figures. There is much talk about the State not reducing our numbers in that regard but the reality is that the citizens who have money and can afford to pay down debt have a clear choice here, namely, to reduce what they owe by huge amounts. What is the extent of the standard pay down versus the current pay down and is that much more than the standard pay down that will happen in what I would call a standard period rather than what we have currently?

The benefit of that, and I would like the witnesses' opinion on it, is that we can invest in and build huge motorways but all the statistics show that is a poor spending of moneys. People will be employed for a short period, the money will be spent and the Government gets the VAT but where is the real growth? In terms of people paying off their debt and us getting below 100% of GDP or 90%, which is even closer to what is considered sustainable, on these figures that would happen within four years.

Real growth is where people have money in their pockets to do something. The legacy was that we had cheap money, and we spent cheap money cheaply. What is the witnesses' opinion on real, sustainable growth where, if a household requires something, it will have put its bit of money together and perhaps borrowed some of it rather than borrowing it all? Which is the better? Real sustainable growth or the false economy that potentially we could have as a result of the discussions in Europe at the moment?

Dr. Sheila Killian

On the last question, sustainable growth is better. The Senator began by looking at the debt to GDP ratio, which ties into his latter point about GDP being a poor reflector of real economic activity in Ireland because GDP includes many other aspects whereas we want people to spend in the domestic sector. GNP is better than GDP but even GNP is not perfect.

Looking at the household debt, household debt levels have gone down. That is partly due to people repaying debt but also because they are not borrowing. Seven years ago we all got loan offers through the letterbox if one's name was on a list anywhere, regardless of one's ability to repay. There is much less lending going on now and therefore there is less borrowing. People are repaying in the normal way. They have just stopped rolling things over or taking on extra loans to go on holidays.

Senator Michael D’Arcy

Is that not a good development?

Dr. Sheila Killian

It is a good development to get the household debt levels down but it is also indicative of a conservatism because there is a great deal of fear about spending among households. Some people may have a small amount of savings and they are reluctant to spend because of uncertainty about what will happen in the future in terms of their unemployment, their children's college fees, their pensions or whatever other uncertainty they might have.

Senator Michael D’Arcy

Is there not a clear link to the point about real, sustainable growth in that having paid their mortgage, which was only €35,000 25 years ago when they took it out, people can borrow €60,000 to build an extension?

Dr. Sheila Killian

It is important that the levels reduce. It goes back to Deputy Mathews's point about household debt figures needing serious examination to determine how it has built up and what are the components.

On the issue of growth and infrastructure, not all growth measures are as crude as building roads. Putting together decent broadband and other infrastructure can be beneficial.

Senator Michael D’Arcy

If the ECB does not do write-downs, our talk about them comprises a very moot conversation.

Dr. John Garvey

I am not aware of any historical context in which it did so.

Dr. Sheila Killian

That is a good question.

Senator Michael D’Arcy

There is none.

Chairman

There is no international legal regime that would allow it to happen; that is the interesting point. One is essentially drawing on the IMF. I believe I understand the delegates' reference to the circumstances of 2002. It was a question of what was proposed not happening but possibly containing the germ of something that could be considered in the future. Is that all that Dr. Garvey is saying?

Dr. John Garvey

That is as far as I am putting it. It was only considered in the context of a standard distressed sovereign dealing with sovereign debt.

Senator Michael D’Arcy

My point is that, although we talk about write-downs, there has not been one by the ECB. There was an organised sovereign default with Greece and it wrote down its figure by zero. That sends out a very clear message that the ECB is not in the business of doing so. Am I wrong in making this statement?

Dr. Sheila Killian

I certainly have not come across ECB write-downs.

Senator Michael D’Arcy

That Dr. Killian has not come across one does not mean there has not been one.

Dr. Sheila Killian

I can try to find out.

Senator Michael D’Arcy

Could Dr. Killian do so and then correspond with the committee?

Deputy Kevin Humphreys

We were talking about the bonds. I accept that several factors affect bond prices. With regard to sovereign debt and the ECB purchases during the distress period, is there any way of quantifying exactly how much of our sovereign debt was bought by the ECB?

Dr. Sheila Killian

There is not a direct way. The ECB will say it is active in the market. Ms Shaw and I examined this. Constructive ambiguity ordains that the information not be made public in case it creates moral hazard. If the pattern associated with the ECB's purchase of sovereign debt becomes very obvious, it is open to speculators to make money with that knowledge. Therefore, the knowledge is not circulated. One can obtain indications but not solid figures.

Deputy Kevin Humphreys

Could I be directed to the area where indications are found in regard to the purchase of Irish sovereign debt?

Ms Frances Shaw

One can get an indication from the figures and the ECB's website. However, one does not know whose bonds have been purchased. The bank could have been buying up-----

Deputy Peter Mathews

Greek bonds.

Ms Frances Shaw

Exactly. One does not know whether the expenditure was on Irish or Greek bonds.

Deputy Kevin Humphreys

From research, has the delegation any indication as to when the ECB was active in the purchase of the sovereign debt and the likely purchase price? I take on board what was said about the calculations. I am not asking that these be factored in; I am just trying to work out whether there is an approximate figure pertaining to the purchases of the ECB.

Dr. Sheila Killian

Some information is obtained after the fact because the ECB will give information as to what it has done as part of its security markets programme. One will not necessarily get current or up-to-date information, however, and will certainly not get future-orientated information. Some of the information is in our original debt audit. We talk about it a little in that. Most of the information is not terribly useful because it is so far after the event.

Deputy Kevin Humphreys

I was fascinated by the statement in the delegation's paper that, although the market has no memory, Russia had to make a token payment on re-entering the bond markets 69 years after its default of 1918.

Argentina was referred to briefly in the paper. When Argentina re-entered the market, was it penalised in respect of the cost of higher yields on its sovereign bonds? If it was penalised, at what level? We constantly hear people saying it is okay to default and that the market has no memory. It is contended that once one re-enters the market in three or four years, there is no real punishment. Are there figures?

Dr. John Garvey

There are but I cannot remember them off-hand. When Argentina re-entered the market in 2005 the global macro-economic conditions were far different from those of today and those that are likely to obtain in the near future in Europe. Argentina was able to benefit from the commodity cycle at the time in question. It was generating additional funds. Potential bond investors will only consider their expectation of being repaid. In the Argentinian context, the Government had stabilised and it had a rapidly increasing flow of funds. It is not a case of like for like.

Deputy Kevin Humphreys

People often say there is no cost to defaulting. Would it be correct to equate the poverty figures in Argentina prior to its default with those after default? After the default, 60% of the population fell below the poverty line. Would this be a fair comparison?

Dr. Sheila Killian

There are a lot of events taking place that must be considered. If the country defaults and simultaneously leaves the currency and sets up a different one, there are many factors to be taken into consideration. While we constantly hear the mantra that Ireland is not Iceland or Greece, we must remember Ireland is not Argentina either.

Deputy Kevin Humphreys

I know.

Dr. Sheila Killian

It is difficult to say, therefore. If the country leaves a currency, there is devaluation, imports become more expensive, and private savings are essentially expropriated. Many factors contribute to poverty. In a messy situation, with many variables, it is very hard to take the outputs and attribute them to one cause. This is why the issue of sovereign default, which is really interesting to examine, is not one known for its clarity.

Deputy Kevin Humphreys

The last question is on banking debt. The committee often talks about a write-down of banking debt. Can this happen and affect Ireland alone? We always hear about the fear of contagion. What would be the prospect of contagion in Europe if we were to have a write-down of banking debt?

Dr. Sheila Killian

Not all banking debt is equal and some banking debt has already been written down. Bank debt can be written down harmlessly or it can be written down with dreadful consequences, depending to a certain extent on the market's perception of the unexpectedness of that event.

Dr. John Garvey

It might not be about the quantity of debt being written down but the expectation of the market as to what will be written down in the future.

Dr. Sheila Killian

The notion that the market does not have a memory does not mean it is vindictive and wants to punish; it just means investors will estimate whether they will be repaid. It is a case of whether they believe patterns will recur.

Deputy Liam Twomey

We have been fixated on the bondholders during the course of the afternoon. In reality, it was the hubris of speculators that landed us in the crisis we are in. There was considerable over-borrowing. When the Government guarantee came through, our colleagues in Europe, both in the eurozone and outside it, were very angry with the then Minister over his unilateral action. He gave the guarantee without discussing it at all with his main trading partners and colleagues in the Union. We partly landed the State in this mess ourselves and then continued in this regard through subsequent Government policies. It would not have mattered who owned our bonds or who was giving advice to the Government; it had, more or less, already decided on its course of action.

Deputy Mathews talks a lot about defaulting.

Deputy Peter Mathews

I advocate creditor write-down.

Deputy Liam Twomey

I should not have mentioned defaulting. However, I refer to the mythical €70 billion we somehow are supposed to take away from our debt to help us to get back on the road to sustainability. This is not really an option and nor is the option of Ireland pulling out of the euro and starting a new currency. Do the witnesses consider that to be a significant option? Do they think we can somehow do something radical like that, which will not bring the consequences that came to Iceland and Argentina when they did something similar? Iceland was different in that it defaulted on its banking debts while Argentina defaulted on its sovereign debt. While the issues were different, it really was a horrendous five or six years for the population of both countries when they did this. Thus far, we appear to have been spared the worst excesses of what could happen were we to decide to adopt a more radical policy. While I know what the witnesses have presented, they are not sticking their necks out and advocating that Ireland should either default or pull out of the euro. Are other options available that might get us out of this mess in the long term? For example, should Ireland be pushing for quantitative easing or some form of inflation? Should consideration be given to devaluing the euro, as well as putting in place transfers between the different regions? While this presentation talks about what is wrong and how it is not perceived to be sustainable, members need to know what the witnesses would do were they in a similar position to the ECB. In this context, I note what has happened in the United States, where massive tranches of quantitative easing have been undertaken but some people suggest it has not quite done the job over there either. I seek the witnesses' views in this regard.

Chairman

While the committee would like to hear the views of the witnesses and we encourage them to do so, in fairness to them we must acknowledge they were invited before the joint committee to provide an account of the extent and nature of the debt. This is not to suggest for a moment they are prevented or prohibited from giving their views but in fairness to them, that was the basis on which they were invited before the joint committee. The invitation arose principally from their excellent report of last year, An Audit of Irish Debt, which sets the picture. The joint committee is attempting to set the picture and get a measure of the problem but I emphasise again the witnesses should feel free to indulge at any level they wish.

Deputy Liam Twomey

I acknowledge the last couple of hours has been very good. Perhaps I am pushing the witnesses a little to go for the honours.

Dr. Sheila Killian

The Deputy may be pushing us to go for three different honours. I thank the Chairman for his helpful intervention because our brief was not particularly to examine what would be the ideal options because there are three of us and we may have four opinions between us.

Chairman

That is similar to what any given politician would have in a single afternoon.

Dr. Sheila Killian

There are many different options and options have consequences, not all of which are disastrous. That was the point we were trying to make in looking at just six categories of the Government debt. The market sensitivity of such debt is quite different and we were trying to shed light by disaggregating it a little. Obviously, there are many discussions regarding inflation, which would solve a problem but would be very hard on those with fixed incomes. As for leaving the euro, people do leave currencies and I note we left sterling once, and it had consequences. We have not studied the consequences of these options because that was not our brief. If members seek an uninformed opinion or four, we can give them to them but it may not be all that helpful at this time of the evening.

Chairman

Does anyone wish to add anything to that? Deputy Mathews should just ask a net question because everyone else has spoken.

Deputy Peter Mathews

Deputy Mitchell spoke of the exposure to Greece and how that has been tailor-managed to its present position, how in the meantime, preparations have taken place in the financial system and so on. However, I revert to the point at which our crisis arose in 2008. Deputy Twomey mentioned the guarantee and how there was consternation in Europe that we had done something ahead of everyone else and how this would be a panacea. However, that was not the case at all. It emerged quickly, in early 2009, that the loan losses in our banking system would be horrendous and at that point, Europe got really worried. I remember how Joaquín Almunia, José Manuel Barroso and Olli Rehn were frightened out of their skins that this would be bigger than Lehman Brothers and would be Lehman Brothers to the power of two. This is the reason the European Central Bank piled in with an exposure rising to €135 billion in liquidity to redeem all the bondholders to prevent the system from melting down. We did it, we actually saved the euro but we have not been beating the drum. Allow me to explain quickly the concept of debt write-down-----

Chairman

No, I am sorry-----

Deputy Peter Mathews

This is very important.

Chairman

Deputy, please do not tell me it is important.

Deputy Peter Mathews

No. It is creditor debt write-down.

Chairman

Deputy, please listen when the Chair is speaking. I do not underestimate-----

Deputy Peter Mathews

Please Chair-----

Chairman

Excuse me, would you please have the courtesy to listen to the Chair?

Deputy Peter Mathews

I am.

Chairman

No, I will not let the Deputy in unless he waits until I finish. This is an opportunity for members to question invited guests. When preparing its report, the joint committee will have an opportunity to debate these issues and to hear the views of members, including those of the Deputy, which will be highly valuable. However, this meeting has been under way since 2 p.m. and an excellent afternoon has been spent with the witnesses. What I invited the Deputy to do as a courtesy, because he already has made a contribution, was to ask these witnesses any net question he may wish to put to them, after which I must conclude the meeting.

Deputy Peter Mathews

As for my questions, Dr. Garvey mentioned the current state of interbank liquidity, which I believe to be contracting hugely because of Spanish and German bank positions. The entire banking system is now under review. I will ask another question on the re-hypothecation scandal revealed by the failure of MF Global last October. Thomson Reuters's News & Insight published an excellent article in its securities law division about the re-hypothecation that is taking place off-balance sheet on financial funds. In the main it is happening in London, where a grouping of financial assets is being used four or five times as security for transactions in the banking world and JP Morgan, which has recently hit the headlines, has an exposure estimated at $500 billion.

Dr. John Garvey

This is not necessarily to respond but I agree there is a limit to this liquidity mechanism in the interbank market and that it cannot be sustained for a particularly long time.

Deputy Peter Mathews

Does Dr. Garvey agree that perhaps €3 trillion is needed to get banks to face this issue?

Chairman

I thank Dr. Sheila Killian, Dr. John Garvey and Ms Frances Shaw for their attendance and for giving members the benefit of their analysis and information. It was extremely helpful to the joint committee. As I mentioned earlier, members are attempting to prepare a report that can hope to do no more than provide a measure of what is the extent and nature of the problem for the information of the public. It will not be particularly prescriptive, as these also are major political questions. Although the joint committee comprises politicians, it will not come up with a political solution in this context but nevertheless will attempt to put out some information. The witnesses have really helped members this afternoon in respect of the report's accuracy and depth. I thank them again for taking the time to travel here from Limerick to answer members' questions. In the circumstances, I also thank my colleagues. There being no other business to transact, the meeting is now adjourned.

The joint committee adjourned at 5.10 p.m. until 3 p.m. on Wednesday, 23 May 2012.