As the Ireland debt crisis unfolds, there is a chance a resolution may lead to Asia. Here is how I see it playing out. Ireland will accept a modest support package from the EU and International Monetary Fund (IMF). At the same time, investors will come to realise Ireland’s future debt path is unsustainable.
But a modest package will make little difference. Without a global growth miracle, the numbers are stacked too high against Ireland. But there won’t be any quick jump to a solution; it will be a slow, painful chess match in Dublin, Brussels and the IMF headquarters in Washington, with costly spillovers to Portugal, Spain and perhaps other countries.
Why must it be this way? The writing has been on the euro zone wall for at least two years. In late October 2008 Peter Boone, James Kwak and I suggested that some European states had given taxpayer-backed pledges to banks with liabilities that were larger than their own gross domestic products. We proposed the creation of a European Stability Fund with at least e2 trillion (R19.2 trillion) of credit lines guaranteed by all euro zone member nations, as well as Switzerland, Sweden and the UK, to buy time for dealing with the underlying issues of solvency in Ireland and elsewhere.
The euro zone belatedly acted on that advice but the politicians in charge, both at the core and on the periphery of Europe, refused to take responsibility for what they allowed to happen in the run-up to 2008. Europe’s leaders told themselves and their voters that the world’s problems were due to the meltdown of the US housing market and America’s megabanks. There is an element of truth to this but it misses the bigger European picture: it was European banks that became too large relative to their economies. Along the way, they captured their regulators and engaged in irresponsible behaviour. Ireland may be an extreme in this regard.
Even after social spending is cut and taxes are raised, some of those responsible – think Lehman Brothers – still need to be pushed from the lifeboat. Here is the present problem: it’s not just the Irish elite under pressure and struggling to sort out who should be saved. It’s also the European bankers who funded them. Under public pressure, the German government has taken up the theme of burden sharing. Chancellor Angela Merkel and her colleagues haven’t thought through the signal this sends to the markets, which is: “Get out of Irish banks, now.”
The Irish leadership has every incentive to delay until other countries can be dragged into turmoil. The crisis will become euro zone wide, at which point all eyes will turn to some combination of the European Central Bank (ECB), the German taxpayer and the IMF. But the ECB can’t pay and the German taxpayer won’t pay. Does the IMF have the resources to tackle Spain, let alone a bigger country?
The US could add sufficient funding to the mix, but the mood in Washington has shifted against bailouts. As an alternative, Europe could turn to Beijing to find out if China would like to commit some of its $2.6 trillion in reserves to keep European creditors whole. This would be an opportunity for China to grab a leading global role.
If China offered to recapitalise the IMF, becoming the largest shareholder, and move the organisation to Beijing (according to the Articles of Agreement), wouldn’t that make for an interesting chess game? page 16
n Ingi Salgado’s Earth Agenda will be back next week
Simon Johnson is an author, a professor at MIT’s Sloan School of Management and a Bloomberg columnist. The opinions expressed are his own.