Ireland’s lessons for Spain

By Felix Salmon
February 4, 2011
Michael Lewis's tour de force on Ireland in Vanity Fair. It's long -- over 13,000 words -- and it's beautifully written, giving both a big-picture perspective on the Irish economic boom and bust, and a credible account of the fateful meeting at which the Irish government decided that it should go ahead and guarantee the debts of all Irish banks.

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It almost goes without saying, but you have to read Michael Lewis’s tour de force on Ireland in Vanity Fair. It’s long — over 13,000 words — and it’s beautifully written, giving both a big-picture perspective on the Irish economic boom and bust, and a credible account of the fateful meeting at which the Irish government decided that it should go ahead and guarantee the debts of all Irish banks. That move was the single worst decision among all the policymaker actions over the course of the global financial crisis, and Lewis is right to be astonished at how meekly the Irish population has accepted its devastating consequences.

Ireland was unfortunately yet predictably being run, at the time of the crisis, by the business-friendly Fianna Fáil party, full of lawyers and other pillars of the establishment with a tendency to make decisions on a narrow, legalistic basis. The government paid Merrill Lynch €7 million, at the height of the crisis, for a seven-page report saying that “all of the Irish banks are profitable and well capitalised” and that the government guarantee would therefore cost nothing. The result was an immediate overnight windfall for anybody invested in Irish bank debt:

The bondholders didn’t even expect to be made whole by the Irish government. Not long ago I spoke with a former senior Merrill Lynch bond trader who, on September 29, 2008, owned a pile of bonds in one of the Irish banks. He’d already tried to sell them back to the bank for 50 cents on the dollar—that is, he’d offered to take a huge loss, just to get out of them. On the morning of September 30 he awakened to find his bonds worth 100 cents on the dollar. The Irish government had guaranteed them! He couldn’t believe his luck.

Lewis does a great job of presenting the back-story to the way in which the Irish government chose Merrill to be its CYA mechanism: Merrill was the bank which had recently bowdlerized a prescient report from its own analyst, Philip Ingram, which had cast doubt on the quality of the assets at Irish banks. It was unthinkable that Merrill would be honest with the government, and it wasn’t.

Ireland’s bank-debt guarantee was a bit like AIG’s CDO guarantees, only much, much worse. The CDO guarantees were issued when the CDOs were trading at 100 cents on the dollar, and AIG stopped writing them in 2006. The bank-debt guarantee was issued as markets were plunging, at the end of September 2008, after Lehman Brothers had already gone bust. AIG genuinely believed, when it was writing its guarantees, that there was a negligible chance that any of them would result in payouts. Ireland, by contrast, knew full well that its banks were in trouble — the guarantee was a bit like offering free health insurance to someone who’s just been rushed to the emergency room, on the grounds that a Merrill Lynch report says the patient is in fine fettle.

Lewis makes another important point, too: substantially all those bonds which Ireland guaranteed have now been paid off, in full, at par, using money from the European Central Bank. There is no longer a pool of government-guaranteed bank bonds alongside another pool of government debt; everything is now pure government debt, and as a result Ireland is mired in a fiscal crisis from which there is no way out.

All of which is an important cautionary tale for Spain, which needs to work out what to do with its undercapitalized cajas. A blanket guarantee of caja debt wouldn’t be as disastrous as the Irish guarantee, but it’s still a bad idea. On the other hand, letting them go bust doesn’t seem very attractive either. The ideal solution, as Mohamed El-Erian says today, would be to somehow recapitalize them with private money — but there’s understandably little appetite in the private sector to come up with the tens of billions of euros needed to do that. And forcibly merging the cajas doesn’t help much either: as the cliché has it, you can’t tie two rocks together and hope that they’ll float.

The best-case scenario, for me, would be one in which some or all caja debt was turned into equity. Ireland should mark the end of the era of bank bailouts: given the fiscal straits of the European periphery, it’s time to draw a line in the sand. Ireland has avoided riots and chaos, and its upcoming political transition looks as though it’s going to go smoothly. But that’s no evidence that what it did was in any way a good idea.


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Lewis should not be surprised at how meekly everybody took it, given his personal experience.

Despite his decades of experience, he meekly allowed his “full-service” broker to take him to the cleaners and then shifted to a discount broker that doesn’t come up with “brilliant investment ideas.”

The financial sector is essentially filled with salesmen, some of which have decent mathematical skills. Their primary job is to con people into handing over their hard earned money so that they can take a “small cut” for generating “enhanced returns.” In the long run, the returns tend to be illusory or worse but the “small cut” is very real and never comes back.

This occurs at the small scale on a security by security basis and on the grand scale where governments pump trillions of dollars into the financial sector in the faint hope of getting a financial return. we are seeing today, that this provides guaanteed returns for the financial sector and losses for everyone else.

The put people who rob banks in jail. However, banks that rob people get cash that they can then use to lobby government to avoid paying taxes on their loot.

Posted by ErnieD | Report as abusive

The Michael Lewis article was indeed brilliant, and filled with excellent gallows humor.

But if I understood him correctly, I think Lewis was saying that Ireland has only avoided riots and chaos for now. He quotes his driver as saying that the problem with the Irish is that they allow themselves to be pushed and pushed, until they explode in irrationality. And Lewis emphasized that much of the pain has yet to be felt. I believe the implication was that we might yet see some instability in Ireland.

My family is partly Irish and partly Russian. I think the two peoples have a lot of interesting similarities: Fatalistic, poetic, sometimes mystical, with an apparently boundless capacity to suffer and endure with stoicism–until you push them too far. Then look out.

Posted by EconWatcher | Report as abusive

“…a credible account of the fateful meeting at which the Irish government decided that it should go ahead and guarantee the debts of all Irish banks.”
FYI, Merrill Lynch advised AGAINST a blanket guarantee for all banks:
“This would almost certainly negatively impact the State’s sovereign credit rating and raises issues at to its credibility.”
page 7, ML memo to Irish government. ttees30thdail/pac/reports/documentsregru arantee/document3.pdf

Posted by alea | Report as abusive

More in responce to ErnieD than to Felix or Lewis…

“Their primary job is to con people into handing over their hard earned money so that they can take a “small cut” for generating “enhanced returns.” In the long run, the returns tend to be illusory or worse but the “small cut” is very real and never comes back.”

As someone who makes his living managing investments I can tell you that the 20 year wave of prosperity we saw before the meltdown is BECAUSE of the global financial system and not DISPITE the global financial system.

Did poor loans get made… yes absolutely but many by entities like Countrywide, New Century Financial, which no longer exist. Did the largest investment banks aid in that by slicing and dicing the crap loans and selling them as AAA product… guilty as charged… but again the badest actors like Lehman and Bear are no longer.

One of few ligitimate gripes of the anti-bank class is that the pay of senior officers of large banks rake in bloated salaries. That is true of all industries but more so in finance.

Posted by y2kurtus | Report as abusive

@y2kurtus: you seem to imply that most of the cost of bad loans has been borne by creditors and shareholders of now-defunct institutions. Really? Between Frannie, AIG and Madien Lane alone, it seems like the government now has a half a trillion in socialized bad-debt that generated gains for bank officers, creditors and shareholders, but actually were value-destroying activities. Manipulating interest rates to rebuild bank balance sheets is effectively stealing from savers to give to bank shareholders.

It’s like you’re arguing that capitalism worked effectively, and 2008-2009 never even happened. Your examples:

Countrywide – stakeholders lost some, but in hindsight that POS was worth less than zero when BoA paid good money for it, and then BoA ran in to problems so the entire weight of the federal government bailed them out on the backs of savers and taxpayers that create the government guarantees.

Bear – toxic assets unconstitutionally absorbed by the Fed, which is currently hiding significant loses on what was supposed to be virtually-riskless collateral. In a free market, Bear was worth zero, yet shareholders got $10/sh, and senior creditors made out very well.

Both of those are prime examples, not of how financial failures are supposed to work (which you seem to think), but of beneficiaries of an out-of-control financial system privatizing gains and socializing losses. Your examples are an anathema, not a model.

“One of the few legitimate gripes” – so not much wrong with the 2007-era financial services industry except maybe compensation of senior bank officers? Unbelievable…

Posted by SteveHamlin | Report as abusive

SteveHamlin, currently the SIV holding BSC “toxic assets” is showing a “loss” of around minus 1,300USD or what we call in the business a “profit”. Sorry to throw technical terms around. .html

and overall:

and virtually all of the bad debt from those programmes are in Frannie but hey who cares about facts right when you can have inchoate rage.

PS can I reiterate alea’s post. As usual, not only is the story not true but it is the 180 degrees opposite of the truth.

Posted by Danny_Black | Report as abusive

Thanks for the tip; Michael Lewis’s piece is indeed excellent.

Posted by uprof | Report as abusive

As an Irishman, I can state that Lewis’ article is so inaccurate that it brings the rest of his journalism into question;

1.The Irish parliament does NOT require that speakers use both Gaelic and English. Had Lewis bothered to look at even 10 minutes of a typical debate – available on the web – as distinct from a vote, he would have seen that
2.The Irish boom was initially technology-driven. A country that hosts the European and world HQ’s of so many tech companies demands a little more examination. No wonder no-one wanted to speak to him, beyond a few notorious media whores; the gentleman who pursued him with a baseball bat acted for many of us
3.What Lewis also neglected is that a large amount of the debt is NOT for Irish property; in fact during that period, Irish “businessman” invested more than US such in Britain
4.Lewis even missed the real story; the criminality for which even the property scam was a front, with – to take one example – mafia money being laundered through an Anglo affiliate in Austria; thleen-barrington-sbp-12-9-10-a.html

Many of us had been warning about the Irish kleptocracy at a time when his sources like McWilliams were cheer-leading it, and doing so at conferences in the better American universities. (In fact, he can pop along to his hometown university at UC Berkeley on Mar 10 to hear the arguments )

Lewis never asked; why. given that the Irish are the most successful ethnic group in so many countries to which they emigrate, why is “their” country such a disaster?

The truth may be found in the buttressing of this kleptocracy by the international financial community. The sullen lack of grace with which Cowen left power betokens a feeling of betrayal – after all he had done in serving up generations of Irish to the like of Goldman Sachs.

Posted by erigena | Report as abusive

The fact remains, the Irish business class politicians issued a 100% guarantee that covered any money they had in the banks, to be paid for by those who didn’t have money in the banks. Since they are the party of the rich in Ireland, they would have most to lose from not protecting the banks.

Surely a case of mis-governance?

Posted by FifthDecade | Report as abusive

FifthDecade is right. The Lewis article was so colorful and fun that I did wonder if there could be some hyperbole or inaccuracy, as erigena suggests there was.

But I don’t think erigena has provided any reason to question the core of the story, which is a government decision so reckless, and with such longlasting and dire consequences for Irish people, that it simply beggars belief.

In addition, I don’t understand erigena’s point in emphasizing that “the Irish boom was initially technologically driven.” The US boom was, too–Greenspan just used massive injections of liquidity to transfer the air from the dot-com bubble to the housing bubble. So what?

The eventual bust here, as in Ireland, was from the real estate bubble, so I’m not sure why erigena thinks Lewis was omitting anything critical from his already long story by omitting the initial technological boom– unless erigena thinks Lewis was implying that there was never anything real in the growth of the Celtic tiger. I don’t think he said or implied that.

Posted by EconWatcher | Report as abusive

The Irish citizenry was no less meek about their situation than the American citizenry.

The American government made the same incredibly bad decision to guarantee debt that the Irish government made and we have suffered similar consequences.

Both Obama and McCain voted to bailout the banks, so we couldn’t punish one party or the other for their misdeed.

The Republicans are proud to do the banks’ bidding, the Democrats are just as subservient, but less public about it.

So what options are left to the citizens of Ireland, America? Revolution? Murder? Terrorism?

I’m not ready to go that far, but I voted against Obama and McCain, I moved my banking from Wells Fargo to a credit union and I pay cash for things a lot more than I used to.

I’d like to see something like what happened in Tunisia and Egypt happen right here in America. I even went so far as to sign up for Twitter just in case something gets going; I’d like to be a part of it.

Only instead of demanding a different leader, we should simply demand: Justice!

Posted by breezinthru | Report as abusive