Or, Anglo Irish indigestion in Ireland’s accounts.
Ireland’s government has just doubled the amount of fiscal cuts it expects to make in the next four years, from €7.5bn to €15bn — of which €6bn will be front-loaded into 2011. Nasty.
Part of the problem here seems to have been what the government expects will be higher-than-planned interest payments on €31bn of promissory notes used to cover the bailout of Anglo Irish and two other banks.
Nasty too then to find an accounting trick in the way the government is treating the interest on these notes. Basically, the interest disappears in 2011 and 2012.
We’ll leave it to the Irish government to explain:
For capital adequacy purposes the Promissory Notes must be valued at par in the institutions’ accounts. Accordingly, interest must accrue on any amount due until it is paid. The interest rate charged is based on the long term Government bond yield appropriate to when the amounts will be paid. The Promissory Notes will be paid in equal instalments over the next 10-15 years.
Quick translation: Irish bank balance sheets are bust. Bond yields are repricing Irish risk into the Stone Age already. We have a problem.
Back to the government:
Beginning in 2011, the Exchequer will undertake cash borrowings of some €3.1 billion each year until such time as the full principal sums and interest payments have been paid in full. These cash borrowings will add to the Exchequer Borrowing Requirement in each of the years. The incremental interest costs on cash borrowings of €3.1 billion in 2011 are currently estimated at approximately €200 million per annum – see Table.
Here’s that table — click the image to enlarge:
Note the technical assumptions and weighted-average calculations about interest rates there – and be sure to remember that Irish ten-year bonds yield of about 7.77 per cent at the moment.
Now here’s the actual accounting trick (emphasis ours):
Under ESA95 (Eurostat) Government accounting rules, the interest payable on the Promissory Notes must be accrued into the year in which the liability arises, even if no cash payment takes place. However, the rules also provide that no interest is to be recorded during an ‘interest holiday’, i.e. a period during which a zero rate of interest is charged.
It is currently estimated that the interest accruing into 2010 in respect of these Promissory Notes is around €560 million. However, the terms of the promissory notes will provide that no interest will be chargeable in 2011 and 2012. The Irish authorities have confirmed with Eurostat that, as a result, no interest will be recorded on the promissory notes in those years, on either a cash or accrual basis. This means that the General Government Balance for 2011 and 2012 will be unaffected by interest payments relating to the promissory notes.
A higher rate of interest will be chargeable for the remainder of the period beginning in 2013 onwards, so that the cumulative amount of interest paid over the period of the Promissory Notes will remain at an average rate sufficient to allow the promissory notes to be recorded in the institutions’ balance sheets at face value, notwithstanding the zero rate of interest charged in 2011 and 2012.
And here, finally, is why the issue matters:
The impact of the interest on the Promissory Notes on the General Government Balance is approximately €1¾ billion in both 2013 and 2014, and reducing in subsequent years. This equates to about 1% of GDP. However, it should be noted that this does not affect in any year the actual borrowing being carried out by the NTMA in order to pay the capital amounts due to the relevant financial institutions…
Related links:
Allied Irish and a pension fund fail – FT Alphaville
The Rock of O’Sisyphus is getting mighty heavy – FT Alphaville
