In the discussion over whether or not Ireland and other eurozone countries face serious economic issues (e.g., as suggested by the credit default swap, CDS, market), we have been joined by an unlikely ally: the German Finance Minister, Peer Steinbrueck. To avoid any misunderstanding, here is the exact wording from Bloomberg this morning:
German Finance Minister Peer Steinbrueck said late yesterday that euro region countries may be forced to bail out members of the 16-nation bloc that face problems refinancing their debt.
While he didn’t name countries facing problems, Ireland is in a “very difficult situation,” Steinbrueck said.
It is true that the CDS market has its problems and may not always provide a reliable indication of trouble. This is the line being taken by Irish officials, reported in the same Bloomberg story:
Ireland’s Finance Ministry said it’s incorrect to draw conclusions about the “soundness of Ireland’s public finances” from credit-default swaps on Irish government bonds.
“The credit default market is small and opaque,” the Dublin-based Ministry said in an e-mail today. “Also it is generally used as a speculative tool by a small number of market participants to gamble on movements in the CDS market itself rather than to insure against default.”
But time and again, over the past two years, this same CDS market has given us an accurate read on the dangers ahead (my article on this question, written while I was at the IMF, is here). Ignoring warning signs on the grounds that they are “bad data” is dangerous.
A much better approach would be to address the underlying fundamental questions, and show everyone – clearly and persuasively – that Ireland is fiscally sound even with the contingent liabilities it has take on through guaranteeing bank liabilities.
If you are not in a position to so persuade people, then it is time to talk with your allies and close friends about the circumstances under which financial support may be available. Mr Steinbrueck’s words will not be appreciated in all quarters, but they are timely (and hopefully will not be retracted). In particular, he is right to address not only Ireland but all of the weaker eurozone countries, just as we have been doing.
Above all, do not get into the situation of Iceland, which had too much denial for too long, and abruptly approached its relatives for money late and in a manner that did not engender strong support.
Remember this cautionary tale. In early October 2008, after the Icelandic Prime Minister had been turned down for loans that would have prevented calamity, he remarked accurately and depressingly, “we are all going back to fishing.”