Monday, November 15, 2010

The Irish Choice: Inexpensive Cure or Expensive Bailout Part II

As Yogi Berra would say, "it is deja vu all over again."

The bond market is sending the message that it is unsure about the solvency of both Ireland and its leading banks.  However, the bond market is not sending the message that the only solution is a bailout?

This was recognized by the Irish government.  Today, in quick succession the Irish government proposed: 1) adding more capital to its banks to address the bond market perception that there might be a solvency problem; 2) accepting the bailout to address any liquidity problems the banks might have; and 3) meeting with EU finance ministers to see what other alternatives might exist to underpin financial and bank stability.

Adding capital and accepting the bailout might temporarily relieve the pressure of increasing interest spreads between Irish and German government bonds, but they do nothing to address the underlying issue of valuing the real estate loans.

Naturally my preference is the selection of an alternative to underpin financial and bank stability - namely provide the bond market with the loan-level performance data.

Announcing the plan to disclose the data on an ongoing basis should have an immediate and permanent impact.

The immediate impact is to stop the fear driven speculation that the situation is worse than the Irish government has reported.  The bond market would assume that the Irish government would not disclose the loan-level data which could be used to check the factual accuracy of the Irish government's statements knowing the severity of the bond market's reaction if reality were significantly different than the statements.

The permanent impact is that Ireland ends up with properly functioning capital markets again as investors are able to independently assess the risk of its banks and its national debt and make fully informed buy, sell and hold decisions without the need for ECB purchases or EU guarantees.

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