The following memo, which has fallen into our hands, is a draft of advice to the new Irish Minister for Finance from a British colleague who has a wealth of expertise on how to handle economic crises. He prefers to remain anonymous for professional reasons.
Congratulations on your new appointment. As you read the civil service briefings on the present crisis, you will come to appreciate that Ireland's problems would be much easier to manage if your administration could choose the country's own exchange rate and interest rate. However, your officials and your colleagues may believe that there is no practical way to leave the present European monetary union and so achieve this flexibility.
In fact, there is. Leaving the euro is politically tricky and economically costly in the short-term. But it is far from impossible. The long-term advantages clearly outweigh the short-term costs, and the politics can be managed. The following outlines how it can be done:
1. Announce on a Sunday morning that Ireland is “temporarily suspending” its euro area membership.
It is obviously vital that this announcement come as a surprise to markets. So you cannot discuss it with many people in advance. The Taoiseach and the Governor of the Banc Ceannais na hÉireann must obviously be informed and agree. However, even discussing the idea in a wider circle is likely to lead to leaks; in turn, this will cause a run on Irish banks and a complete collapse of deposits, destroying what is left of the economy.
2. As of L Day (Leaving Day), all Irish assets and liabilities are denominated in the ‘Irish euro’, initially at the exchange rate 1:1.
This means that there is limited disruption of cash. People will continue to use euro coins with the Irish national side and euro banknotes with the letter ‘T’ (for Ireland) in the serial number. You thus avoid having to change ATMs or any other machines that take cash. For the initial period of a fixed exchange rate (see below), Gresham’s Law will operate and ‘non-Irish euros’ will disappear from circulation in Ireland. You may later wish to take a leaf from the successor states of the Austro-Hungarian Empire and stamp ‘Irish euros’ to highlight their national character further.
3. Announce that there will be temporary exchange controls pending a resolution of outstanding issues such as Irish euro-denominated debt.
On this, you have a choice. You can announce that Ireland will honour its euro-denominated debt until roll-over. This puts the exchange-rate risk on you. Since a main reason for Ireland to leave the euro area would be to devalue, this move would increase your debt, but would facilitate any negotiations with your euro area partners. However, it is an expensive route.
You may therefore prefer to announce that as of L Day (Leaving Day) all external Irish euro-denominated debts are also denominated in the ‘Irish euro’. That puts the exchange rate risk on your creditors. It is cheaper, though it leaves you open to substantial lawsuits.
The exchange rate will of course not remain fixed for long. Nor would you want it to. But until the transition period is over, you may have to rely on the black market (which you will, of course, criticise) to provide you with accurate information about the appropriate Irish/euro are exchange rate.
4. You should in any case now go for a default – which of course you will describe as “a renegotiation of public debt”. Since you will in any case devalue (which is a form of default) you might as well get everything out of the way at the same time. Offer creditors a (say) 50% haircut on any debt that is maturing over the next few years; or a new bond maturing (say) 15 years down the line. With any luck, they will take the 50% and run.
You will no doubt be told that if you do this, Ireland will be shut out of capital markets for years, perhaps decades to come. Perhaps. But if you have a primary budget surplus you will not need to borrow much anyway. Moreover, history clearly shows that when the only threat your creditors hold over you is that, should you default, they won’t lend you any more money, then you should default at once. In any case, knowing international markets, they will realise that the combination of default, devaluation and a return to being able to set a monetary policy suitable for Irish needs, will actually give a boost to the economy. They will therefore be eager to lend.
5. One last thing. You will eventually want to move away from ‘Irish euros’ to a proper national currency (you can still keep notes and coins looking the same to ensure that cash machines will work). When you do, I suggest that you do not tie your currency to any other currency – the whole point of this exercise is to be able to conduct an independent monetary policy in the interests of Ireland.
cc, mutatis mutandis, to Ministers of Finance of Greece, Portugal, Spain and Italy – and Germany.