Contrary to what many believe, the direct fallout from the Irish situation for the UK economy won’t be devastating. A bigger problem would be if Ireland were to leave the euro – while that would be good for all concerned in the long run, as membership of the single currency is one major reason for Eire’s woes, it would trigger massive losses in Irish euro-denominated assets in the short term. The real problem for the UK would be if other Eurozone countries hit the rocks, especially large economies such as Italy and Spain. This could trigger a true catastrophe.
But any immediate and localised trouble in Ireland ought to be containable. There are fours ways in which we would suffer. The euro may fall further, hitting UK exports and the sterling value of the turnover and profits of UK owned businesses in Europe. As Capital Economics points out, a European bailout to which Britain would be forced to contribute, or a bilateral bailout, would mean that gross UK public debt would rise and further risk would be absorbed onto the public sector balance sheet. Yet even if the UK government contributed a quarter of an €80bn bail-out, that would only add 2 per cent to UK gross public sector debt. There would also be some return on any loans. The net cost might be half a per cent of GDP (and could even conceivably turn a profit, though I very much doubt that).
British banks may suffer further losses on exposures to Ireland’s banking sector, businesses and households, either because of defaults or through falls in asset values. UK banks’ have cut their exposure to Ireland but it remains at 6 per cent of UK GDP, much larger than the exposure to other peripheral Eurozone economies. Of course, even in the event of a catastrophe, only perhaps one-sixth of the exposure would be lost forever. So the UK banks ought to be able to cope but may need to raise additional capital under any worse case scenario which saw Ireland go bust, its main banks implode and expulsion from the Eurozone. Last but not least, 6 per cent of UK exports go to Ireland. These have already slumped in recent years, so any further effect will be muted. It may still inflict some pain, however, and slow the recovery.
There are many lessons to be learnt from all of this. The EU’s treaties are not worth the paper they are written on, especially the nonsense about fiscal sustainability; the euro is a giant with feet of clay; monetary union will either lead to fiscal centralisation and destroy democracy in small countries or break up completely. Another absurdity: as part of the moves to force banks all over the world to hold more liquid assets, they have all been told to buy vast amounts of supposedly safe government bonds. This wasn’t exactly the cleverest strategy. What a mess.