Jessica Weld

Introduction

The term Home Bias can be defined as the tendency for investors to invest the majority of their portfolio in domestic equities, ignoring the benefits of diversifying into foreign equities. In a small island nation bursting at the seams with such immense pride for its achievements and its continuing ability to punch above its weight on the worldwide stage in all aspects of society, be it the arts, sport, entrepreneurial pursuits, and cultural exports it would be assumed that such pride would leak into the investment decisions of Irish residents.

The reality is that domestic holdings of public debt in Ireland have been in decline since 2005. From research published by the European Central Bank in 2021, direct and indirect holdings of government debt by resident households in Ireland have fallen from 19.5% in Q4 2005 to 9.1% in Q4 2015. I intend to explore the possible reasons for and probable issues arising for the Irish state as a result of declining domestic interest in public debt.

The Current Landscape

The Annual Report on Public Debt in Ireland 2023 has observed a national debt of €233bn at year end 2023, amongst the highest debt per capita in the developed world. This can be attributed to the state overcoming large obstacles such as the Covid-19 pandemic in recent years and the long-term devastating effects of the global financial crisis around 2007/2008 and the years of financial collapse and austerity that followed into the early 2010s.

Despite the high amount of debt per capita, Ireland can be glad of its high credit rating of AA with positive outlook from Standard & Poor’s global ratings in November 2024. This marks a low cost of current and future borrowing for the state and is an overall positive indicator of economic health.

However, Ireland’s proportion of domestic interest in its sovereign debt falls short of the Euro area average. In 2020, 49% of Ireland’s debt was held by residents in comparison to the Euro area average of 56.1%. While the Euro area as a collective displays a strong home bias, why does Ireland fall short of its European counterparts?

Attracting Foreign Investment

Ireland in its recent history has been known as a haven for foreign direct investment, mainly through the establishment of the international and European headquarters of many multinational companies in the state over the last thirty years. These companies have been attracted by Ireland’s lucrative low corporate tax rate and an abundance of incentives provided by the state via the Industrial Development Authority. The same effects can be seen from the perspective of non-resident debt holders. As the economic outlook of the state is overwhelmingly positive as seen through high credit ratings and other economic indicators, everybody wants a slice of the Irish pie.

This effect has been encouraged by Ireland’s membership of the European Union. Free-trade and the common currency within the Eurozone has reduced the costs and risk experienced by non- resident European Union holders of Irish public debt. However, this phenomenon shouldn’t be viewed as wholly negative, the higher demand for Ireland’s sovereign debt as a result of EU membership ultimately pushes the state’s cost of borrowing down.

Domestic Confidence in the Government and Economy

The lived experience and confidence a state’s residents has in its government and economy can have a considerable effect on whether they willingly choose to be debt holders for the state. This can be irrespective of factual economic performance and future outlook. In a 2020 survey by University College Dublin, it was found that 45% of Irish respondents said that they think that the government ignores rules and procedures in comparison to only one third of German and Norwegian respondents believing the same about their respective governments.

I believe that the period of austerity following the global financial crisis has contributed to this negative domestic perception of the Irish government and economy. Many residents who were negatively affected by increased unemployment and the burst of the property bubble have been left with a bad taste in their mouth and are less inclined to lend to the state. Despite factual positive information on economic performance and creditworthiness, I believe that low confidence in the government and economy amongst residents has produced a reversed home bias effect on domestic holdings of public debt.

Direct vs Indirect Debt Holdings

It’s important to examine the way through which debt holders hold their debt. This can be through direct means (being a debt holder) or indirect means (having shares in an investment or pension fund which holds debt as part of its assets). Despite having a low proportion of resident debt holders in comparison to Euro area counterparts, Ireland exceeds its competing nations in direct debt holdings.

In Q3 2020, 10% of resident debt holders of Irish public debt held their debt directly, compared to the Euro area average of 2% 2 . This displays a high proportion of domestic debt holders actively and consciously lending to the state compared to residents passively lending through their contribution to investment and pension funds. This is a positive indicator of Irish residents’ willingness to explicitly lend to the state.

Why Encourage Domestic Debt Holding?

It’s crucial to understand why domestic debt holding is so advantageous to the economy and its residents so as to fully understand why Ireland’s lack of home bias can create issues. Put simply, domestic debt-holding is a win-win for the state and its resident debt holders. For debt holders, Ireland’s residents will benefit from the returns on holding public debt as the cost borne by the government to borrow will flow back into the domestic economy rather than benefitting the economies of non-resident debt holders, producing a circular flow of cash within the state.

Furthermore, resident debt holders will be less likely to demand higher costs on their lending to the state as this will directly affect them negatively. Be it through increased taxation or reduced public expenditure as a knock-on effect.

Currency risk is another avenue that should be explored when it comes to non-resident debt holding. In order to be more attractive to non-resident lenders, the Irish state issues some debt, such as the Euro-Commercial Paper Programme in US Dollars, Great British Pounds, and other currencies on request. Fluctuations in value of the issuing currencies against the Euro can cause relative changes in the cost of borrowing for the state which creates an even stronger case for the state to prioritise domestic debt holding in euros.

Conclusion

It is a certainty that the Irish economy is missing out on the wealth of advantages that come with a high proportion of resident debt holders. The state needs to capitalise on its higher-than-average amount of direct debt holders and transform it into a large-scale new wave of financial patriotism by encouraging residents to lend to the state.

Some measures that can be taken include increasing financial literacy amongst the population about the financial instruments available to them to invest their funds which can increase awareness of sovereign debt holding and its win-win advantages for debt holders and the wider economy.

The state could also explore possible tax incentives to encourage domestic debt holding alongside regulatory requirements for pension and investment funds to hold certain amounts of public debt which will increase indirect domestic holdings of public debt.

It’s time for the state to encourage the Irish people to channel their strong Irish pride into their economy for the benefit of themselves and the generations of Ireland’s children to come.