Ireland, debt and democracy risk: James Saft

March 12, 2012

By James Saft

(Reuters) – Ireland’s decision to hold a popular vote on Europe’s new fiscal treaty adds some unpredictable and much-needed risk to the seemingly inevitable course of the euro bailout steamroller.

While turkeys have on occasion voted for Thanksgiving, especially if told a “no” vote will only bring the feast day forward, Irish voters have reason to be furious and also have a strong track record of rejecting euro zone initiatives.

Ireland can’t by itself block the treaty, which will come into force if adopted by a quorum of 12 European Union states, but a rejection can, and just might, serve as a rallying point for those disaffected by the crisis resolution process.

Ireland would, however, find itself unable to access support from the European Stability Mechanism, a sort of permanent euro zone bailout fund that comes into effect in 2014. As Ireland is now receiving aid from the existing fund, such a vote would massively raise the risks of holding Irish debt.

“We expect Ireland to face challenges regaining market access in 2013 and it will likely need to rely on the ESM, at least partially, when the current support program expires,” Moody’s credit rating analysts Dietmar Hornung and Matt Robinson wrote in an analysis following the announcement.

The International Monetary Fund agreed, saying on Friday that Ireland may not be able to regain enough trust on global markets to begin to borrow again on its own next year, and coming out in favor of loosening terms of an existing EU promissory note package.

Irish interest rates, which have more than halved since last summer, have started to creep upward again, as has the cost of insuring Irish government debt against default.

First off, it is important to remember that opinion polls show the treaty has a healthy and probably safe level of support in Ireland, and so perhaps this is a buying opportunity in Irish debt, at least for the very short term. And while the treaty itself, agreed in principle by 24 EU states last month, is problematic, Ireland’s real difficulties stem from the fallout from its disastrous decision to backstop its banking system’s debts.

In contrast to Iceland, another small country with a bloated banking system, Ireland’s decision to slap a state guarantee on the insane borrowing of its banks leaves it now with a 14 percent plus unemployment rate and needing international aid, all while suffering under a program of austerity which may well be self-defeating. Iceland, by the way, is doing comparatively much better.

So it would not be at all surprising if they used the vote as a chance to throw a spanner in the works. Irish voters have a track record here, rejecting two other euro zone initiatives, most recently in 2008, and winning concessions both times.


For now, global markets are assuming, more or less, that Ireland repays its debt, but a ‘no’ vote would rapidly change that consensus. There can be no telling if the ECB would wade into markets in support of Irish debt if the treaty is rejected, and there are good reasons to worry about how markets would react even if it did.

The principles established in the most recent bailout of Greece, where private market lenders face a 75 percent loss, will not fill debt holders with courage. And, as the ECB has established the precedent that it and other central banks will not face losses on their debt purchases, investors now know every euro of ECB money that comes in support of Irish debt puts investors that much further down the list of those hoping to be repaid.

The real issue is that, having taken on far more than it can possibly handle in underwriting its banking system, Ireland not only signed on for crippling debts but became a country which at every turn felt it had to do what was good for the banking patient, ignoring the impact on what was left of its economy.

The Irish compact has kept its banks alive, zombie-like, but robbed its economy of the capital which banks are meant to intermediate. It is extremely tough to get a loan in Ireland, especially for a smaller company. A Central Bank of Ireland assessment of lending to small and medium-sized companies released last week shows that credit conditions are the tightest in the euro zone.

“I am aware that we have many SMEs in trouble, unable to repay existent debts. But we also have loads of new companies – start-ups and existent enterprises – that can’t even get trade finance against clean balance sheets,” writes Constantin Gurdgiev, an economist and lecturer at Trinity College, Dublin.

That’s an economy that won’t grow its way out of the issue, meaning that an increasing percentage of its wealth will have to be dedicated to keeping the banking respirator turned on. If that’s true the democratic revolt will come eventually.

(Editing by James Dalgleish)

(At the time of publication, Reuters columnist James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund. For previous columns by James Saft, click on)

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