We’ve been saying for some time that while the immediate heat may be off the euro zone, therein lies a danger – that policymakers will relax their efforts to remould the bloc into a tougher structure that can withstand future crises, and possibly even allow this crisis to flare back into life.
Exhibit A has been the apparent backsliding on what we thought was a concrete plan to allow the euro zone rescue funds to recapitalize banks directly from next year, thereby removing the onus on highly indebted governments to do so. Over the weekend we got Exhibit B courtesy of a Reuters exclusive.
We reported that the European Central Bank had rejected Ireland’s solution to avoid the crippling cost of servicing money borrowed to rescue its failed banking system – debt servicing would amount to around 3 billion euros a year for the next 10 years. Dublin wanted to convert the promissory note into long-term bonds. The ECB decided last week that that crossed its red line of monetary financing.
The Irish government responded to our exclusive on Sunday by saying it would change its proposal, saying a failure to resolve it would have a “potentially catastrophic effect”. What is certainly true is that it would make exiting its bailout this year – which looked like it was almost a certainty after recent forays into the bond market – much more complicated. The next payment falls due at the end of March.
Irish debt yields have plunged in recent months but as the head of the country’s debt agency said last week, markets have “to a greater or lesser extent” priced in a promissory note deal.