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Friday, November 12, 2010

It's not going away

Rumours that Ireland will soon be forced to seek a cash injection from the eurozone rescue package of no less than €80 billion have been denied by both a Commission spokesperson and Irish Taoiseach Brian Cowen.

Pressure on Irish bond spreads seems to have eased following a statement by France, Germany, Italy, Spain and the U.K., with the purpose of assuring investors that they wouldn't be forced to chip in to future eurozone bailouts (with regards to existing outstanding debts).

The statement says:
any potential private-sector involvement (...) does not apply to any outstanding debt and any program under current instruments.
The current jitters in the markets seem - at least in part - to have been triggered by German calls for a permanent euro crisis mechanism, which would force bondholders to shoulder part of the burden should a eurozone country go bust. Irish PM Brian Cowen commented that "It hasn't been helpful".

A mechanism for an orderly default procedure is a sensible idea, but it cannot be used as an excuse for avoiding tough decisions, such as cleaning up the banking sector, coping with the government bonds bubble, or most importantly, solving the inherent problems in the current eurozone structure.

What's clear is that this issue won't go away - there are many strong forces at work, creating the same toxic political-economic-monetary mix which preceded the Greek bail-out.

In an interesting post on his WSJ blog, Alen Mattich looks at the EU's €440 billion EFSF vehicle (one of the bail-out mechanisms agreed in May), arguing:
"Would such guarantees do the trick?

Insofar as it’s just a confidence game, yes. But there’s a real risk we are once again facing a solvency crisis. If Ireland, Greece and Portugal cannot make good on their existing debt, they will have to be bailed out or be made to default. All the evidence is that the Irish, Greek and Portuguese populations cannot support the debt they already have. For instance, at current yields, Greece would have to fork out something around 10% of its GDP to foreign creditors just to meet interest payments.

Since default would mean an instant crumbling of the euro zone, bailout is the only answer.

Germany, with help from the Dutch and maybe even the French, might be able to cover Irish, Greek and Portuguese debts, at least to the point where the local populations could reasonably be expected to service the remainder.

But could these countries resolve the problems with their structural deficits? Would their voters be happy to be, once again, poor within the euro zone when they’d gotten used to feeling rich? And would the Spanish and Italians be happy to sit by while others are being helped–never mind contributing to the bailout? What are the chances they too wouldn’t demand assistance?

It’s a game the Germans won’t play for ever. Or even for long.
All this links with the most fundamental problem of them all - the huge differences in competitiveness between the different economies in the eurozone, locking in the current tensions.

Incidentally, Ireland seems to be showing signs of engaging in a more fundamental debate about its monetary arrangements and the implications of EMU membership

The finance spokesman of Fine Gael, Ireland's largest opposition party, yesterday said:
Once the instrument of devaluation was taken from us, which we resorted to on a number of occasions in the 80s and 90s to restore competitiveness, a new regime had to be put in place and that was not put in place
Talk of devaluation, an indispensible ingredient in any IMF cure for bankrupt countries, is likely to catch on.

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