Monday, February 14, 2011
Political Uncertainty Adds to Financial Troubles in Ireland
Sources: FT: Bailout Terms Loom in Irish Elections
The Guardian: Ireland Faces Jobless Recovery, Says Report
On February 25, Irish voters will elect a new Parliament and will likely vote in a new Prime Minister. This vote will come one year earlier than the typical Irish political calendar requires. Brian Cowen, the current Irish Prime Minister and leader of the Fianna Fail political party, has been consistently behind in the poles. According to current polls, the Fianna Fail party, with only 20 percent support among voters, will probably lose at least half of the 72 seats it currently occupies in the 166-seat Dail, the lower house of the Irish Parliament. The Fine Gael party, led by Edna Kenny, is currently leading the polls with support in the low to mid-30s.
Cowen and his party have born the brunt of the blame for Ireland's economic collapse and subsequent € 85 billion IMF and European bailout. Ireland's dire financial situation has led the government to put an austerity plan in place that includes tax increases and significant government spending cuts. For example, lawmakers recently approved a finance bill that included a tax increase of up to 41 percent of the middle class' income. Parliament has also approved cuts in welfare benefits, a reduced minimum wage, and an increase in the retirement age.
While voters are eager to replace their current government, political uncertainty may be adding to worries over Irish banks and the economy, according to some investors. One investor noted that when a country receives financial aid from the IMF, bond yields (the return that an investor will receive from a bond) normally collapse because the risk of default decreases. In Ireland, that has not happened, partly due to political uncertainty. Michael Noonan is expected to become the new Finance Minister if Fine Gael wins the majority of votes in the upcoming election. He has called for senior bondholders (who so far have been spared) to suffer losses, and has identified €18.5 billion of debt that is not guaranteed by the Irish government that could be sacrificed. The government initially protected senior bondholders because it feared that angry investors would boycott the Irish banks and leave them in even worse shape. Noonan has also stated that he wants to see a reduction in the interest rate charged on EU bailout funds. The bailout fund was structured so that the interest rate was punitive, partially due to the insistence of Germany, leading to increased tensions between Ireland and the rest of the EU.
In light of the political instability, Standard & Poor’s downgraded the credit rating of the major Irish banks. One S&P analyst stated that S&P perceives "increased political acceptance for burden sharing" in Ireland and decreased willingness of the government to provide "extraordinary support" for financial institutions. A report on Ireland's economy out this week offered more bleak news, stating that Ireland's recovery from its financial crisis will not create any jobs, consumer spending will remain week, and Irish gross debt is predicted to rise to 113% by 2013. However, the report found one bright spot: demand for Irish exports is expected to continue to rise.
Discussion Question: How will a new government better handle the financial situation in Ireland? Should the interest rate on EU bailout funds to Ireland be lowered?