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Ireland: Looking for the Exit

13/03/2013 10:21 GMT | Updated 12/05/2013 10:12 BST

Just a month after securing a substantial restructuring of the remaining €28bn in promissory notes issued to bail out two of Ireland's zombie banks in 2010, the Fine Gael-Labour coalition government has obtained an agreement in principle from fellow EU finance ministers to extend the maturities of its bailout loans from euro zone rescue funds. The two deals aim to smooth debt redemptions to reduce the government's borrowing requirement in the short term, helping to relieve pressure on the Irish taxpayer. But Ireland still has a way to go to ensure the sustainability of its public debt. Without a return to solid economic growth, reducing the government debt stock of almost 120% of GDP will be an arduous task.

The promissory notes, which required the government to repay a hefty €3bn a year until 2023, will be replaced with long-term government bonds with an average maturity of 34 years. The government expects the promissory note restructuring to reduce its borrowing requirement by up €20bn over ten years. In addition, on March 5th, EU finance ministers agreed to ask the "troika" of the European Commission, the IMF and the European Central Bank (ECB) to come up with proposals to adjust maturities on bail-out loans to Ireland (and Portugal) from the two EU bail-out facilities -- the European Financial Stability Facility (EFSF) and the European Financial Stabilisation Mechanism (EFSM) -- although not on loans from the IMF.

Ireland, like Portugal, is unlikely to get the terms offered to Greece, which in November 2012 secured an agreement to extend the average maturity of EFSF loans from 15 to 30 years as part of a broader debt restructuring. Ireland and Portugal are more likely to get extensions of 5-10 years. A deal is likely to be concluded relatively swiftly, possibly as soon as the informal Ecofin meeting in early April. Both countries are nearing the end of their bail-out agreements (Ireland's expires at the end of 2013 and Portugal's in mid-2014) and, therefore, hope a relaxation of the bail-out terms will help them to make a smooth exit from their respective programmes and return fully to the markets for funding.

Exiting the programme at the end of this year has huge political importance for the Irish government as it would a represent a return of economic sovereignty. On the fiscal front, extending the maturities on the bail-out loans would provide the government with some welcome breathing space by reducing its borrowing requirement in the short term and, therefore, the size of the budget adjustments that it needs to make to meet the ambitious deficit reduction target agreed with the EU/IMF, currently a deficit of 3% of GDP by 2015. The deficit is estimated to have been around 8% of GDP in 2012. The 2013 budget, which was the fifth consecutive austerity package since the start of the crisis, adopted a combination of spending cuts and revenue-raising measures worth a crippling 3.5% of GDP.

But economic recovery remains fragile

Without a return to robust economic growth in the coming years, the effects of Ireland's fiscal crisis will linger for at least a couple of decades. In the short term, improvements in Irish growth prospects remain fragile. Because of the overhang of the 2008-09 and euro zone crises, demand is likely to be sluggish in Ireland's three main export markets -- the euro zone, the UK, and the US for some time. Domestically, consumer spending is also likely to be constrained for some time by the need to unwind high levels of private-sector debt, in the absence of widespread debt write-downs, which could destabilise the fragile recovery under way in the Irish banking system. According to the latest data up to September 2012, residential mortgage arrears were high and still rising, even if at a slower pace. On the surface, recently published data showed employment started to recover in the fourth quarter of 2012, but a closer look at the numbers suggests the labour market may have stabilised, but it certainly is not yet on a path to recovery.