Kenny has work cut out if he wants interest rate cut

ANALYSIS:Enda Kenny has to convince Europe that he will make good on his pledge of fiscal reforms

ENDA KENNY already knows many of the European Union leaders he will meet today but the new Taoiseach faces a profound challenge as he steps into the crucible in Brussels.

There are two separate EU summit meetings. At the first, which begins in mid-morning, the leaders of the 27 member states will discuss the volatile situation in Libya. The second is a euro zone summit, starting about teatime, at which difficult bailout scheme reforms will dominate.

The objective is to lay the ground for a comprehensive deal in a fortnight. It remains a highly ambitious target.

At stake for Kenny here is his push for a lower interest rate on Ireland’s rescue loans, crucial to the financial position of his administration in the testing years ahead.

More than that, however, it falls to him to start undoing the grievous damage done to Ireland’s reputation by the devastating economic flameout which led to the EU-IMF rescue. This will be a slow process inevitably, made more challenging by the fact that the true scale of the banking debacle still remains to be seen.

The Taoiseach arrives at the leaders’ table with a huge mandate from the beleaguered Irish people and an avowed resolve to tackle the State’s financial problems. However, his credibility in Europe – now bound up with that of Ireland generally – ultimately rests on the deeds of his Government.

Declarations of intent will not alone suffice, although they are important nonetheless. Thus one of Kenny’s prime tasks today is to convince his counterparts that his Government intends to make good on its pledge to doggedly pursue the fiscal path of rectitude and reform.

In the first instance at least, this overrides debate on the interest rate and the banking debacle. Indeed, the basic case for any easing of Ireland’s rescue terms rests on Kenny’s ability to persuade other leaders that he has the mettle and gumption to keep going when the going gets rough.

His audience includes German chancellor Angela Merkel, French president Nicolas Sarkozy and more than a dozen other chieftains including the European Central Bank (ECB) president Jean-Claude Trichet.

The bailout means these people – like everyone else in the room – carry immense influence in the Irish scene. If the hardy growls of election rhetoric are nothing new to them, it seems pretty obvious that they will be looking for clarity from Kenny about his plans in Government.

This explains the early signal of his willingness to pull back his demand for compulsory “haircuts” on senior bank bonds. The manoeuvre, a week ago in Helsinki, all but liberated Kenny from a campaign promise which Ireland’s European sponsors deemed unfeasible.

Yet that is not the end of the matter. An ongoing round of stress tests on Ireland’s fragile banks has raised fresh anxieties that yet more capital may be needed. With that in mind, a senior European diplomat said there was a “growing consensus” that further action might be required to finally settle the affair. While that may lead to deeper European involvement, this remains an embryonic debate as of yet.

Then there are battles to be fought on the interest rate and on corporation tax. The strains here are huge, although the issues are not specifically tied. Still, they present the risk that a sacrifice on business taxation becomes the implicit price of a lower interest rate.

After all, Merkel wants a quid pro quo for interest “relief” – she specifically targeted corporate tax harmonisation when tabling her “competitiveness pact” at the last European summit. The chancellor’s original plan went down very badly indeed with her counterparts but her power is such that she cannot be ignored. Thus did some form of a pact – committing euro countries to Germanic fiscal rigour – become a basic element of the drive for a new bailout arrangement.

With divisions still deep over any move to enlarge the scale and scope of the fund, in all likelihood the only deal tonight will be to settle the text of a draft competitiveness pact which non-euro leaders would be invited to endorse.

Pressure on Ireland’s contested 12.5 per cent corporate tax rate has abated for now, but the draft pact will take Europe further down the road of harmonising the corporate tax base, something Dublin has resisted for years. While not specifically committing euro countries to do that, the text is likely to say that such moves may prove “useful”.

Kenny, of course, has vowed not to accept a common corporate tax base. Also, his administration can abstain from imminent commission legislation on this front. This is still very uncomfortable ground for him, particularly as he is looking for a substantial reduction in the interest rate on bailout loans.

Here he runs into German demands for reciprocation, a stance bolstered by Dutch resistance to any rate cut and wariness among Austrians and Finns. It is a given that their combined clout easily exceeds that of Ireland’s supporters, who include other “PIGS” group luminaries like Greece, Portugal and Spain.

Ireland argues that the moral hazard case for a penal interest rate is overstated, bailouts carrying a significant political cost for the recipient. In addition, the case is made that the high interest rate is unsustainable and undermines the bailout’s core objective of restoring order to the public finances.

Against that, however, is the case that the 17 euro countries signed up to the bailout scheme on the basis that loans would be released only at dissuasive, penal cost. This argument still has many adherents.

If the Taoiseach will not concede on corporate tax, what else can he give Merkel? This debate centres now on a debt brake, which would place a strict legal limit on the national debt. Kenny favours this notion already but there is some reluctance to go the route of a constitutional amendment. What are the odds of a Yes vote if a referendum were portrayed as a German-inspired initiative?

Whether a statutory debt brake would satisfy the chancellor is unclear.

This is what awaits Kenny as he joins the ranks of EU leaders. They could be talking until midnight.

Arthur Beesley is European Correspondent