Euro zone worries increase Irish borrowing costs

THE STATE’S cost of borrowing jumped yesterday as peripheral euro zone economies came under pressure because of worries over the risk of sovereign bond defaults.

The Republic has come under pressure because of fears Germany will refuse to back down over its demands that Ireland’s corporation tax rates be raised in return for lower interest rate costs for bailout loans.

Irish two-year bond yields, which have an inverse relationship with prices, leapt nearly 1 percentage point to 10.7 per cent at one stage as EU heads of state gather in Brussels for a summit today and tomorrow. The extra yield investors demand to hold Ireland’s 10-year bonds instead of German bunds climbed to a record.

Portuguese bonds were also in the spotlight as fears rose that the minority government could collapse. Portuguese two-year bond yields jumped to 6.62 per cent at one stage, a quarter of a percentage point rise.

Portugal’s five-year borrowing costs jumped to a new euro-era high of 8.05 per cent ahead of yesterday’s vote in parliament, which saw rejection of the Portuguese government’s deficit-cutting plan.

The yield on the Portuguese 10- year bond climbed 10 basis points to 7.59 per cent, with the similar-maturity Greek yield up four basis points to 12.56 per cent.

The crisis “greatly increases the chances that Portugal will need EU funds soon”, Brown Brothers Harriman said in a report.

The new Portuguese austerity measures, including a special tax on pensions, were drafted with input from the European Central Bank and the European Commission, the EU’s executive branch, as an “additional guarantee” that Lisbon would meet its fiscal targets.

Investors have hardened views that Lisbon will be forced to accept bailout loans because of political risks and doubts that Lisbon has enough money to meet bond redemptions next month and in June.

“It’s death by a thousand cuts,” said Charles Diebel, head of market strategy at Lloyds Bank Corporate Markets in London.

“We’re waiting for Portugal. There isn’t actually a solution to the problem. Yields remain at unsustainable levels, technically forcing insolvency.”

Italian and Spanish bond markets were also under pressure yesterday, sparking some concerns that any failure to agree to plans on the ESM could spark contagion.

One strategist said: “It has been a day when the periphery have been sold and safer bonds such as Bunds have been bought. The next two days should prove interesting. If there are any disputes, it could send peripheral yields even higher.”

An investor said: “There seems to be heightened risk aversion and people are nervous about Portugal and Ireland. These countries don’t seem like they will be able to get through without restructuring.” – (Copyright The Financial Times Limited 2011/Bloomberg)