Lisbon says borrowing costs not sustainable

EUROPEAN REGULATORS rushed to defend the severity of a new round of bank stress tests as Portugal admitted record borrowing costs were unsustainable without action to reinforce the euro zone bailout fund.

Renewed pressure on Portugal was compounded by a spike in Italian borrowing costs, which rose yesterday to their highest level since the height of the financial crisis in late 2008.

Euro zone leaders gather tomorrow in Brussels to discuss reforms to the euro zone bailout fund, a meeting which takes place amid German and Austrian resistance to any substantive widening of the fund’s remit.

Portuguese borrowing costs rose to new highs as the country sold €1 billion two-year securities at yields almost 50 per cent higher than a September auction. The yield on 10-year paper hit a euro-era record of 7.78 per cent before dropping.

Although this led to renewed expectation that the country will be unable to survive much longer without a bailout, treasury minister Carlos Pina insisted there was no need for an intervention.

“These are rates that are not sustainable in the longer term, but they are still bearable at the moment, which reinforces the need for measures at the European level,” he said.

“We are conscious that the rates remain high and have been worsening, implying a need for an urgent European plan of measures to make the [bailout] fund more flexible.”

For the first time since November 2008, Italian 10-year bonds yielded 5 per cent. Although no deal is expected tomorrow, observers believe such pressure may intensify calls for a comprehensive pact by a self-imposed deadline of March 25th.

At the European Parliament in Strasbourg, meanwhile, economics commissioner Olli Rehn reiterated to Irish MEPs that the EU executive supports a reduction of the interest rates Ireland is paying on bailout loans.

However, Mr Rehn stressed in written responses to questions from Fine Gael MEPs Gay Mitchell and Jim Higgins and Fianna Fáil MEP Pat the Cope Gallagher that the decision ultimately rested with EU finance ministers.

Mr Rehn also defended Europe’s oversight role in the build-up to Ireland’s financial crisis. Both the commission and the council of finance ministers “repeatedly signalled downside fiscal and macroeconomic risk related to the property boom in Ireland”, he said.

Media reports that key elements of the new round of stress tests on major banks had been softened prompted European Banking Authority (EBA) chairman Andrea Enria to say the tests overall were “more severe” than last year.

Huge recapitalisations of the Irish banks were widely blamed last year for seriously undermining the credibility of the previous tests, which AIB and Bank of Ireland passed and which did not examine Anglo Irish Bank.

This put pressure on the European authorities to harden the new tests, but reports suggest key test criteria will be diluted. The Financial Times said the new test will model a 15 per cent fall in equity markets instead of a 20 per cent fall in the previous test.

Mr Enria moved swiftly to defend the rigour of the exercise. “You need to look at the whole package of what is in the new stress tests,” he said.

The EBA, one of three new pan-European regulators, said the tests would examine bigger deviations from baseline GDP forecasts, moving to a 4 per cent “shock” from 3 per cent. “The EBA’s stress test enforces tougher assumptions such as a static balance sheet, which prevent banks from getting around the stress by shifting their business.”