Kenny left with little room for manoeuvre in bailout negotiation

 

EUROPEAN DIARY:New taoiseach may seek lower interest on loan, but will face pressure from France and Germany to raise corporate tax rate

ENDA KENNY faces an immediate test in Europe as he seeks in the coming days to wrest better bailout terms from Ireland’s doubting partners. It will not be easy.

The incoming taoiseach wants lower interest fees on rescue loans and says senior bank bondholders should bear losses on debt issued before the State guarantee of September 2008.

From a frail negotiating position, he must also confront renewed Franco-German pressure to dilute Ireland’s heavily protected corporate tax regime.

Each of these questions looms as EU leaders try to meet their self-imposed deadline of March 25th to sign off on reforms to their bailout scheme. Although there is no sign of a deal at present, rising oil prices due to unrest in the Arab world may escalate pressure for new steps to ease the debt crisis.

Talks on the interest rate have been under way for some time.

At issue is the surcharge which bailout recipients must pay in return for the largesse of their euro zone partners and the European Commission. This fee, almost 3 per cent per annum, is added to the rate at which the euro zone fund and the commission borrow from the markets for bailouts.

The rules follow the principle enshrined in the Greek rescue that rescue should come at a dissuasive, penal price. The aim was to discourage copycat claims for bailouts and to encourage swift fiscal reforms to facilitate an early return to market financing.

Kenny can make the point, however, that such provisions are self-defeating as scarce public money is wasted on loan interest.

The commission favours a cut, as do Greece, Portugal and Spain. But there is resistance too. Germany wants something significant from Dublin in return for any concession, the Dutch government opposes a lower rate outright and other states say they received parliamentary assent to join the bailout fund on the basis that high interest would be charged.

On balance, this suggests it will be very difficult to extract anything more than a modest rate cut. But there is still some scope for argument and persuasion. Whereas the outgoing Government ruined its own international credibility, Kenny is entitled to a new hearing.

Nevertheless, officials in Brussels and Frankfurt have long insisted the EU–IMF pact was done with the State and not the outgoing Fianna Fáil-led administration. Although the election result can be read as a withering public judgment on the deal, Kenny will be under significant European pressure to execute each of the policy conditions set out in it.

His manifesto says he would, but his putative partners in Labour want to change key elements of the arrangement. There is no appetite in Europe to go down that road at all.

On the interest rate, Kenny can point out that a commission programme to help non-euro countries with balance of payments problems charges only a tiny margin over its borrowing costs.

What is more, the Netherlands and Britain recently agreed to lower the interest they charge to Iceland for money it owes them from the IceSave affair to 3.2 per cent from 5.5 per cent. If the Dutch can move for Iceland, a non-EU country, why can’t they move for Ireland? Still, the sense remains that Germany is playing very hard in this game. Kenny has played up his links to chancellor Angela Merkel via the European People’s Party but she has chosen only to step up her rhetoric on Irish corporate tax.

Last week, she moved from the promotion of a common business tax base to open criticism of the Irish 12.5 per cent tax rate itself, a stance mirrored by French president Nicolas Sarkozy. This was enough to intensify anxiety in Dublin that capitulation on this front might become the price of a lower interest rate, not exactly the stuff of gladiatorial triumph for a brave new taoiseach.

Although Kenny could say his administration will “examine” imminent commission legislation to create a common consolidated corporate tax base, some in Dublin believe it would be dishonest to say anything other than that Ireland has no intention of going down that road.

Either way, the fact that Irish corporate tax is so prominent on the agenda presents a serious political difficulty, not least because the regime has achieved something approaching totemic status as the epitome of Irish sovereignty.

Then there’s the banking debacle. Kenny wants unguaranteed senior bondholders to take a hit, something that puts him at odds with the European Central Bank, Germany and other powerbrokers. Fearful of a renewed outbreak of market contagion if investors with the highest legal protection were compelled to incur losses, they remain unwilling to budge.

Kenny presumably knows this. In his television interview on Saturday night, however, he made a point of linking this question to a new round of stress tests on European banks.

Tests last year were too soft. Although EU leaders are divided on the parameters of the next exercise, their credibility rests on adopting tougher criteria. Thus there are suspicions that other European governments may have to recapitalise banks again, perhaps clearing the way for a broader review of the EU’s no default policy on bank debt.

In the near term, however, Kenny is unlikely to receive backing in Europe for unilateral bank “haircuts”. As Ireland is beholden to its international partners to keep the lights on, he might have no choice in the matter.