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EU bailout endangers Irish government, slams banks

November 22, 2010

A Irish Army Military police officer confronts Sinn Fein protesters who broke through the gates at goverNment …DUBLIN – Investors sold off Irish bank shares Monday and the government struggled to survive after conceding it will need a massive bailout. The rescue package aimed to contain Europe's debt crisis but experts said it still would not protect other vulnerable countries, particularly Portugal.

Ireland's rescue, which follows Greece's in May, is the EU's latest attempt to win back market confidence and keep its 16-nation euro currency union from unraveling. But the cost — both monetary and political — is rising and likely to swell further.

Prime Minister Brian Cowen's government faced an immediate threat to its survival as its Green Party coalition allies — stung by Ireland's weekend decision to seek a bailout that could approach euro100 billion ($136 billion) — threatened to withdraw unless he announces a January national election.

Analysts agreed that Cowen faces almost certain ouster from office within weeks, possibly by lawmakers within his own Fianna Fail party. If not, the Greens' demand means he will lose his majority anyway by the new year and parliament will be dissolved for a winter election.

Several Fianna Fail lawmakers said an evening rebellion against Cowen's leadership was under way during a behind-closed-doors meeting.

One lawmaker, Chris Andrews, said Cowen was a failed communicator who "no longer has the confidence of the people right across the country. We must put the country first."

"The people do not trust him and do not believe what he has to say. His credibility is in tatters now," said another, Noel O'Flynn.

Earlier, amid rising public disgust with Cowen's mishandling of a euro50 billion ($62 billion) bank bailout that Ireland can't afford, activists from the Irish nationalist Sinn Fein party stormed the entrance gate of Cowen's central Dublin office and scuffled with police.

Police used batons to club and shove back the protesters, leaving one officer with a bloody cheek.

Finance Minister Brian Lenihan said the bailout was necessary because Ireland's banks have become wholly dependent on loans from the European Central Bank and, just like the government, are likely to be frozen out of regular credit markets for at least a year.

He said Ireland's six banks, five of which are already nationalized or part-owned by the state, would be pruned, merged and possibly sold off.

"Because of the huge risks they (Irish banks) took earlier this decade, they became a huge risk not only to this state but to the eurozone as a whole," he said.

Irish banks invested aggressively in runaway property markets at home and abroad. After the 2008 credit crunch sent property prices into freefall, the government tried to save the banks from bankruptcy by insuring all of their borrowings against default. That unprecedented promise — made to retain investor confidence in Ireland — cannot be kept without a bailout, the government has finally been forced to concede.

The EU, ECB and IMF experts who are in Dublin this week poring over the government's and banks' red-stained books expect Ireland to pass an emergency budget on Dec. 7 that slashes euro6 billion ($8.2 billion) from its 2011 deficit. That is the first step of a four-year austerity plan to be published Wednesday.

The Greens' surprise demand for an early election has increased doubts that the 2011 budget and longer-term cuts can proceed on schedule.

Green leader John Gormley stressed that his party wanted to ensure smooth approval of the budget and the flow of EU-IMF money into Irish banks.

But he said the government then must agree to step aside for a fresh election in January to create a new government with a strong mandate. He said his party's six lawmakers — key to Cowen's tiny parliamentary majority — and the wider public "feel misled and betrayed."

Shocked aides at Cowen's office said the prime minister was not considering any election and planned to cling to power until 2012, an impossibility given the parliamentary forces lining up against him.

Cowen's four-year plan seeks euro10 billion ($14 billion) in cuts and euro5 billion in new taxes from 2011 to 2014 in hopes of trimming Ireland's deficit to 3 percent of GDP, the eurozone limit, versus its current astronomical level of 32 percent.

Ireland currently spends euro50 billion ($68 billion) annually and collects just euro31 billion ($42 billion) in taxes.

Europe's stock markets and the euro initially rose Monday in relief that a long-rumored bailout would finally happen — but both reversed course as the focus switched to wider problems across the eurozone.

The cost of borrowing for the most debt-burdened eurozone members — Portugal, Ireland, Italy, Greece and Spain — rose in the afternoon. Interest rates on Greek and Spanish 10-year bonds even rose above Friday's closing levels, suggesting continued doubts about their long-range ability to avoid defaults.

The stock of Ireland's two healthiest banks plummeted in expectation of increased state involvement and forced mergers and divestments. Ratings agency Moody's said it expects soon to slash the credit ratings of Ireland by two or more notches — to just above junk-bond status.

Ireland already has nationalized three banks, holds major stakes in Bank of Ireland and Allied Irish Banks, and will likely seize majority control of the latter next month. Only one bank, insurer and mortgage specialist Irish Life & Permanent, has avoided any bailouts so far.

Shares in Irish Life & Permanent fell 24 percent to euro0.87, Bank of Ireland 19 percent to euro0.39. Allied Irish — which has already dumped its two prized foreign assets, stakes in Poland's Bank Zachodni and New York's M&T Bank — fell 6 percent to euro0.41.

Unions warned that overhauling the banks would mean thousands of lost jobs in Ireland, where unemployment has already reached 13.6 percent, the second-highest rate in Europe after Spain.

Analysts cautioned that Ireland's financial rescue was likely to provide little, if any, relief for Portugal and Spain, the next two potential dominos of Europe's debt crisis.

"A bailout for Ireland does increase the chance that Portugal will tap the facility as well," said Marco Valli, chief eurozone economist at UniCredit in Milan. "It will be a matter of time."

Valli said he was more optimistic that Spain could avoid an EU-IMF intervention, citing the strong performance of Banco Santander and Spain's other major banks.

But Marc Ostwald, senior strategist at Monument Securities in London, compared the bond markets to "hearse chasers" who soon would "take Portugal and Spain to task."

Ostwald said investors have little confidence that eurozone governments have contained their debt difficulties "given that the leaders of the eurozone have once again failed to act pre-emptively, but rather only when the clock is set at 1 minute to midnight."

Portugal's finance minister, Fernando Teixeira dos Santos, insisted the Irish bailout would lower his own country's cost of borrowing back to sustainable levels. He said Portuguese banks were sound, and an emergency budget due to be passed Friday would lower the deficit from 9.3 percent this year to 4.6 percent in 2011.

Both Sweden and Britain have offered Ireland bilateral loans even though they aren't in the eurozone.

Sweden said it might lend up to 10 billion Swedish kronor (euro1.1 billion, $1.5 billion) at an exceptionally low interest rate below 3 percent. Unlike most EU nations, Sweden's finances are rock solid.

Britain's treasury chief, George Osborne, told lawmakers in London that the British could loan Ireland more than 7 billion pounds ($11 billion) because "Ireland is a friend in need, and it is in our national interest."

Britain is Ireland's No. 1 trading partner, and British banks have the highest foreign exposure to liabilities in Ireland's banking system.

Ireland's stunning descent has fanned doubts that Europe's systems for protecting its members from bank runs and bond-market attacks are tough enough.

The eurozone in May created a euro440 billion ($600 billion) fund called the European Financial Stability Facility, or EFSF, that will be a chief source for Irish support.

"Europe has taken a significant credibility blow by having to activate the EFSF. Its chief, Klaus Regling, stated on many occasions that the EFSF would never be activated and that the mere knowledge of there being a safety net in place would be enough to stabilize the eurozone debt markets," said Derek Halpenny, European head of global currency research at The Bank of Tokyo-Mitsubishi.

"So the EFSF has already failed based on what the original objective was," he added.

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