Irish debt cost premium fuels bid for bailout talks
European stability fund borrows money at 2.89pc on bond markets but will charge Ireland 6pc
Published 26/01/2011 | 05:00
THE EU bailout fund, European Financial Stability Facility (EFSF), will charge Ireland about 6pc for money the EFSF borrowed last night at 2.89pc in the bond markets. The huge difference in the borrowing costs fuelled calls for a renegotiation of the terms of the bailout deal.
The EFSF sold €5bn of bonds at a yield, or borrowing cost, of 2.89pc. It was the first bond deal by the facility set up last year to help finance bailouts for eurozone members locked out of the financial markets.
Ireland is the only country that has agreed to borrow from the EFSF, but it will not receive all of the money the facility raises in its bond sales.
The current bailout structure means only €3.3bn of the €5bn raised from last night's EFSF bond sale will be loaned to Ireland. The money will be passed over to Ireland on February 1.
As the bonds were being placed, Professor Karl Whelan told the Joint Oireachtas Committee on European Affairs that the terms of the package should be renegotiated.
"The danger of the high interest rate is that it makes it harder for the (borrower) country to turn the corner and get back to borrowing in the market," he said.
The UCD economist said Ireland would end up paying out 7.5pc of gross domestic product (GDP) in annual interest payment by 2015 if the rate remained at 6pc and IMF estimates of a debt to GDP ration of 125pc prove correct.
"Whether that is sustainable is hard to say, but around the world defaults happen when interest payments are that size," he said.
Prof Whelan said Ireland should try to get the price element of the package on to the agenda for discussion.
"The EU package should be judged against the goal of political solidarity," he said.
Under a complicated structure, about 20pc of the money raised by the EFSF will be held as a cash reserve or invested into safe securities by the facility. Another 10pc of the bailout money will be charged in interest upfront.
The EFSF was set up by the 17 euro currency countries and its bonds are guaranteed by the member states. Holding back the 20pc cash buffer means the EFSF is able to assure its own investors that the bonds it issues are 'AAA' rated, even though not all of the countries that guarantee them have the top rating. An 'AAA' rating makes it much cheaper to borrow money.
As well as paying interest on the €3.3bn Ireland borrows, we will also have to make up any difference between the EFSF cost of borrowing and the income it generates by investing the 20pc cash buffer.
The yield on the EFSF bonds was lower than analysts expected. It came down on the back of what was described as an "exceptionally strong, record breaking order book".
More than 500 investors wanted to buy the bonds and if all of the orders were filled the EFSF could have sold €44.5bn of the bonds. Demand for the bonds came from around the world, including Asia, with Japan's government taking 20pc of the total.
Meanwhile, in New York last night, policy makers, bond investors and academics heard that threatening to default was Ireland's best strategy for squeezing concessions out of a reluctant Germany.
Economist David Blanchflower told delegates at a European Debt Briefing Conference that countries such as Ireland were suffering while Germans benefitted hugely from a lower exchange rate because of the euro but refused to help.