Bailing out Ireland : What implications for Britain?

May 16, 2011, 1:07 AM UTC

The Irish Government may still want to deny it but all the signs are that it will soon be forced to bend the knee and accept a massive loan from the European Union and the International Monetary Fund. The country will take its place behind Greece as the second eurozone member to need bailing out. It may not be the last. What does it mean for the future of Europe’s currency? And what are the implications for Britain?

The cause of Ireland’s woes is not hard to find. It is suffering a massive bust after a massive boom. From the 1990s onwards, the country, once a byword for economic stagnation, turned itself into the fast-sprinting ‘Celtic Tiger’ by exploiting three opportunities that became available to it. Membership of the European Union opened up new markets. Joining the euro brought low interest rates. And very low competitive rates of business tax allowed it to present itself as a low-cost, business-friendly, English-speaking economy at the heart of the European market. Foreign investment and high-tech industry flooded in.

But, as so often, abnormally high rates of economic growth evolved into an unsustainable boom. In particular, interest rates, set by the European Central Bank and over which Ireland had no control, were too low to contain a boom in property prices. And Irish banks, like banks everywhere before the great crisis of 2007, lent money as though risk was no longer something anyone need worry about. After the worldwide banking crash it soon became apparent that Irish banks were in huge trouble. To prevent a run on them, the Irish Government pledged to guarantee them.

That’s the cause of the immediate crisis. Like other governments facing the recession that followed the banking crisis, the Irish Government acknowledged that its own finances were in deep trouble and took exceptionally tough measures to cut its spending and raise taxes. The Irish people were told they had to bear severe austerity and a prolonged recession but that once the Government’s deficit was under control economic growth would resume. But the spectre of the Government having to make good its guarantees to the banks still hung over this already pretty gloomy scene.

It’s the realisation, not least by the financial markets, that the Irish banks may well need a lot more financial help that has triggered the current crisis. The cost to the Irish Government itself of borrowing money has soared as investors have come to see Ireland as an increasingly risky investment. The only solution is for the European Union and the IMF to step in and provide funds on more generous terms but also with conditions that they themselves impose.

It is not hard to see why the Irish Government is so reluctant to admit that it may need such a bailout. At one level it protests that it is unnecessary since the Government already has funds enough to sustain it well into next year. It’s only feverish market speculation about Irish banks that is causing the wider alarm about Ireland’s solvency, they say. But once markets get alarmed they tend to stay alarmed.

At a more fundamental level the Irish Government is reluctant to concede what would look like a surrender of sovereignty. Anticipating having to accept a massive loan, a leader in the Irish Times expressed the point. 'There is the shame of it all. Having obtained our political independence from Britain to be masters of our own affairs, we have now surrendered our sovereignty to the European commission, the European Central Bank and the IMF.'

And there is a practical reason why the government is wary of the proffered loan. It is widely expected that in return for it Ireland will be forced to raise its rock bottom rate of corporation tax from 12.5% which has been described by a French official as 'almost predatory' in the way it undercuts other EU countries.

Despite all this, a bailout looks certain. And Britain has said it will contribute to the loan. George Osborne, the chancellor, said we should do so as a 'good neighbour'. But there are other reasons too. Although the mechanism for helping EU countries in difficulties, worked out after the Greek crisis, mostly involves eurozone members, other EU members (like Britain) committed themselves to a small part of future aid packages. Britain too has an interest in making sure that Ireland, a major export market, stays afloat.

But the problem for Europe and for Britain is that the need to bailout European countries in difficulties is unlikely to end with Ireland. The markets are already looking askance at Portugal and Spain, and Italy’s finances have been a worry for years.

All three countries, like Greece and Ireland, are members of the eurozone and, as such, face real problems in sorting out their difficulties. Unlike Britain, outside the euro, they cannot set their own interest rates or devalue their currencies. The 25% fall in the value of the pound over the last couple of years has certainly helped Britain to weather the storm.

Unsurprisingly, eurosceptics in Britain are claiming they were right all along in wanting to keep Britain out of the euro and there are few europhiles around who would want at the moment to endorse Tony Blair’s claim some years ago that joining was Britain’s ‘destiny’.

But while Britain may count its luck for not being in the thick of the eurozone’s travails, being on the sidelines may turn out not be painless. For whichever way the eurozone sorts out its problems there will be implications for Britain.

The eurozone could simply try to stumble on without really addressing its fundamental problems. But then crises such as the current one involving Ireland would keep breaking out and sooner or later one of them would be so big that stumbling along would no longer be a viable option.

Some commentators think the eurozone will in the end break up. But though many people in Britain would no doubt then be tempted to say 'told you so', the consequences for Britain would be pretty dire. No country wants the market in which it sells 50% of its exports to descend into chaos, and a break-up of the euro would certainly create chaos, at least for a while.

The only other option is for the eurozone to address the fundamental flaw in its design, which is that there is no central economic and budgetary union to match monetary union. That has been resisted throughout Europe on political grounds as smacking too much of political union. But it may be unavoidable if the euro is to survive.

If that were to happen, Britain would face an old choice. Joining a federal European union is likely to remain a step far too far for British public opinion. But if members of the eurozone do go down that route to save their currency, we could find ourselves before long in a world in which, as Michael Portillo has put it, the eurozone is far more important than the EU. Then all the old political questions about whether Britain is better off inside or out could be back on the agenda.

What’s your view?

  • Do you think Ireland should be bailed out?
  • Should Britain contribute to the loan?
  • Should Ireland be forced to raise its rate of corporation tax?
  • Do you think Ireland’s worries about loss of sovereignty are legitimate or not?
  • How do you think the EU and Britain itself should respond to financial crises if they arise in other eurozone countries, like Portugal and Spain?
  • What do you think should happen to the eurozone?
  • And do you think that in the long term Britain will do better to stay outside the eurozone or not?