Last Thursday, Irish Prime Minister Enda Kenny confirmed that the country will be exiting its three-year €78 billion EU/IMF bailout programme next month, without requesting any transition help – having sought international funding in November 2010.

The bailout followed the collapse of the housing market and a meltdown of the banking sector in the country.

In its bid to keep the whole economy from imploding, the government propped up the heavily indebted banks.

The resulting debt Ireland took onto its books left the government with no other alternative than to request a bailout.

The Irish debt to GDP ratio now stands at a mammoth 125 per cent. At the height of the crisis, Ireland’s 10-year benchmark bond yields exceeded 14 per cent in July 2011, before an EU emergency summit later that month somewhat helped pare bank bond prices. Currently, the Ireland benchmark yields 3.52 per cent, and the government seems confident that with reasonable growth and further fiscal progress, the debt can be sustained.

Furthermore, by pulling out from the bailout programme, Ireland would not be able to avail itself of the OMT, an ECB-funded plan which allows the ECB to purchase sovereign bonds issued by eurozone members.

The ECB so far never had to intervene; its promise was enough to keep yields of countries like Italy, Spain, Portugal and Ireland below 7 per cent (above which yield, servicing debt is generally considered to be unsustainable).

A major factor behind Ireland’s turnaround is its flexible labour force. In stark contrast with French labour laws, it is relatively easy to hire and fire staff in Ireland. This led to both falling unit and overall labour costs.

A major factor behind Ireland’s turnaround is its flexible labour force

That said the country still has numerous challenges ahead; its fiscal deficit is projected to be 6.7 per cent of GDP in 2013 (Maastricht criteria: 3 per cent), and only Greece, Portugal and Italy have a debt to GDP ratio which is worse than Ireland’s current 118 per cent.

On the same day, Spain also decided that it would not require further funding from the bailout programme as of January 2014.

The sovereign had borrowed €41 billion last year to rescue a banking system crippled by the collapse of the construction bubble. According to eurozone finance ministers, the country met the conditions of its aid programme while its banking sector has “significantly improved”.

Spain’s decision was expected; Madrid has not requested funding this year hence the announcement merely confirmed the fact.

Spanish bonds touched a high of 7.75 per cent in July 2012 amid fears Spanish premier Mariano Rajoy was putting off requesting the bailout prepared for the nation from the EU/IMF. Spanish 10-year bonds currently yield just north of 4 per cent.

The exit of both Ireland and Spain increases the chances – but adds pressure on Portugal to call an end to its €78 billion bailout programme in June 2014. Various sources within the Portuguese government were quoted earlier this year as saying they were confident Portugal remains on track to exit its program when the current plan expires. However, many economists still expect that the country will continue to need some form of aid.

The Portuguese 10-year sovereign yield hit a high of 15.2 per cent in January 2012 amid concerns that the country required an additional bailout or perhaps a haircut on the value of its debt.

Furthermore, at the time Greece had not yet reached a deal on a voluntary debt exchange with its private sector creditors – with the risk that Portugal followed suit. Ultimately, the ECB did manage to calm markets down by buying Portuguese debt (outside of OMT). At the time of writing, Portuguese bonds maturing in 2023 yield 5.95 per cent.

Austerity seems to have worked for both Ireland and Spain. Countries that have been slow to implement structural reforms are still facing problems.

Italy’s competitiveness has been stunted by rising wages; France resisted calls to reduce the size of the government sector and growth there contracted by 0.1 per cent on an annualised basis.

France’s reluctance to instigate structural reforms was one of the main reasons behind S&P’s sovereign downgrade to AA earlier this month.

This article is the objective and independent opinion of the author. The information contained in the article is based on public information.

Curmi and Partners Ltd is a member of the Malta Stock Exchange, and is licensed by the MFSA to conduct investment services business.

Vincent Micallef is an executive director at Curmi and Partners Ltd.

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