Investors will favour a more discerning approach, in which the Irish bond market will continue to rerate, writes DONAL O'MAHONY

THE BOND market vigilantes huffed, and they puffed, until they nearly blew the little Piigs house down. Yesterday’s formal request for EU/IMF loan aid by beleaguered Greek prime minister George Papandreou follows the climactic sell-off in Greek debt markets on Thursday, during which two-year bond yields scaled the unfathomable heights of 11 per cent.

With such riotous price action triggering contagion effects across the euro zone bond markets (Ireland included), the request for aid will have been greeted with no small relief across the single currency zone.

The past few months have not proved the finest for the euro zone. Years of real economy divergences and twin deficits across the region had finally reached their tipping point, with a profligate Greece suddenly staring down the barrel of a liquidity crisis.

The EU tendered ostensible support for its errant member, offering to back-stop funding support in exchange for a ceding of Greek fiscal sovereignty. In this way, Greece’s refinancing crisis could be resolved in the manner of a bargain rather than a bailout, a template helping to eradicate some of the structural shortcomings of a patently suboptimal currency zone.

In the event, Greece delivered on its side of the bargain, but the EU leaders chose to prevaricate, thereby unleashing the bond market vigilantes in a “show me the money” battering of Greek debt that threatened contagion damage for all other vulnerable sovereigns. The EU’s hands were ultimately forced, first with the announcement of a €45 billion joint-aid package with the IMF two weeks ago and now with the hastened endorsement of that aid through the various national assemblies in the coming weeks.

Although the financial markets greeted yesterday’s news in typically schizophrenic fashion, it is clear that this belated triggering of the EU/IMF aid mechanism will bestow some calm on Greece, the broader euro zone bond markets, and the euro itself.

With Greek refinancing risks effectively neutralised for the foreseeable future, the Hellenic Republic will now be free to concentrate on implementing its austerity programme.

Meanwhile, bond investors will eschew their recent indiscriminate selling of peripheral euro zone markets in favour of a more discerning approach, one in which the Irish government bond market will continue to rerate.

Domestic commentary got into something of a flap this week following Eurostat’s reclassification of the Government’s €4 billion Anglo Irish Bank injection last year as a capital transfer rather than a financial transaction. Contrary to some reports, Ireland’s fiscal consolidation programme does not now “lie in tatters”, nor have we suddenly become the euro zone’s “most indebted nation”.

To be sure, Ireland has now recorded the largest euro zone budget deficit for 2009 (at a revised 14.3 per cent of GDP). However, its stock of public indebtedness remains unaltered at 65 per cent end-2009, substantially below the euro zone average (at 79 per cent) and even lower than that of our German and French confreres at 73 and 78 per cent respectively.

There are no cashflow consequences for Ireland’s budget deficit and funding requirements in 2010 and, while future promissory note injections of about €11 billion into Anglo and Irish Nationwide will augment the Government’s borrowing needs from 2011 onwards, the staggered disbursement of these monies over a 10-15-year period will mitigate the impact on annual issuance activity.

Ireland’s medium-term fiscal consolidation programme remains a work in progress, but our efforts to date have garnered hard-earned credibility with those infamous vigilantes – to the demonstrable benefit of our recent relative performance in a very difficult period for euro zone sovereign debt issuance. Enforced fiscal consolidation will dominate changes to supranational economic governance in the years ahead. In this respect, Ireland enjoys a head start.

Donal O’Mahony is global strategist at Davy Capital Markets