Relief in Brussels with crisis becalmed

Is the existential crisis of the euro over and how is Ireland viewed from the continent? Time spent in Brussels this week was illuminating in considering both questions.

On Wednesday at the European Commission’s flagship outreach event – the annual Brussels Economic Forum – there was a palpable sense of relief among eurocrats, central bankers, policy types and others. Many noted how, as the last forum was held, the euro project appeared close to disintegration.

Since then, financial market panic has abated. While that has caused complacency to set in among Europe's political class, non-politicians are in near universal agreement that the current period of calm is not being taken full advantage of to address the crisis. Poland's central banker in chief, Marek Belka, was topical. He said with bluntness uncharacteristic for one in his profession that there was little enthusiasm in the bloc for a banking union.

Accentuating the positive
If the eurozone's banking union plan is, at best, half baked, the ongoing disunion of the euro area banking system is devastating for the real economy. The fragmentation of the financial system has resulted in a credit crunch in the periphery. Not only are loans much harder to obtain, but interest rates charged to small and medium-sized companies in Ireland and the Mediterranean have shot up. One noted Keynsian said privately that the credit crunch was more to blame for recession in the Mediterranean than austerity.

Although helping companies get access to credit is urgent, signs that it will happen are not auspicious. The commission will make some proposals at next week’s leaders’ summit. But even if such efforts prove successful, the money involved is insignificant in the broader scheme of things. Real action would require aggressively unorthodox ECB intervention, but that is a long way off for the usual reason that no agreement exists among national representatives.

On perceptions of the Irish economy’s progress, it was instructive that the question this columnist was asked most frequently was whether Ireland is really making as much headway as is being claimed (for what it’s worth, my answer was that although progress has been made, the official narrative overstates it while understating the risks of reversal).

But if governments’ spinning domestically always needs countering, it is a diplomatic imperative to talk up achievements on the international stage. To see why there are only upsides to accentuating the positive abroad, consider the good and the bad outcomes facing this State and its economy over the medium term.

If all does go to plan, Ireland will exit its bailout at year’s end and the kudos will keep coming. Much of the earlier reputational damage will have been repaired and stocks of goodwill replenished.

It is hard to overstate the importance of this. For small countries, reputation and goodwill determine the capacity to influence. That is particularly the case for a small country in a vulnerable position.

Ireland will be in a very vulnerable position if an extension of the current bailout becomes necessary or if a second rescue is needed further down the line. Goodwill will be vital in determining the terms of any new bailout.

Economic growth and bank losses are the two most important factors in determining whether further help will be needed. There is little anyone can do to guarantee growth. Bank losses are another matter.

The objective of breaking the link between banks and sovereigns was made explicit by EU leaders on June 29th last. But row-back began almost immediately. It was in evidence yet again at yesterday’s eurozone finance ministers meeting.

The Government has kept plugging away to keep the issue alive – Enda Kenny’s address to the Brussels forum on Wednesday was suitably unsubtle in its repeated references to the EU leaders’ statement of 51 weeks ago.

Worst is yet to come
The best that can be hoped for now is that options are not closed down by those countries who favour a minimalist role in bank rescues for the European Stability Mechanism. Whatever about retrospective recapitalisation, keeping alive the possibility of the ESM directly recapitalising Irish banks if they take further losses (as is likely) is imperative.

A word is also warranted on the holding of the EU presidency. While Ireland's diplomatic service may not be cram-full of strategic thinkers, running a presidency plays to its strengths – delivering efficiently and without unnecessary drama. Daniel Keohane of the think tank Fride noted the successful term has contributed to the putting of more blue water between Ireland and the other troubled peripherals in the Mediterranean.

That is vital, not least because if the euro and/or eurozone fragment, Ireland will want to have the option of remaining in a northern rump union.

And break-up remains a real possibility. As the always clear-thinking French economist Charles Wyplosz put it plainly on Wednesday "the worst is yet to come".