Market Analysis

Éirinn go Brách!

What to make of the pending Irish referendum on the EU’s new fiscal compact?

“No. If we’re dealing with a treaty with 200 articles, 250 articles, I can’t see how you’d formulate a clear question.”

So said Nicolas Sarkozy when asked whether he’d hold a national referendum on the EU’s new budget pact. C’est impossible!

Well, tell that to Irish Taoiseach Enda Kenny, who announced Tuesday that Ireland will, in fact, put the agreement to a public vote. The question isn’t drafted yet, but considering Irish officials found a way to consolidate all 358 articles of the Lisbon Treaty in a single question, I doubt they’ll have much trouble.

Kenny’s announcement isn’t surprising. In the landmark 1987 Irish Supreme Court case Crotty v. An Taoiseach, justices ruled any treaty or international agreement ceding any Irish sovereignty requires an amendment of Article 29 of Ireland’s constitution, necessitating a referendum. As the decision stated:

If it is now desired to qualify, curtail or inhibit the existing sovereign power to formulate and to pursue such foreign policies as from time to time to the Government may seem proper, it is not within the power of the Government itself to do so ... To acquire the power to do so would, in my opinion, require a recourse to the people "whose right it is" in the words of Article 6 " ... in final appeal, to decide all questions of national policy, according to the requirements of the common good."

Curtailing sovereign power is exactly what the agreement does. Brussels’ budget veto and European Court of Justice’s ability to fine high-deficit nations ensures that—no matter how hard officials tried to, as Germany’s Minister for European Affairs put it, “design everything ... in a way which would be okay in the eyes of the Attorney General and the Irish Constitution so that no referendum is needed.”

Continental leaders aren’t “chuffed” with Irish referenda—remember, Irish voters initially rejected the Nice and Lisbon treaties. European officials want zero ratification roadblocks, lest the agreement’s credibility be called further into question. With recent polls showing 40% for the agreement, 36% against and 24% undecided, a “no” vote is a real possibility. This wouldn’t kill the pact: Since UK Prime Minister David Cameron vetoed a full treaty, the agreement doesn’t need unanimous ratification. (Note to EU officials: Thank-you cards and letters of apology may be sent to 10 Downing Street, London SW1A 2AA, United Kingdom.) Instead, it enters force once 12 eurozone member states ratify it. If a state doesn’t ratify it, the others still move forward. An Irish “no” doesn’t kill it.

But it could make things sticky. The pact stipulates only participating nations can receive ESM funds. Recall, the ESM was originally designed to ease bailed-out nations’ returns to open-market debt funding. Once Ireland’s EFSF bailout completes, if it had trouble issuing bonds at reasonable yields, it could have tapped the ESM instead to keep borrowing costs manageable. Now, if voters reject the agreement, it seems Ireland is forced to the open market, come what may. This is the “vote yes” campaign lynchpin.

Here’s the dilemma officials want to avoid: If the Irish vote no but Ireland has trouble auctioning debt, will EU officials be asked to relax their terms and unlock the ESM? It would be a huge U-turn for Sarkozy and Angela Merkel—if they survive upcoming re-election campaigns—and they’d likely rather not appear so politically weak. But standing idly by as a euro member flounders seems equally unpalatable. Would they really allow Ireland to face a potential default—and expose the euro to all the associated risks—purely for political reasons? Given their repeatedly demonstrated will to do whatever it takes to save the euro, I’d think not.

Even if the EMS posturing is a bluff though, a “no” vote needn’t doom Ireland to insolvency. Maybe Bono and Bob Geldof launch a new Drop the Debt campaign. More likely, maybe Ireland doesn’t even need help once the EFSF loans stop. It’s met all key austerity benchmarks thus far. It launched a fresh round of privatization last month. Ireland’s economics statistics office estimates GDP grew 0.9% in 2011—not gangbusters, but much better than the periphery. As of January 31, tax receipts were up 17% year over year and the deficit down 18.4% (see the full report here). Though Ireland isn’t presently issuing debt, yields on existing debt have fallen substantially on the secondary market since last summer, suggesting investors see it as less and less risky. It’s entirely possible progress continues and Ireland can auction debt at reasonable yields in 2013. Not German-type yields—but just low enough to keep debt service costs manageable.

Anything’s possible from here—including a “yes” vote. That’s the beauty of Irish democracy: The Irish alone get to critically assess whether the fiscal pact is best for their country and vote accordingly. Maybe they decide it is! The idea of greater fiscal accord between currency-sharing nations is certainly sensible enough. Though, given the add-ons like the financial transactions tax and regulatory increases, and whispers of corporate tax harmonization, whose “greater good” is at stake here? Ireland’s . . . or those who fear competing with Ireland’s very competitive corporate tax rate? But the Irish have always vouchsafed their economic freedom and competitiveness, and I’m sure they’ll analyze this from all angles.

In short, it’s premature to guess at the ultimate outcome—for now, this is just a fascinating story to watch. But here’s what likely doesn’t change in the near term: Ireland should still get the rest of its €67 billion bailout—even if the referendum doesn’t pass, the 2010 agreement likely gets grandfathered in once the ESM replaces the EFSF in July. Ireland’s funding needs should be met for the next year, and its banks well capitalized—giving the government and private sector ample time to derive the right solutions.

So don’t fear the referendum—just hoist a pint of Guinness to Irish democracy, root for the Celtic Tiger’s economic recovery and enjoy the political theater.

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*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.