In Ireland's Deal, Euro-Politics Plays as Big a Role as Finance

Ireland bailout
Ireland bailout

Ireland's shaky finances may find more solid footing as the country formally seeks a bailout from the European Union. And markets are likely to react positively to the development.

But investors should stay focused on the dynamics within European politics that shaped the rescue deal. Plenty of other overly indebted economies -- like Spain, Portugal and Italy -- could find themselves in a similar situation, after all. And similar considerations will again guide market moves.

For example, a brief showdown over Ireland's ultra-low corporate tax rate of 12.5% turned into a contentious issue. Other EU countries have long resented the advantage that Dublin's tax policy gives it in attracting capital and letting it thwart broader EU directives. Ireland had feared that an aid package would be used as leverage to force it to raise corporate tax rates. The country remained skittish about asking for aid even as its banking sector faced mounting pressure.

France vs. Germany

But French President Nicholas Sarkozy paved the way for a bailout over the weekend. Facing up to its deficits, Ireland may consider raising corporate taxes. "But that's not a demand or a condition, just an opinion," Sarkozy said. That stands in stark contrast to a hard line taken by EU Economic and Monetary Affairs Commissioner Ollie Rehn, who had previously declared that "Ireland will not continue as a low- tax country."

France, of course, rivals Germany as a core Continental economic power. And France has frequently sided with struggling European economies against more stringent measures proposed by Germany. That has allowed France to gain influence within the EU, and its tendency to play white knight may only increase as the juggernaut German economy continues to gain momentum.

German politicians, on the other hand, are trying to score points with domestic voters who are increasingly displeased by what they see as their picking up the slack for Germany's profligate neighbors. Domestic considerations played a major role in Germany's summer showdown with Greece, says Marko Papic, Eurasia Analyst at global intelligence firm Stratfor.

Adding to the Turmoil?

Over the summer, Chancellor Angela Merkel's Christian Democratic Union party suffered major losses because of voter resentment about the Greek bailouts, among other issues. Germany is again gearing up for a series of major elections in the spring of 2011, Papic notes. That means domestic political considerations may once again form the backdrop of European bailout negotiations.

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Merkel's comments at the end of October pushing for binding crisis-management rules that include debt restructuring set the stage for rattled markets. Her remarks drew massive fire from other EU heads who felt that her demands for formal changes at a sensitive juncture only added to the turmoil on the Continent.

As German elections approach at the start of next year, the political landscape will heat up. Politicians will face growing incentives to dial up the rhetoric and point fingers at debt-burdened neighbors. Much like they needed to do with Greece and now Ireland, investors will need to keep an eye on political posturing as well as the financial situation.