Greek rescue frays as Irish crisis drags on

The eurozone bail-out for Greece has begun to unravel after Austria suspended aid contributions over failure to comply with the rescue terms, and Germany warned Athens that its patience was running out.

Thousands of Communist Party supporters wave flags during the protest rally in central Athens on November 15 against the IMF-EU troika visit in Athens and the expected new austrity package. Photo: AFP

The clash caught markets off-guard and heightened fears that Europe's debt crisis may be escalating, with deep confusion over the Irish crisis as Dublin continues to resist EU pressure to request its own rescue.

Olli Rehn, the EU economics commissioner, said escalating rhetoric in Europe was turning dangerous. "I want to call on every responsible European to resist the centrifugal tendencies and existential alarmism."

Swirling rumours hit eurozone bond markets, while bourses tumbled across the world. The FTSE 100 fell 2.4pc to 5681.9, and the Dow dropped over 200 points in early trading. The euro slid two cents to $1.3460 against the dollar as the US currency regained its safe-haven status.

Austria's finance minister Josef Proll said he was "very critical" of Greece's performance, saying Athens had failed to meet the tax revenue targets agreed under the EU Memorandum.

Credit default swaps on Greek debt rocketed 97 basis points to 950 as investors woke up to the awful possibility that the EU could turn its back on Athens, which will run out of money by mid-January without loans. A Greek default would trigger $300bn (£188bn) worth of CDS contracts.

A 'Troika' of EU-IMF inspectors is currently in Greece but has not indicated whether the next €6.5bn (£5.5bn) tranche will be approved. German influence is crucial, yet Greek premier George Papandreou courted fate on Monday when he accused Chancellor Angela Merkel of driving the weaker EMU states into bankruptcy by scaring investors with talk of "haircuts".

Finance minister Wolfgang Schauble expressed deep irritation. "Greece has enjoyed a lot of solidarity from Europe and Germany. But solidarity is not a one-way street: nobody should ever forget that," he said.

In Dublin, premier Brian Cowen said Ireland has "not made any application for external support" and is fully-funded until June. The assurance did little to silence reports that Ireland is in talks with the EU authorities and the International Monetary Fund for a loan package of €80bn to €100bn.

Finance minister Brian Lenihan declined to comment before meeting eurozone counterparts last night. Dublin is hoping a formula that would dress up any aid package as a move to recapitalise banks and stabilise EMU bond markets, rather than a rescue for Ireland.

The political chemistry is volatile because Ireland is being pushed into a pre-emptive bail-out to ensure that contagion does not reach Portugal and Spain. Citigroup said it was "far from clear" whether an Irish bail-out would in fact lift the pressure off others since they share the same problem of excess debt. Markets may simply shift their focus onto the next country.

Ian Stannard from BNP Paribas said the EU's €440bn rescue fund was never designed to be used. "The sheer existence of the fund was supposed to be enough, but that has not happened. It is only a matter of time before the Spanish economy slips back into recession, and that is when the spotlight will turn to Spain," he said.

A Spanish auction of 12-month debt on Tuesday saw rates of 2.36pc, compared to 1.84pc in October, even though markets think an Irish bail-out is a 'done deal'. Analysts say that Portugal and Spain should be careful what they wish for.