The Obama administration announced on Monday that it supports Ireland’s decision to “apply for a massive loan” from the European Union, according to a report by the Associated Press. Will Ireland have to fill out a loan application?
No. The European Union doesn’t have an official loan application form, because this situation doesn’t arise all that often. Besides, a standardized form wouldn’t be appropriate, even if the EU had one, because Ireland isn’t really “applying” for a loan the way a potential homeowner applies for a mortgage. Commercial banks use standardized loan applications because they can calculate a borrower’s creditworthiness by comparing his assets, income, and credit score with past borrowers’ and their repayment histories. Based on those numbers, banks decide whether to extend credit and at what interest rate. In Ireland’s case, everyone already knows it’s not creditworthy—or at least that it can’t afford the interest rates that private banks would demand. The country’s turning to the EU precisely because it looks like a terrible risk on paper. Plus, unlike commercial loan applications, there’s basically no chance Europe is going to turn Ireland down.
In addition, unlike a private borrower, all of Ireland’s finances are open for the public to see. The EU hardly needs an application to assess the country’s dire financial situation. The negotiation that’s happening right now in Europe has more to do with sophisticated economic projections than examining balance sheets.
If you’re looking for a private-sector analogue, the Irish situation is more akin to a Chapter 11 bankruptcy reorganization than a loan application. Just like an insolvent corporation, Ireland has to convince European finance commissioners that, despite past failings, it has a solid plan to get itself out of the red over the next several years. The scheme will likely include a raise in its bargain-basement corporate tax rate and a restructuring of its troubled banking sector.
The most important document in Ireland’s loan process will be the memorandum of understanding. It will be signed by a representative of the Irish government, possibly Finance Minister Brian Lenihan, as well as Olli Rehn, the European Commissioner for Economic and Financial Affairs. Copies will go to Ireland, the European Central Bank, the IMF, and the European Commission. The memorandum will lay out conditions that Ireland must satisfy to continue receiving disbursements under the loan. If it fails to follow through on its promises of reform, the lending governments can stop the flow of cash. A similar document (PDF) governs the EU’s financial assistance package to Greece, and it has been followed with periodic assessments by European finance personnel to confirm Greek compliance. Ireland will undergo the same process.
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Explainer thanks Amadeu Altafaj Tardio of the European Union.