Ireland: Back on the market Although the country is about to leave the EU and IMF bailout, concerns about its recovery persist Ready to reopen: Ireland's benchmark bonds have decoupled from Portugal's and are more competitive than Spain's and Italy's At the height of Ireland's building boom Dublin was known as the city of cranes. Their brightly coloured steel masts towered over building sites, testament to the dominance of a construction sector that by 2007 accounted for almost a quarter of the value of the domestic economy. Today the forest of cranes has disappeared from the skyline, victim of a financial crisis that forced the country into an international bailout. Employment in construction has slumped by almost two-thirds and the industry now accounts for only 6 per cent of gross national product. A better state of repair Budget balance and government bond yields But recently there have been signs of life. Construction output in the second quarter rose 1.7 per cent over the quarter and 11.7 per cent in the year, the highest rate of expansion since 2006. Employment in the sector grew by almost 6,500, which is feeding into a wider economic upturn in Ireland. Unemployment has fallen from 15.1 per cent last year to 13.3 per cent. Property prices are rising and consumer confidence is at a six-year high. Sisk, Ireland's biggest construction company, is one of the survivors in a battered sector. But Liam Nagle, its chief executive, strikes a cautious tone on the country's prospects. For us the decline has stopped and there is a little bit of an uptick. But I am not talking about green shoots yet. A lot will depend on the budget. Dublin launches its seventh austerity budget in six years on Tuesday and the stakes for the country and for the eurozone could not be higher. In December, Ireland is poised to become the first eurozone country to leave a bailout and investors are watching closely. Since Ireland's property bubble burst in 2007, catapulting its banks towards insolvency, the Irish have endured €28bn in tax rises and spending cuts under a bailout programme overseen by the EU and International Monetary Fund. Tomorrow, the coalition will impose a further €2.5bn in austerity measures. Dublin's ability to maintain social cohesion and return its economy to modest growth has been lauded by its international lenders as an example of how implementing austerity and structural reforms can return a crisis-stricken economy to health. A botched return to international bond markets by Ireland would inflame the bitter row between proponents of austerity and backers of stimulus policies. It would have damaging repercussions for a still fragile eurozone, which faces challenges as Portugal, Greece, Spain and Italy seek to steady their economies. However, a successful bailout exit could help stabilise the eurozone sovereign debt crisis. "Berlin and Brussels desperately need to show that the tough economic medicine they have been prescribing during the eurozone sovereign debt crisis works and Ireland is their best chance of a success story," says Hugo Brady, an analyst at the Centre for European Reform think-tank. The key question is whether Ireland can make a sustained return to international bond markets when the EU-IMF money runs out later this year. At the shiny, glass-fronted offices of the National Treasury Management Agency, Ireland's state debt agency, preparations for re-entering the bond markets began shortly after the country was shut out of them. Six months after Ireland was forced to accept the €67.5bn bailout from the EU-IMF in November 2010, John Corrigan, NTMA chief executive, restarted investor roadshows in Asia, the US and Europe. "We didn't do any deals on these early visits but it was important to maintain personal contacts with investors and explain how Ireland was dealing with its problems," says Mr Corrigan. By mid-2012 the NTMA began issuing three-month Treasury bills, short-term debt that enabled Dublin to re-engage with investors. In January this year the agency raised €2.5bn through a syndicated tap of an existing five-year security and a few months later it raised a further €5bn through the sale of a benchmark 10-year bond. US investors led the charge back into Irish bonds, betting that the country would deliver on its pledge to honour its debts and restore its economy to health. At one point Franklin Templeton, a California-based asset manager, controlled almost a 10th of Ireland's government bond market. More risk-averse continental European and Nordic funds have since invested and by March this year some 57 per cent of Irish medium and long- term securities were owned by non-resident investors. Berlin and Brussels must show their tough medicine works and Ireland is the best hope of a success story Over recent months Ireland's benchmark 10-year bonds have decoupled from fellow bailout struggler Portugal and are trading at more competitive levels than either Italy or Spain. Ahead of its bailout exit the NTMA has raised a €20bn funding cushion, which is enough to cover all debt redemption payments and government spending requirements in 2014. "Ireland has been a success story," says Chris Wightman, senior portfolio manager at Wells Fargo Asset Management. But the concern is that the yields moved very low, very fast. The fundamentals are still not great and the bond market is limited. Despite this, Ireland is trading at extremely tight spreads compared to some of their peers," he says. Standard & Poor's and Fitch, the credit rating agencies, have both upgraded Ireland to investment grade. But Moody's still maintains a "junk" status rating on Irish sovereign bonds. "This excludes a lot of Asian and Middle Eastern investors from buying Irish debt," says Mr Corrigan. We are disappointed with Moody's. They missed Ireland on the way down and now they are being a laggard on the way up," he says. Moody's cites Ireland's high debt, fragile banking system and its susceptibility to shocks elsewhere in the eurozone for its rating. "Positive growth is indispensable for the debt dynamics to turn in a favourable direction," it said last month when it upgraded its Irish outlook to stable from negative but retained its "junk" rating. Ireland's huge government debt, which is forecast to peak at about 123 per cent of gross domestic product this year, leaves the country vulnerable to external and internal shocks. The small, open nature of Ireland's economy, where exports are worth more than GDP, means the country relies on the performance of its main trading partners - the UK, continental Europe and the US - to expand its economy. Ireland slumped back into recession in the second half of last year, largely due to the poor performance of the eurozone economy and the UK. Dublin forecasts economic growth this year will be 0.2 per cent, significantly below the level needed to enable it to begin reducing its debt burden. But there are encouraging signs that Ireland's recovery is accelerating. Dublin is forecasting that GDP will expand by 1.8 per cent next year and foreign investors are flooding back into the property market for the first time since the crash in search of bargains. The Marker, Ireland's newest five- star hotel, opened this summer in the heart of Dublin's "Silicon Docks" neighbourhood, a base for US technology companies such as Google, Trip­Advisor and LinkedIn. Facebook and Yahoo are both looking for office space in the area, underlining the importance of foreign direct investment to the Irish recovery. "There is a sense that Ireland is a really good place to put capital and there is still a bit of recovery left to come," says Kevin McGillicuddy, a partner in Brehon Capital, a Dublin private equity firm specialising in real estate. Brehon Capital teamed up with Midwest Holdings, a US real estate investor, to buy the half-built Marker hotel out of examinership and complete construction. Earlier this year the same investors bought the Ritz Carlton hotel in Wicklow, which they have rebranded. Several other big US private equity investors, such as Kennedy Wilson, Lone Star and BlackRock, have bought into Ireland over the past year. Individuals including John Malone, the US media mogul, and Yelena Baturina, Russia's richest woman, have also bought hotels. Ireland's ability to meet its bailout targets, maintain political stability, return to bond markets and negotiate extensions of maturities on its debt with the EU authorities - which will ease funding requirements in the near term - have impressed investors. "The current market view is that Ireland can make it," says Philip Lane, professor of economics at Trinity College Dublin. But the vulnerability to contagion is the big issue for Ireland with Greece and Portugal still facing difficulties. Irish bond yields have also indirectly benefited from quantitative easing by major central banks and so are vulnerable to any tapering of these programmes. In the summer, expectations that central banks in the US, Japan and elsewhere would tighten monetary policy caused yields on Ireland's benchmark 10-year bonds to move above 4 per cent from a low of 3.5 per cent. Yields have fallen back since then but are likely to move higher again when the US Federal Reserve raises rates. Ireland's banks, which have already gobbled up €64bn in taxpayer funds since the crisis began, also remain a source of concern. One in five home loans is in arrears of more than 90 days and half of banks" loans to small and medium-sized businesses are non-performing. "The banks are a weakness because they may need extra capital following stress tests next year and it remains unclear where that money would come from," says Megan Greene, an economist at Maverick Intelligence. So far the EU is suggesting member states remain on the hook in the first instance, rather than its bailout fund, which would be tough for Ireland. The IMF wants Dublin to seek a precautionary line of credit - a form of backstop - from its international lenders when it leaves the programme as a contingency plan against unforeseen events. This may make Dublin eligible for the European Central Bank's bond-buying programme, which has been instrumental in calming the eurozone crisis, even though it has never been deployed. The fund is also pressing European authorities to allow the European Stability Mechanism, Europe's new bailout fund, to provide a backstop in case Ireland's banks fail next year's stress tests. It has also urged the EU to intervene to lower bank funding costs in Ireland, which are causing a squeeze on credit that is slowing recovery. But two months before Ireland's bailout exit, it remains unclear whether Dublin will apply for a backstop or whether EU authorities are willing to grant one. "A backstop would provide investors with additional confidence," says Ms Greene. But the big question is whether Ireland can maintain 2-3 per cent growth for several years once it exits the bailout to enable it to tackle its sky high debt. Investors tend to think in short-term time horizons and are willing to bet Dublin can. But I think debt restructuring is likely a few years down the line. Budget: A package that will defy the EU and IMF When Michael Noonan, Ireland's finance minister, delivers the country's seventh austerity budget in six years tomorrow, he will be defying the wishes of the EU and International Monetary Fund for the first time since Dublin was forced into a bailout. Senior EU and IMF officials have urged Dublin to implement the full €3.1bn tax rises and spending cuts promised in its programme. Ireland's Central Bank and its new Fiscal Advisory Council, a watchdog set up in the wake of the financial crash, have also told Dublin to stick with its programme to show it still has the "political capacity to make the necessary adjustments." But under pressure from coalition partners the Labour party, Mr Noonan will announce Dublin will ease back on austerity next year by implementing only €2.5bn in tax rises and spending cuts. He says it will be enough for Dublin to meet its 2014 budget deficit target of 5.1 per cent of gross domestic product. But the decision highlights the difficult path ahead for the Fine Gael/Labour coalition in implementing reforms after its bailout. "It is a little unsettling to see austerity fatigue setting in when there is at least one or two difficult budgets ahead for the coalition and several difficult political and economic decisions to be made," says Conall MacCoille, chief economist at Davy Stockbrokers. But when the quarterly EU-IMF review missions end next month, difficult issues remain for a coalition that has used up a lot of political capital. The mortgage crisis probably cannot be solved without home repossessions, a politically toxic issue, and public sector pensions need reform. "There haven't been many structural reforms during the bailout and even the changes that have been made - a new fiscal council and a strengthened central bank - have been ignored in the budget debate," says Karl Whelan, economics professor at University College Dublin. I don't see any radical change in policy marking. One of the criticisms of the coalition is that its record on political reform - an area where it has had freedom to propose radical changes - is poor. This country has pretty much ruined itself three times since independence. In the 1950s with a trade war with Britain, again in the 1980s, and most recently with the property bubble," says Mr Whelan. That says something about our politicians and civil servants and their ability to exercise economic policy. For those in government this criticism is unfair given the scale of the difficulties the coalition has faced. "Ireland's fortunes have changed dramatically since this government was formed," says Eamon Gilmore, Ireland's deputy prime minister. When we first went to Brussels we were one of the Piigs [Portugal, Italy, Ireland, Greece and Spain] and you couldn't but experience the cold shoulders that went with that. We have restored our international credibility. Additional reporting by Robin Wigglesworth