Political attention will return to more pressing matters than a new treaty, writes ARTHUR BEESLEY, European Correspondent

EUROPE WAS confronted with a double-dose of bad news last night as Standard & Poor’s downgraded several euro zone countries and talks were suspended on a private sector contribution to the second Greek bailout.

Each development makes a bad situation worse, and calls in question fundamental strands of the political response to the debt debacle. With the crisis now into its third year, the turmoil continues to worsen.

Political activity has centred for weeks on the complex negotiation of a new international treaty to enforce EU budget rules but attention may now have to turn to more pressing matters. Few in Europe believe the new treaty, a German-inspired creature, contains a magic formula to restore calm in the short term. Far from it.

France confirmed that it would lose its AAA rating last night ahead of the S&P announcement, whilst it was clear before the closure of US markets for the weekend that Slovakia, Italy and Austria were all in the firing line.

The downgrade to AA only weeks before a presidential election in France is a grave political humiliation for Nicolas Sarkozy. More than that, however, is the impact it has on the wider battle against the expanding debt crisis. The fresh outbreak of market jitters yesterday proves as much.

In short, a smaller pool of triple-A countries in the euro zone makes it more difficult to fight back. Furthermore, the failure after seven months of talks to reach agreement on a haircut on Greece’s sovereign debt increases the risk of a default.

Political leaders are determined to avoid that fate, which could have chaotic implications for the euro zone generally. Still, they are not fully in control of the situation.

Market analysts noted yesterday S&P’s previous warning of downgrades means the news is already priced-in by the market. They also pointed out that any country downgraded by S&P would still retain a AAA rating from the two other influential agencies, Moody’s and Fitch. This is currently the situation regarding the US which was downgraded by S&P last August.

But it is not as simple as that. The fact remains the borrowing power of the European Financial Stability Facility bailout fund, from which Ireland draws rescue aid, is linked to the triple-A ratings of the six strongest euro countries.

Germany and the Netherlands appeared safe last night and there was no word of a threat to Finland and Luxembourg. A senior euro zone source expressed anxiety that the loss of the French and Austrian top ratings would curtail the EFSF’s firepower.

This is crucial, for its lending capacity is already under pressure and the other triple-As might have to expand their guarantees to restore the shortfall. To say the least, that is politically challenging: Germany is ultra-sensitive about any increased exposure to the facility. Further sensitivity surrounds SP’s warning last month that it might strip the EFSF of its own triple-A rating, which it uses to borrow at preferential rates on the open market.

One way or the other, all of this has implications for Ireland. If the EFSF’s borrowing costs were to rise as a result of the downgrades, so too would the cost of the Irish rescue. That would have a knock-on on the Government’s budget calculations, which are very tight and predicated on a particular level of interest repayment.Clarity will only come when the EFSF seeks to raise its next tranche of loans.

Even greater risk surrounds the Greek talks. EU leaders want a deal to voluntarily reduce the burden of the country’s national debt by 50 per cent before they agree a second bailout package for the beleaguered country. That is proving exceptionally difficult to achieve, raising questions over the viability of the initiative.

Greece is in constant danger of running out of cash without further aid. The Institute of International Finance banking lobby declared this week that it needed a deal within days. However, it issued a statement yesterday in which it lamented the lack of a “constructive consolidated response” by all parties. The talks may resume next week but the atmosphere is not good at all.