The EU, led by a French initiative which German banks appear to be signing up to, is finally getting ready to allow a reprofiling of Greek debt, something that the European Central Bank has vigorously opposed, but which everyone else on the planet saw as inevitable. Common sense dictates that if a country is saddled with debts it can’t meet at a rate of interest that it can’t afford, something has to be done to address that problem other than simply providing the country concerned with still more debt at even higher rates of interest.
According to Bloomberg's article on the EU setting free Greek aid funds, the agreement with the banks could bring Greece as much as 85 billion euros in new funding, with the main difference being that the funding would be over a 30-year period. It would involve many of the banks that are holding short term Greek debt due for renewal in the next 12 months, agreeing to convert much of that debt to long-term debt. With Greek two-year debt reaching rates of 30% by the end of June, it was clear to everyone that the markets were pricing Greek debt for an imminent default. That would hurt the banks considerably more than the pain involved in a reprofiling.
A reprofile and a roll over
Under the French proposals, bondholders, which means German and French banks and also a sprinkling of banks in other eurozone countries and in the UK, would agree to roll over 70% of all Greek government bonds that they hold which mature through to mid-2014. The principle on the new debt would supposedly be guaranteed through Greece investing in zero-coupon bonds of similar maturity, according to Bloomberg. Other sources talk about some of the bank debt being rolled into a trust fund to guarantee the remaining principal, which sounds like a better bet than relying on the ability of a future Greek government to stand behind the bonds.
German banks signalled their willingness to sign up to the proposals at a press conference in Berlin on Wednesday 29 June, where Deutsche Bank CEO Josef Ackerman said that Deutsche Bank would be prepared to do something similar to the French scheme provided the EU and the IMF came through with the 12 billion euro funding Greece needs not to default. That funding had been conditional on the Greek Parliament voting through the next tranche of severe budget cuts, bringing Greece’s fiscal deficit down to just 7.5% of GDP this financial year. With the Greek Parliament narrowly agreeing to the austerity cuts, the way now seems to be clear for the next slice of bail-out funding to be given.
However, the ratings agencies looking at Greek debt signalled some days ago that they are minded to consider any reprofiling of the debt as a default, which would mean downgrading the sovereign debt of Greece to junk status. This stance was sharpened on July 4 when Standard & Poor's, which had said that it would wait until it saw the details before it issued any comment, clearly decided that it had seen enough, and that what it was hearing from the French and German banks amounted to a default. In a short statement S&P said that as far as it was concerned, the proposal to restructure Greek debt was “an effective default of its debt obligations”.This puts the ECB in an interesting position.
The ECB has been declaiming against the ratings agencies since the crash, claiming that their ratings are not worth bothering with. However, the ECB likes the idea of a Greek debt reprofiling about as much as S&P, since it is convinced that once one European peripheral country renegotiates its debt, others will follow, plunging the whole system into chaos. So suddenly the ECB is acting as if ratings agency ratings matter hugely, despite having said they were biased and worthless. The ECB’s position is that it will not be able to accept Greek government debt as collateral if that debt is downgraded to junk. Such a move would create a massive and immediate crisis for both Greece and for the eurozone.
However, with French banks holding €50bn of Greek debt, and with German banks holding a further €30bn there is considerable incentive for both countries’ banks to gather round and find some way of making a deal fly with both EU and private sector assistance. One imagines that the ratings agencies will now come under tremendous pressure to review their decision. It will be interesting to see if they can brace themselves and hold their ground when some of their most lucrative clients are going to be seriously annoyed if they do.
Further reading on sovereign debt, reprofiling, the eurozone and Greece:
- Nothing but Painful Choices Ahead as the Global Debt Supercycle Ends by John Mauldin
- No Quick Fix for the Eurozone by Joseph Trevisani
- A One-in-Fifty-Year Event by Leigh Skene
Tags: Bloomberg , credit rating agencies , crisis , debt reprofiling , default , Deutsche Bank , ECB , EU , eurozone , eurozone debt , Eurpoean Union , France , French banks , German banks , Germany , Greek debt , IMF , International Monetary Fund , Josef Ackerman , reprofiling , roll over debt , roll-over , sovereign debt , Standard & Poor's