Euro zone deal; the devil is in the details

Rick Moran
Reuters has an excellent summary of the last minute deal struck by EU leaders last night that would give a 50% haircut to private Greek bondholders while adding leverage to the EFSF bail out fund that pumps up its total to one trillion euros.

Only the broad outlines of a deal have been finalized. The EU finance ministers must now get together and work out the prickly details. This means the whole thing could fall apart in the next few weeks if no agreement on how these plans will be implemented is struck.

But key aspects of the deal, including the mechanics of boosting the EFSF and providing Greek debt relief, could take weeks to pin down, meaning the plan to rebuild confidence after two years of crisis could unravel over the details.

"I see the main risk is that we are left waiting too long again for the implementation of these agreements," European Central Bank policymaker Ewald Nowotny said on Thursday. "Speed is very important here," he told national broadcaster ORF.

Three months ago, euro zone leaders unveiled another agreement that was meant to draw a line under the debt woes that threaten to tear apart the 12-year old currency bloc. But they realized within weeks that it was inadequate given the depth of Greece's economic problems and the vulnerability of their banks.

The new deal aims to address these holes.

"ABSOLUTELY SUSTAINABLE"

Under it, the private sector agreed to voluntarily accept a nominal 50 percent cut in its bond investments to reduce Greece's debt burden by 100 billion euros, cutting its debts to 120 percent of gross domestic product by 2020, from 160 percent now.

The euro zone will offer "credit enhancements" or sweeteners to the private sector totaling 30 billion euros. The aim is to complete negotiations on the package by the end of the year, so Greece has a full, second financial aid program in place before 2012.

The value of that package, EU sources said, would be 130 billion euros -- up from 109 billion euros in the July deal.

"The debt is absolutely sustainable now," Greek Prime Minister George Papandreou said in Brussels after the deal was struck. "Greece can settle its accounts from the past now, once and for all."

Yes, George, I'm sure those bondholders who are going to take a bath thank you from the bottom of their hearts.

So the euro zone - at least temporarily - steps back from the precipice and appears on reasonably solid footing. But this is only as long as they can work out what promises to be some very technical, very sensitive details on how this is all going to work.

Update from Steve McCann:

Some thoughts on Rick's blog re: the Euro-zone deal

In order to sweeten the deal for the private bondholders to take the 50% haircut, the Euro Zone leaders have guaranteed up to $42 Billion of the remaining Greek debt held by private investors.   Further the Euro Zone has agreed to make and additional $140 Billion available in new loans to Greece.   Not coincidentally the same amount that is being forgiven by the private investors.  Any guesses as to how long it will take Greece to spend the additional borrowings?   Based on their deficits etc about a year or so.

Now that Greece has, through intimidation, succeeded in reducing its sovereign debt by 50% (or $140 Billion) what is to stop Portugal, Spain or Italy also in the throes of overwhelming debt and credit downgrades from demanding the same?   The answer, nothing, the precedent has been set.

There is also less incentive now for these nations to bring their spending and borrowing under control as they can look to this Greek deal as their ultimate fallback position.

Further the European Banks will have to increase their capital requirements (by $150 Billion) to prevent the Greek debt haircut from damaging the banking sector.  Many banks, particularly the French are heavily invested in Greek bonds.  This new capital normally would have to come from from private sources, however if the banks cannot raise the capital (not likely) then the Euro Zone countries will have step in with the funds.  Further draining the EFSF (European Financial Stability Facility).

Lastly, while there is an agreement to have the private bondholders take a 50% reduction, it does not have the force of Law.  The IIF (Institute of International Finance), which negotiated on behalf of the banks, stated that the challenge would now be to make certain all private bondholders adhere to the deal.

This is the ultimate exercise not only in kicking the can down the road, but in giving investors sitting on piles of cash an opportunity and excuse to create an artificial bubble in the equity and commodity markets.

 

 

Reuters has an excellent summary of the last minute deal struck by EU leaders last night that would give a 50% haircut to private Greek bondholders while adding leverage to the EFSF bail out fund that pumps up its total to one trillion euros.

Only the broad outlines of a deal have been finalized. The EU finance ministers must now get together and work out the prickly details. This means the whole thing could fall apart in the next few weeks if no agreement on how these plans will be implemented is struck.

But key aspects of the deal, including the mechanics of boosting the EFSF and providing Greek debt relief, could take weeks to pin down, meaning the plan to rebuild confidence after two years of crisis could unravel over the details.

"I see the main risk is that we are left waiting too long again for the implementation of these agreements," European Central Bank policymaker Ewald Nowotny said on Thursday. "Speed is very important here," he told national broadcaster ORF.

Three months ago, euro zone leaders unveiled another agreement that was meant to draw a line under the debt woes that threaten to tear apart the 12-year old currency bloc. But they realized within weeks that it was inadequate given the depth of Greece's economic problems and the vulnerability of their banks.

The new deal aims to address these holes.

"ABSOLUTELY SUSTAINABLE"

Under it, the private sector agreed to voluntarily accept a nominal 50 percent cut in its bond investments to reduce Greece's debt burden by 100 billion euros, cutting its debts to 120 percent of gross domestic product by 2020, from 160 percent now.

The euro zone will offer "credit enhancements" or sweeteners to the private sector totaling 30 billion euros. The aim is to complete negotiations on the package by the end of the year, so Greece has a full, second financial aid program in place before 2012.

The value of that package, EU sources said, would be 130 billion euros -- up from 109 billion euros in the July deal.

"The debt is absolutely sustainable now," Greek Prime Minister George Papandreou said in Brussels after the deal was struck. "Greece can settle its accounts from the past now, once and for all."

Yes, George, I'm sure those bondholders who are going to take a bath thank you from the bottom of their hearts.

So the euro zone - at least temporarily - steps back from the precipice and appears on reasonably solid footing. But this is only as long as they can work out what promises to be some very technical, very sensitive details on how this is all going to work.

Update from Steve McCann:

Some thoughts on Rick's blog re: the Euro-zone deal

In order to sweeten the deal for the private bondholders to take the 50% haircut, the Euro Zone leaders have guaranteed up to $42 Billion of the remaining Greek debt held by private investors.   Further the Euro Zone has agreed to make and additional $140 Billion available in new loans to Greece.   Not coincidentally the same amount that is being forgiven by the private investors.  Any guesses as to how long it will take Greece to spend the additional borrowings?   Based on their deficits etc about a year or so.

Now that Greece has, through intimidation, succeeded in reducing its sovereign debt by 50% (or $140 Billion) what is to stop Portugal, Spain or Italy also in the throes of overwhelming debt and credit downgrades from demanding the same?   The answer, nothing, the precedent has been set.

There is also less incentive now for these nations to bring their spending and borrowing under control as they can look to this Greek deal as their ultimate fallback position.

Further the European Banks will have to increase their capital requirements (by $150 Billion) to prevent the Greek debt haircut from damaging the banking sector.  Many banks, particularly the French are heavily invested in Greek bonds.  This new capital normally would have to come from from private sources, however if the banks cannot raise the capital (not likely) then the Euro Zone countries will have step in with the funds.  Further draining the EFSF (European Financial Stability Facility).

Lastly, while there is an agreement to have the private bondholders take a 50% reduction, it does not have the force of Law.  The IIF (Institute of International Finance), which negotiated on behalf of the banks, stated that the challenge would now be to make certain all private bondholders adhere to the deal.

This is the ultimate exercise not only in kicking the can down the road, but in giving investors sitting on piles of cash an opportunity and excuse to create an artificial bubble in the equity and commodity markets.