Tags: hans | parisis | greece | default | debt

Greece Won't Default Today, but Pain Here to Stay

By    |   Tuesday, 27 April 2010 02:34 PM

Greece’s two-year sovereign bond yields Tuesday morning spiked to above 15 percent – yes, that’s not a typo or error, folks. That is 15  percent, paid in euros (!), which made it, of course, the highest short-dated yield of any country in the world.

By comparison, Argentina’s sovereign yielded 8.8 percent and  Venezuela's sovereign yielded 11 percent.

It now has become clear that a German decision on a Greek bailout participation can only be expected until after German Chancellor Angela Merkel's CDU/CSU-FDP government coalition’s very important elections in the Land of North-Rhine Westphalia on May 9, while Greece has to come up with about 8.5 billion euros ($11.25 billion) of funding by May 19.

If you ask me, this is a formidable example of brinkmanship taken to the limit.

Maybe it’s also good to remember that Greece has to raise about 54 billion euros ($71.47 billion) for its sovereign debt in the current fiscal year.

In the meantime, we see the war of attrition, between different groups/classes in Greece about whose taxes will be increased and whose favorite spending programs will be cut, getting stronger by the day.

It’s certainly not an overstatement to say that this situation is likely to last longer than the willingness of the markets to refinance the Greek sovereign at non-crippling interest rates, in the absence of an external intervention that changes the domestic balance of power in parliament and in the labor and product markets.

No doubt, we’ll have to wait and see what the IMF (and also the European Commission as well the European Central Bank) will come up before May 19, the date when Greece has to put 8.5 billion euros on the table in order to comply with its sovereign obligations.

At this moment, Germany has to endure a lot of criticism of its European partners but they shouldn’t overlook the fact that Germany has had 21 years of experience filling a domestic fiscal black hole after the unification of West Germany and East Germany (the former DDR) in 1989.

I still have my serious doubts whether there is a real German willingness to fund, without adjustment, to Greece.

If Germany does not help Greece, and Greece does not implement the conditionality it has agreed to in March in Brussels, than there will be a serious risk of a unilateral Greek sovereign default from 2011 on.

Greece will be required to take painful fiscal measures to keep its creditors safe, while paying at least 300 basis points and possibly as much as 400 basis points and even more over the safe rate (swap rate) for any funds it borrows from the euro zone member states. (One basis point is equivalent to 0.01%, or one-hundredth of a percentage point.)

A country imposing fiscal pain on its citizens to make the creditors whole, which in clear English means to keep their investments in Greek sovereign debt safe, while paying a rate appropriate to unsafe investments accurately reflects the logic of markets but not of politics.

And yes, here could come the risk that Greece could be forced (because of internal political reasons) to opt for unilateral default within the foreseeable future, sometime in 2011.

Please don’t misunderstand me. I’m not saying that this will happen or that a Greek default could take the form and magnitude of any of these historical repudiations we know, like the ones that happened with Russia’s Tsarist debt, West Germany’s Nazi era, Cuba’s Batista era debt and Argentina’s 2001/02 default that left at least 70 percent of its creditors with only 30 cents on the dollar.

No, Greece is not the same. Greece won’t go out of business, its infrastructure won’t go away, the productivity of its people won’t go away and its natural resources won’t go away. Its assets will always exceed its liabilities. The question is, of course, by how much, now that confidence in its state has waned so much.

Never forget, generally speaking, while we all accept that states cannot go bankrupt we also must recognize that banks and other private creditors can go broke because they lent to sovereigns or because sovereigns defaulted.

It’s also interesting to see that the weakest euro zone Southern Western member states, the PIIGS (Portugal, Italy, Ireland, Greece and Spain), all see the yields on their sovereigns rising.

It’s too early to talk about contagion, but within a 12-month to 24-month horizon, I wouldn’t exclude unpleasant surprises at all.

That said, I think as things stand today, a Greek sovereign default is still unlikely, but also not impossible — as is the case for any of the advanced industrial nations.

The most likely outcome for the Greek sovereign debt problem is that formal sovereign default still can be avoided thanks to a painful, multiyear program of fiscal tightening and structural economywide reform, financially supported by a multiyear euro zone/IMF backstop mechanism and with tough conditionality.

“Voluntary’ restructuring of sovereign debt, which means lengthening of the respective sovereign maturities, should be considered as highly likely being part of the deal, notwithstanding officials involved in the deal who refute that option.

I think that all this assumes that the financial terms on loans from the euro zone to Greece will be further revised upwards.

With the financial terms currently on offer from the euro zone member states and from the markets, that gives as the probability of a significant haircut of around 30 percent for all actual creditors.

Finally, one could ask himself if the euro zone’s real choice is not bailing out euro zone banks and not bailing out Greece itself. Euro zone banks are seriously exposed to Greek risk.

For the 24 reporting countries, the total exposure of their banks to Greece at the end of September 2009 was $298.3 billion. European banks accounted for almost all of this, which was $272.4 billion.

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Greece s two-year sovereign bond yields Tuesday morning spiked to above 15 percent yes, that s not a typo or error, folks. That is 15 percent, paid in euros (!), which made it, of course, the highest short-dated yield of any country in the world. By comparison,...
Tuesday, 27 April 2010 02:34 PM
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