Moment of Truth Nears for Greece, Eurozone

Tuesday, 04 Oct 2011 12:41 PM

 

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For two years the eurozone has fought desperately to get on top of its debt crisis, throwing hundreds of billions of euros and countless hours of talking at the problem, largely without success. The coming weeks may prove pivotal.

Between now and mid-December, the sheer onslaught of high-level gatherings — whether eurozone finance officials, EU leaders or the G-20 — is likely to force a resolution of the most pressing issues confronting policymakers as they battle to get to grips with Greece, Spain and Italy.

On Monday and Tuesday, eurozone finance ministers meeting in Luxembourg will discuss how they can increase the firepower of the European Financial Stability Facility, the bailout fund set up last year and so far used to help Ireland and Portugal.

The aim is to give the EFSF far greater clout than its 440 billion euro ($584.81 billion) capacity, either by leveraging its capital in some way or by using it to guarantee only a portion of at-risk eurozone sovereign debt, allowing its funds to stretch further.

While no decisions are expected in Luxembourg, it will prove critical preparatory work for when all 17 eurozone countries have ratified changes to the EFSF agreed in July, changes that will allow the facility to lend to governments preemptively and help recapitalize banks, among other steps.

Those ratifications should be completed in time for a eurozone leaders' summit in Brussels on Oct. 18, the next make-or-break moment on which Greece's future is likely to hinge.

"It is important that the ratification of the current reform of the EFSF is moving forward," Olli Rehn, the EU's monetary affairs commissioner told reporters as he arrived in Luxembourg, looking to focus minds on the next task in hand.

"Once that is done we have to see how we can make the most out of the EFSF to make it more effective," he said, emphasizing that leveraging the fund was one possibility under discussion and that such a step could involve the European Central Bank.

"There are options including the ECB and options not including the ECB. This is something we will discuss," he said.

SQUEEZE TIGHTENS ON ATHENS

In parallel with efforts to make the EFSF more powerful and more flexible, there is a separate Greek track being pursued by inspectors from the European Commission, ECB and IMF — the so-called troika — who must decide in the coming 2-3 weeks whether Athens is meeting its targets and can receive more aid.

The Greek finance ministry acknowledged on Sunday that budget deficit goals for this year and next were going to be missed, largely due to a deeper-than-expected recession that will also drive the debt-to-GDP ratio above 160 percent.

In any normal circumstances that would have prompted the troika to decide that Athens is not eligible to receive the next tranche of aid — an 8 billion euro payment from its original bailout that is scheduled for mid-October.

To hold back on that payment now would likely force Greece over the precipice, hastening a default that European policymakers, the Greek banking system and private sector creditors in France and Germany are not yet ready for, not to mention the impact it could have on the global economy.

As a result, the payment is widely expected to be approved and Greece will get a few more weeks' breathing room.

But after that — once the EFSF changes are ratified, once a decision has been taken on how to bolster the fund's firepower, and once it is clear that Greece's finances are in too poor a shape to justify further aid payments — crunch time will have arrived, and it could come as soon as November.

By then, banks in France and Germany, the two biggest private sector holders of Greek debt, should have had enough time to prepare for a potential Greek default, and will be able to access EFSF funds via their governments if needed.

There will also be a new head of the European Central Bank, with Italy's Mario Draghi taking over from Jean-Claude Trichet on Nov. 1, a change that some analysts expect to prompt a fuller commitment from the ECB to provide extra liquidity.

And a decision will have to have been taken by then on whether the private sector is bearing enough of a cost in the second bailout package planned for Greece and agreed by eurozone leaders at a summit on July 21.

In that agreement, private creditors agreed a writedown of around 21 percent on their holdings of Greek debt as part of a buyback and debt swap deal. But the costs of the deal for the eurozone have risen and it's unclear how much benefit it is really going to deliver to Greece's debt burden.

As a result, the private sector may need to agree a deeper writedown, or else Greece may decide to default, a possibility that some analysts see coming as early as November.

"I think it's going to be happening once we have the new EFSF in place and a new ECB president, so basically in November," Guntram Wolff, the deputy director of Bruegel, a think-tank whose analysis frequently informs EU policymaking, told Reuters late last month, referring to a default.

"In the middle of October I think there will have to be a decision not to go ahead with the current PSI (private sector involvement) and in November you look at a more fundamental debt restructuring," he said.

That may not come in time for the G-20 heads of state meeting in Cannes on Nov. 3-4, but it could arrive by a meeting of eurozone finance ministers in Brussels on Nov. 29, and sharpen the minds of EU leaders as they prepare to meet for their last summit of a hectic year on Dec. 9.

© 2014 Thomson/Reuters. All rights reserved.

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