Banks escape Greece with a minor trim

July 22, 2011

By Peter Thal Larsen and George Hay
The authors are Reuters Breakingviews columnists. The opinions expressed are their own.

LONDON — Greek creditors who were worrying about a severe haircut can relax — for now. Most holders of the country’s debt should escape the latest euro zone bailout with no more than a modest trim. But if Greece’s finances don’t recover, they could still end up with a much harsher shaving.

The plan put forward by the Institute of International Finance boils down to a simple trade-off. Banks that participate will be able to swap their Greek debt for safe bonds — backed by collateral in the form of bonds issued by the European Financial Stability Facility — with a maturity of 15 or 30 years. These bonds will pay no coupon. Instead, bondholders will receive interest payments from Greece.

The plan stretches the average maturity of Greece’s debt from 6 to 11 years, giving the country time to get its finances back in shape. It also helps to reduce the debt servicing burden, particularly in the early years. However, the plan does nothing to reduce Greece’s overall debt load.

The banks, meanwhile, get a haircut of just 21 percent on the par value of Greek debt. That’s much less severe than the market had been expecting. Before the bailout, Greek 5-year bonds were trading at around 50 percent of face value. Ratings agencies will probably declare the plan a selective Greek default. But depending on how accountants interpret the scheme some lenders — notably the French — may get away without writing down their Greek bonds at all.

The plan assumes that holders of 90 percent of the 150 billion euros of Greek private sector debt maturing by 2020 will climb on board. European lenders, cajoled by their governments and leading financiers like Deutsche Bank’s Josef Ackermann, will probably participate — though others may hold out.

However, banks should not feel too smug. If Greece’s finances don’t recover, the country may yet stop interest payments — forcing the banks to take a bigger haircut. Meanwhile, the rest of the euro zone is not yet free from contagion. In the long term, the banks’ plan may yet be judged too clever by half.

Calculator: How much would a Greek haircut hurt? Run the numbers.

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If I had to hazard a guess (after using the nifty Breakingviews Stress Test), you accurately predicted the future with this statement:”…the rest of the euro zone is not yet free from contagion. In the long term, the banks’ plan may yet be judged too clever by half.”

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