Amid all the doom and gloom about Greece in the last few weeks, it is easy to overlook an important piece of good news: the debt exchange offer published by Greece on Friday with endorsement by its main private and official creditors. If implemented, this would be a major achievement and an important step toward overcoming the euro zone crisis, almost regardless of what happens next.
Under the offer, bondholders would receive 15 percent of the face value of their bonds in the form of short-term European Financial Stability Facility (EFSF) bonds, plus a set of new Greek sovereign bonds maturing between 2023 and 2042, with a 31.5 percent face value.
This agreement is a very good deal for Greece. The combination of the cut in face values, lower coupons and (in most cases) longer maturity implies a debt reduction of about 60 percent in present value terms (evaluated at a 5 percent discount rate). Assuming high participation (about €200 billion in bonds), this translates into savings of about €120 billion, or 54 percent of Greece’s 2011 GDP. This is very large. By comparison, the Argentine exchange of January 2005, the previous high-water mark, generated present value of debt relief of only about 29 percent of GDP, because although the per-dollar debt reduction was higher, the volume exchanged was much smaller.
Private creditors are also getting a good deal. Although they are being hit hard, they could have done much worse. You will see claims that the “haircut” suffered by creditors is on the order of 75 percent. These are exaggerated, because they compare the present value of the new bonds with the face value of the old bonds. But in a pre-default debt exchange, creditors never have the right to full immediate repayment. They only have the right to keep their old bonds and expect them to be serviced.
A better way to determine the value of the new bonds is to compare them with the present value of the old bonds, assuming they both are subject to the same default risk. This leads to a haircut of about 65 percent — much less than what creditors would have lost in a disorderly default. And it does not reflect two additional benefits: “GDP warrants” that may deliver extra payments beginning in 2015, depending on the level of Greece’s GDP; and an effective upgrade in creditors’ rights compared with those of the old bonds. The new bonds will be issued under English law, making them harder to restructure again in the future, and their repayments will be linked to repayments to the EFSF.