/ 22 July 2011

Greek deal to put country in default

Greece will be ruled in default on its debt as a result of a new eurozone plan asking investors to take losses on the country’s bonds, Fitch ratings agency said Friday.

However, the move is unlikely to trigger payment of bond insurance — easing a key concern for Greek and European leaders seeking to contain the continent’s debt crisis.

The new rescue plan includes asking bondholders to accept new debt with lower interest rates and a longer 30-year repayment to help cut the country’s debt burden and give it time to reform its economy. The lower rates over time will mean investment losses for those holding the bonds.

When a debtor changes the terms of a loan to the creditors’ disadvantage, it is considered in default, and European leaders knew their plan would probably force the downgrade.

But Greece’s stay in default — expected to happen in the fall — will likely be brief. Fitch Ratings said on Friday that it could move it up to junk-level as soon as it issues the new, replacement bonds. That could take only days, if not hours.

Government debt default is a fairly common occurrence among poorer countries, but this instance would be a first for a member of the wealthy eurozone, and a blow to the prestige of the common currency. Greece will join countries like Ecuador, Uruguay and Ukraine that have defaulted in recent years. Still, many economists have been saying for months that it is unavoidable since Greece’s debt burden is too big to pay and must somehow be reduced.

Calming anxiety over the immediate impact of a default, a trade organisation dealing in financial derivatives said the new rescue deal for Greece should not lead to credit-default swap payouts.

Bond insurance payouts can be potentially massive and would have threatened the banking sectors in Greece and across Europe.

“A proposal for a voluntary exchange of debt … since this is expressly voluntary, it should not trigger CDS,” David Geen, general counsel at the New York-based International Swaps and Derivatives Association, wrote in an e-mail from London.

Fitch said that bondholders involved in helping Greece would lose some 20% of the value of their investments under the deal reached Thursday night, a wide-ranging $156-billion aid plan that also gives Greece new loans, supports Greek banks and cuts interest rates on bailout credits.

It also empowers the eurozone’s bailout fund to move more quickly to aid struggling countries in an attempt to keep the crisis from mushrooming from already bailed-out Greece, Portugal and Ireland to bigger countries such as Spain and Italy.

The agency said that as soon as the offer period for the new, longer-maturity bonds closes, Greece will get a rating of “restricted default”. Once the new debt is actually issued, Greece would probably get a new rating in the low speculative grade area. The new bonds would be guaranteed by eurozone governments.

European officials resisted the idea of letting Greece default on its debts for most of the 21-month debt crisis that began when a new government revealed the extent of the country’s financial troubles. But a $156-billion bailout in the form of loans from the eurozone and the International Monetary Fund last year did not put the country back on its feet.

The new deal aims to reduce the size of Greece’s debts, which many economists say are too big to be paid no matter how much additional credit the country gets. Greece owed some €340-billion at the end of last year, or 143% of economic output. That figure is expected to reach 160% as the country struggles to close its budget deficit during a deep recession. — Sapa-AP