Euro Debt Deal Requires Unprecedented Greek Default

BRUSSELS (AP) — Eurozone leaders on Thursday agreed to a sweeping deal that will grant Greece a massive new bailout — but likely make it the first euro country to default — and radically reshape the currency union’s rescue fund, allowing it to act pre-emptively when crises build up.

The eurozone countries and the International Monetary Fund will give Greece a second bailout worth euro109 billion ($155 billion), on top of the euro110 billion already granted a year ago.

Banks and other private investors will contribute some euro50 billion ($71 billion) to the rescue package by either rolling over Greek bonds that they hold, swapping them for new ones with lower interest rates or selling the bonds back to Greece at a low price.

“For the first time since the beginning of this crisis, we can say that the politics and the markets are coming together,” said European Commission President Jose Manuel Barroso.

Initial reaction from markets and analysts was cautiously positive. The euro, which had rallied sharply on expectation of the, edged up further to gain 1.2 percent against the dollar.

The “summit conclusions surprise by their size and range,” Marie Diron, senior economic adviser to the Ernst & Young, said in a note. “The measures imply significant private sector involvement and very large further support from the EU. All politically acceptable measures are being used.”

The eurozone will back up any new Greek bonds issued to the banks with guarantees if the deal is seen as a “selective default” by rating agencies, which is widely expected. If the agencies make true on their warnings, Greece will become the first euro country to ever be in default — if likely only for a short period of time.

That agreement to provide guarantees to new Greek debt helps overcome one of the biggest obstacles to a private sector contribution to the new Greek bailout. It means that Greek banks will be able to continue accessing liquidity support from the European Central Bank. Without that support, Greek banks would quickly collapse.

In the case of bond rollovers or swaps, the new Greek bonds issued to the banks would have long maturities of up to 30 years and low rates, according to the Institute of International Finance, the group representing the private sector creditors. French President Nicolas Sarkozy estimated the rates would average 4.5 percent.

Leaders also agreed to provide the new eurozone rescue loans to Greece at a 3.5 percent interest rate and with an average maturity of at least 15 years. The maturities will be up to 30 years and have an additional grace period of 10 years.

“I think this is extremely important to ensure the debt sustainability of Greece,” Barroso said.

In addition to the new aid for Greece, the leaders also overhauled their bailout fund, giving it the power to intervene in countries before they are in full-blows crisis mode.

The changes are a big turnaround, especially for Germany, which had blocked any such move this year. They show how worried the eurozone is that its debt crisis could spill over from small countries like Greece, Ireland and Portugal to big ones like Spain or Italy. Full bailouts for those countries would likely overwhelm the eurozones financial capacity.

To avoid that they will ever be in that position, the EFSF will be able to provide a “precautionary program,” such as short-term credit lines, for struggling countries. Such credit lines could be very helpful for Italy and Spain if they ever experience a funding squeeze, showing investors that support is available if things get tight.

They could also make it easier for Ireland and Portugal to start raising money again on financial markets once their own rescue programs run out.

The EFSF will also be able to recapitalize banks in countries that haven’t been bailed out, supporting them during a banking crisis without forcing them into a full program that usually requires massive cuts and economic reforms. That may make it easier for certain countries to request help before market panic has reached its peak.

On top of that, the eurozone can in certain circumstances use the EFSF to buy bonds on the secondary market, taking pressure off countries experiencing an investor sell-off. That was a role that the ECB had reluctantly fulfilled until a few months ago, when it abandoned its bond buying program amid growing frustration with leaders’ slow efforts to contain the crisis.

Leaders said Portugal and Greece will also get lower interest rates on their bailout loans, but stressed that there won’t be any private sector involvement in their support programs.

“Private sector involvement will be limited to Greece, and Greece only,” EU President Herman Van Rompuy said.

Don Melvin, David McHugh and Sylvie Corbet contributed to this article.

Copyright 2011 The Associated Press.


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