Private investors near deal on Greek debt

January 28, 2012 - 11:45 PM
Greece Financial Crisis

Charles Dallara, left and Jean Lemiere from the Institute of International Finance leave Maximos Mansion after meeting Greek Prime Minister Lucas Papademos and Greek Finance Minister Evangelos Venizelos in Athens on Saturday Jan. 28 2012. Talks between Greece and private creditors on halving the country's privately held debt load have ended and a deal is very close, according to the creditors' representatives. (AP Photo)

ATHENS, Greece (AP) — A disorderly and potentially devastating Greek debt default is looking much less likely.

Greece and investors who own its bonds have reached a tentative deal to significantly reduce the country's debt and pave the way for it to receive a much-needed euro130 billion bailout.

Negotiators for the investors announced the agreement Saturday and said it could become final next week. If the agreement works as planned, it will help Greece remain solvent and help Europe avoid a blow to its already weak financial system, even though banks and other bond investors will have to accept multibillion-dollar losses.

Still, it doesn't resolve the weakening economic conditions in Greece and other European nations as they rein in spending to get their debts under control.

Under the agreement, investors holding euro206 billion in Greek bonds would exchange them for new bonds worth 60 percent less.

The new bonds' face value is half of the existing bonds. They would have a longer maturity and pay an average interest rate of slightly less than 4 percent. The existing bonds pay an average interest rate of 5 percent, according to the think tank Re-Define.

The deal would reduce Greece's annual interest expense on the bonds from about euro10 billion to about euro4 billion. And when the bonds mature, instead of paying bondholders euro206 billion, Greece will have to pay only euro103 billion.

Without the deal, which would reduce Greece's debt load by at least euro120 billion, the bonds held by banks, insurance companies and hedge funds would likely become worthless. Many of these investors also hold debt from other countries that use the euro, which could also lose value in the event of a full-fledged Greek default. This is the scenario analysts fear most and why they hope investors will voluntarily accept a partial loss on their Greek bonds.

The agreement taking shape is a key step before Greece can get a second, euro130 billion bailout from its European Union partners and the International Monetary Fund. Besides restructuring its debt with private investors, Greece must also take other steps before getting aid. It must cut its deficit and boost the competitiveness of its economy through layoffs of government employees and the sale of several state companies, among other moves.

Greece faces a euro14.5 billion bond repayment on March 20, which it cannot afford without additional help.

The country got its first bailout in May 2010 when the EU and the IMF signed off on a euro110 billion aid package, most of which has already been disbursed.

Private investors hold roughly two-thirds of Greece's debt, which has reached an unsustainable level — nearly 160 percent of the country's annual economic output. By restructuring the debt held by private investors, Greece and its EU partners are hoping to bring that ratio closer to 120 percent by the end of this decade. Without a deal, analysts forecast that ratio ballooning to 200 percent by the end of this year as the Greek economy falters.

Meanwhile, Greece's public creditors — the IMF, the EU and the European Central Bank — are baffled by the government's repeated failure to meet deficit targets. They want more government wage cuts. That is meeting resistance by Greek politicians afraid of losing an election tentatively scheduled for the spring. But those same politicians also worry that the nation will be denied a second bailout if doesn't reduce its deficit.

Greek Finance Minister Evangelos Venizelos on Saturday night asked those who oppose structural changes to reconsider their stance.

"The coming days will be decisive for the next decade ... We must answer to tough dilemmas and we must do so with foresight and a sense of responsibility and not hide behind each other," he told reporters after meeting with the public creditors.

In return for the first bailout, Greece's public creditors have unprecedented powers over Greek spending. However, Greece's problems will not be fixed simply by cutting government spending. In order to bring its debts to a more manageable level, the country must also find ways boost economic output, which would enable it to collect more taxes.

If no debt-exchange deal is reached with private creditors and Greece is forced to default, it would very likely spook Europe's — and possibly the world's — financial markets. It could even lead Greece to withdraw from the euro.

Sarah Ketterer, co-manager of Causeway International Value Fund, a $1.4 billion mutual fund that invests in European stocks, said the region's markets have rebounded this month largely on expectations that negotiators would reach a deal along the lines of the one being finalized now.

Any last-minute breakdown in the talks could trigger a sharp decline in European markets, she said. But a rally is unlikely if negotiations succeed.

"The equity markets have ... largely already discounted this, and you can see that in the confidence that has returned in European equities since the end of December, and especially for financial stocks," Ketterer said.

She said there "really was no other option" than reaching a deal for bondholders to take a haircut of 50 percent or more.

Ketterer said a Greek deal could help restore bond market confidence. That would help Italy manage its own debt crisis — one that Ketterer views as more critical than Greece's because of Italy's greater size.

The investors who own Greek bonds are being represented by Charles Dallara, managing director of the Washington-based Institute of International Finance, and Jean Lemierre, senior adviser to the chairman of the French bank BNP Paribas.

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AP personal finance writer Mark Jewell in Boston, Elena Becatoros in Athens and Gabriele Steinhauser in Brussels contributed to this report.