G-20 Focuses on Crisis as Europe Mulls Greek Writedown

By James G. Neuger and Svenja O’Donnell - Oct 15, 2011 5:00 AM GMT+0700

Global finance chiefs will focus today on ways to fix Europe’s sovereign debt crisis as the region’s officials consider writing down Greek bonds by as much as 50 percent and establishing a backstop for banks.

Finance ministers and central bankers from the Group of 20 will conclude talks in Paris, after people familiar with the matter said yesterday that euro-area governments are revamping their strategy to combat the debt turmoil which marks its second anniversary next week.

“The world is waiting for solutions to the European problems that have now become the world’s problems,” Brazilian Finance Minister Guido Mantega told reporters yesterday in Paris. “I am more optimistic. They are advancing.”

Worldwide stocks yesterday gained, extending the biggest weekly rally since July, on optimism officials are ramping up their crisis-fighting. There was some discord among G-20 officials as those from rich nations such as the U.S. and Germany questioned proposals to expand the resources of the International Monetary Fund to help it contain Europe’s woes.

“I don’t think we ought to be asking the IMF to do a great deal more,” Canadian Finance Minister Jim Flaherty said. U.S. Treasury Secretary Timothy F. Geithner told CNBC that the lender already has “very substantial resources that are uncommitted.”

Deadline Looms

The G-20 policy makers are meeting to prepare for a Nov. 3- 4 summit of leaders in Cannes, France. Today’s talks will end with the release of a statement and a press conference scheduled for 4:15 p.m.

The Greek bond losses may be accompanied by a pledge to rule out debt restructurings in other countries that received bailouts, such as Portugal, to persuade investors that Europe has mastered the crisis, said the people, who declined to be identified because the negotiations will run for another week.

In the works is a five-point plan foreseeing a solution for Greece, bolstering of the European Financial Stability Facility rescue fund, fresh capital for banks, a new push to boost competitiveness and consideration of European treaty amendments to tighten economic management.

Political, technical and legal constraints cloud the crisis-resolution strategy, due to be hammered out at an emergency Oct. 23 euro-area summit in Brussels under mounting pressure from markets and politicians around the world.

“We need to have at that point a plan,” Natacha Valla, an economist at Goldman Sachs Group Inc. in Paris, told Bloomberg Television. “We need to have something that is big enough to solve a systemic crisis.”

Crisis Rages

The crisis raged yesterday through France, the 17-nation euro area’s second-largest economy and co-anchor with Germany of the European Union. French bonds slumped, pushing the 10-year yield up 17 basis points to 3.13 percent. The week’s rise of 38 basis points was the most since the euro’s debut in 1999.

G-20 policy makers maintained pressure on European counterparts to deliver a remedy. While Europe is weighing a “much more forceful package,” Geithner said on CNBC that “the hard part is still ahead.” Australian Treasurer Wayne Swan told reporters that “the first priority” for the G-20 “is for Europe to put their own house in order.”

Europe’s strategy hinges on putting Greece on a viable path, as two years of austerity plunge it deeper into recession and provoke civil unrest that threatens political stability. Greece forecasts its debt to reach 172 percent of gross domestic product in 2012 as the economy shrinks for a fifth year.

Greek Debt

Options include tweaking a July accord struck with investors for a 21 percent net-present-value reduction in Greek debt holdings. One variant would take that reduction up to 50 percent, the people said.

Under a more aggressive proposal, investors would exchange Greek bonds for new debt at a lower face value collateralized by the euro area’s AAA-rated rescue fund, the people said. The ultimate option is a restructuring involving writedowns without collateral, they said.

The constraint is how to cut Greece’s debt without leading rating companies to declare the country in default. Such a “credit event” triggered by a forced restructuring could unleash a cascade of losses through markets.

The bank-aid model under discussion is to set up a European-level backstop capitalized by the 440 billion-euro ($609 billion) EFSF rescue fund, the people said. It would have the power to take direct equity stakes in banks and provide guarantees on bank liabilities.

Such ideas are controversial in Germany, Europe’s dominant economy, which so far has called for bank recapitalization on a country-by-country basis.

Capital Buffer

French Finance Minister Francois Baroin said on Europe 1 radio yesterday that it may be “good” to force banks to maintain a 9 percent capital buffer to absorb sovereign risks, up from the 5 percent core capital level used in July’s stress tests.

Nations from China to Brazil are considering increasing the IMF’s lending power, a month after Managing Director Christine Lagarde said her $390 billion war chest may not suffice to meet all loan requests should the global economy worsen. Additional funds could be used to help shelter Italy and Spain with precautionary lending, according to IMF and G-20 officials.

Talks are in preliminary stages as potential contributors wait to see what measures Europeans take first. Resistance from rich nations may also stymie them, with German Finance Minister Wolfgang Schaeuble echoing Geithner by saying the Fund has enough cash to meet its commitments.

Fund Firepower

Officials are considering seven ways of getting more firepower out of Europe’s temporary rescue fund. The options break down into two broad categories: enabling it to borrow from the European Central Bank or using it to provide bond insurance.

The ECB has all but ruled out the first method, making bond insurance more likely, the people said. EFSF guarantees of new bonds sold by distressed euro-area governments might range from 20 percent to 30 percent, a person familiar with those deliberations said.

Recourse to bond insurance suggests the central bank will need to maintain its secondary-market purchases for an unspecified “interim” period, the people said. ECB President Jean-Claude Trichet, whose eight-year term ends Oct. 31, has expressed reluctance to maintain the policy with his institution having bought 163 billion euros of bonds.

A consensus is also emerging to accelerate the setup of a permanent aid fund planned for July 2013, the European Stability Mechanism. Next week’s discussions will focus on creating it a year earlier, in July 2012, and easing unanimity rules that permit solitary countries to block bailouts.

Plan Proposals

One proposal is to enable aid to proceed when backed by countries representing 95 percent of the fund’s capital on the basis of an assessment by the EU and ECB, the people said. Another proposal would set an 85 percent threshold.

Revisions to the voting rules would prevent local politics in smaller countries from stopping measures deemed necessary by Germany and France. Slovakia, for example, stayed out of Greece’s first aid package. Finland spent three months negotiating a tailor-made collateral arrangement as its price for contributing to the next one.

Greece’s plight and dwindling investor confidence in the bonds of Italy, the world’s fourth-largest debtor, have triggered a reconsideration of bondholder loss-sharing provisions as part of the permanent fund, the people said.

Germany was the main driver behind the provisions for “private sector involvement.” The July accord on a second Greek bailout threw that into question by declaring Greece’s case “exceptional and unique.”

To contact the reporters on this story: James G. Neuger in Brussels at jneuger@bloomberg.net; Svenja O’Donnell in Paris at sodonnell@bloomberg.net

To contact the editors responsible for this story: James Hertling at jhertling@bloomberg.net; Craig Stirling at cstirling1@bloomberg.net