Greek Debt Talks Risk Derailing EU Summit Plan

By Patrick Donahue - Jan 30, 2012 6:01 AM GMT+0700

European Union leaders gather for their first summit of 2012 as a deteriorating economy and struggle to complete a Greek debt writeoff risk sidetracking efforts to stamp out the financial crisis.

EU chiefs arrive in Brussels about 2 p.m. today to put the finishing touches on a German-led deficit-control treaty and endorse the statutes of a 500 billion-euro ($661 billion) rescue fund to be set up this year. Greece and its private creditors said Jan. 28 they expect to complete a deal in coming days after bondholders signaled they would accept European government demands for a bigger cut in their debt holdings.

Efforts to hold the 17-member euro area together with bolstered fiscal rules and a stronger firewall are colliding with stalled progress in Greece, where the crisis began in 2009. To prevent a financial collapse, Greek bondholders have been pushed to cede more ground after agreeing in October to take a 50 percent cut in the face value of more than 200 billion euros ($263 billion) of debt.

“The fact we’re still at the beginning of 2012 talking about Greece is a sign this problem hasn’t been dealt with,” U.K. Chancellor of the Exchequer George Osborne said at the World Economic Forum in Davos, Switzerland.

The summit follows warnings at the gathering that ended yesterday in Davos that it’s time to end the region’s debt crisis and that measures aimed at simply containing the turmoil are no longer enough. The euro economy is set to contract by 0.5 percent this year, according to the median of 19 economist forecasts compiled by Bloomberg.

ECB Loans

The European Central Bank’s unlimited three-year loans to banks have helped buoy sentiment among investors in the euro area. Italian 10-year bonds gained for a third week, while Spanish two-year yields dropped to the lowest since November 2010. The euro gained against the U.S. dollar every day last week, climbing 2.2 percent to $1.322.

“We can say -- with caution -- that we see elements of financial stability in France, in Europe and in the world,” French President Nicolas Sarkozy said in a nationally televised interview in Paris yesterday. “Europe is no longer at the edge of the cliff.”

Attention before the Brussels summit turned to negotiations between the interim government of Greek Prime Minister Lucas Papademos and creditors. The two sides were “close” to an agreement outlined by Luxembourg Prime Minister Jean-Claude Juncker, the Institute of International Finance, negotiating on behalf of private creditors, said in a Jan. 28 statement after three days of talks in Athens.

Debt Swap

Creditors are prepared to accept an average coupon of as low as 3.6 percent on new 30-year bonds, said a person familiar with the talks, who declined to be identified because a final deal hasn’t been struck yet. As recently as Jan. 23, creditors wanted an average coupon of about 4.25 percent, two people familiar with the talks said then. That offer equated to a loss of about 69 percent on the net-present value of Greek debt.

The initial debt-swap agreement with creditors three months ago sought to scale back Greece’s debt to 120 percent of gross domestic product by 2020. The anticipated agreement on private sector involvement, or PSI, will open the way to a 130 billion- euro second bailout from Greece’s European partners and the International Monetary Fund for the country, which faces a 14.5 billion-euro bond payment March 20.

‘Last Minute’

“A deal on PSI will be reached at the last minute,” Niall Ferguson, a professor of economic history at Harvard University, said in a Davos interview. “The trouble for Europe is the crisis won’t be over as the Greek position remains unsustainable. Any PSI deal will bring only temporary respite.”

Greece now requires 145 billion euros for the second bailout, 15 billion euros more than was agreed in October, Der Spiegel reported Jan. 28, citing an unidentified official from the troika in Greece.

As a possible condition of the bailout, European policy makers are discussing plans to directly intervene in Greek budget decisions as the country struggles to cut its deficit, according to two euro-region government officials.

Patience with Greece “is really coming close to the limit,” Philipp Roesler, chief of Germany’s Free Democratic Party, the junior coalition partner. “Time is running out. There can only be additional help if the Greek government carries out the necessary reforms.”

U.K. Refusal

Another objective at the summit will be to complete a fiscal compact, which was negotiated in December in talks that exposed a rift in the EU after the U.K. refused to participate. The rules aim to provide stricter sanctions and closer cooperation on national budgets.

A call by Poland, the biggest country with aspirations to joint the single currency, to take part in euro-area decision- making looms as the main obstacle to the deal, two officials said. Poland’s plea to take part in euro summits is opposed by a group led by France, which aims to turn the 17-nation monetary union into an exclusive policymaking club.

“We’re willing to put our signature to the pact, but on the understanding that we’re taking part in it only if we have a voice in deciding about future action, including of the euro group,” Polish Prime Minister Donald Tusk said on Jan. 27.

Over the weekend, senior officials worked to clear away lesser snags to the treaty, including the role of national parliaments and the ratification threshold. A draft last week foresaw the treaty taking effect after ratification by 12 of the 17 euro countries.

EU leaders plan to endorse the statutes of the permanent bailout fund, the European Stability Mechanism, to be signed in early February and sent to national parliaments to ratify. The ESM is scheduled to go into operation this year.

Leaders are unlikely to address mounting pressure to raise the ceiling on rescue lending from 500 billion euros once the permanent goes online, the officials said.

To contact the reporter on this story: Patrick Donahue in Berlin at pdonahue1@bloomberg.net

To contact the editor responsible for this story: James Hertling at jhertling@bloomberg.net