By Tom Ellis
Speaking in an interview with Kathimerini at what is a crucial point in the negotiations between Greece and its private creditors, Mohamed El-Erian, CEO of the Pacific Investment Management Company -- the world’s largest bond fund better known as PIMCO -- says that only a haircut greater than 50 percent could restore medium-term debt sustainability and growth for Greece.
In that context he calls for an indirect haircut on the bonds held by the European Central Bank and suggests an “operational” way in which that could be done. El-Erian also says the possibility of activating collective action clauses (CACs) is an important option for Greece and one that should not be given up easily, while he cautions against moving too hastily in issuing the new bonds under British law instead of Greek law.
Is the 50 percent haircut enough for Greece?
According to our analysis, 50 percent is not enough for Greece to restore credibly the conditions for medium-term debt sustainability and economic growth. A 50 percent haircut would still leave open way too many questions about Greece’s economic and financial outlook.
Should there also be a haircut on the bonds that the ECB bought?
What is absolutely critical for Greece and its official creditors, including the ECB, is to ensure that the objective of a sustainable debt stock is paramount. There are operational alternatives. For example, in order to avoid an explicit haircut, the ECB bonds could be transferred to an EU balance sheet, old or new, and treated similar to the procedures for the Paris Club. Also, the maturities could be extended in order to provide for the benefits of a debt reduction to Greece.
Should Greece activate CACs so that the agreement covers all the bondholders?
The possibility of using Greek law to activate CACs is an important option for Greece, and it is one that should not be given up easily. It is critical to recognize forcefully that Greece’s degrees of freedom would decline significantly once it agrees to a different treatment of its bonds, especially and importantly when it comes to legal jurisdiction.
Would such a move create a credit event and, if so, what would that mean for Greece’s effort?
There is a risk that several of the things that reportedly are being considered right now would end up triggering a credit event. Unfortunately, there is no first best solution given the severity of the situation in Greece. What is critical here is not to put the threat of a credit event above everything else.&?nbsp;The key is to be able to do something that is credibly associated with medium-term debt sustainability and economic growth. The benefits of getting this right far exceed the cost of a credit event.
Will Greece remain in the eurozone?
The decision of whether to remain in the eurozone is one that has to be made by the Greeks themselves. If Greece decides to remain within the eurozone, it would be signing up for many years of “internal devaluation,” namely, using wage and expenditure compression as the tools to regain competitiveness and jobs. Exiting the eurozone provides greater policy flexibility, but this comes at a cost of significant initial disruptions that, in the immediate instance, would undermine both economic activity and the financial system yet offer better prospects for subsequent and sustained recovery.
How important is it to have the new bonds issued under British law instead of Greek law?
Bondholders are looking for greater legal protections. It is also why Greece has to make sure that the shift from Greek to British law is undertaken in the context of an overall economic and financial solution that is sustainable.