Greek bonds give ECB opportunity it is loath to use
By Paul Carrel & Noah Barkin
By taking a loss on its Greek bond holdings, the European Central Bank could both help Athens and calm investors who fear they will take a hit from its new bond-buying plans, but a voluntary writedown faces fierce resistance from within.
Greece is far from meeting the terms of a second bailout, and while euro zone officials are growing impatient, they are also worried a Greek exit from the 17-member bloc would inflame market pressure on Spain and deepen the debt crisis.
At a stroke, the ECB could ease the debt burden on Athens by taking a writedown on its Greek bond holdings, while addressing investors' concerns that when the ECB buys bonds, as it could do soon to ease funding pressure on Spain and Italy, other creditors get pushed down the pecking order.
When private creditors took big writedowns from a restructuring of Greek debt earlier this year, the ECB didn't share their pain. Now they fear that in any future restructuring in the euro zone, they will again carry the can, while the ECB gets off scot-free.
To show it really means business with its plans for a new programme to buy bonds - probably in Spain and Italy - the ECB could take losses on its Greek debt and forgo its 'senior' bondholder status, putting it on a level with private investors.
Otherwise, the risk is that when the ECB piles in, private investors will head out, thereby neutering the central bank's efforts to bring down crippling borrowing costs.
ECB President Mario Draghi pledged when announcing on Aug. 2 that the bank may buy more sovereign bonds that «the concerns of private investors about seniority will be addressed».
“It's good for Greece, it's good for intervention in the other countries,» Deutsche Bank economist Gilles Moec said of the idea.
"If you want to demonstrate to the market that you are not senior and at the same time you don't want to jeopardise the fire capacity of the EFSF/ESM (bailout funds), you take a loss on Greece as a show of goodwill,» he said of the ECB.
But ECB policymakers are loath to incur losses they fought to avoid, fearful of the bank being politicised if it directly influences fiscal policy. This could give rise to more creative options, both for dealing with Greece and the seniority issue.
One scenario could see the bailout funds give the ECB guarantees for further bond purchases, providing insurance in the event of any losses. The downside is that this would focus attention on the funds' finite resources and throw up new questions about Europe's capacity to fight the crisis.
Faced with what one senior euro zone official described as «horrible» figures on the Greek economy, European policymakers have been working on «last chance» options to reduce Greece's debts and keep it in the bloc, officials said late last month.
With a target to cut its debt ratio to 120 percent of GDP by 2020 looking beyond Athens's reach, one option being studied
aims to reduce Greece's debts by up to 100 billion euros – on top of big writedowns suffered by private creditors earlier this year.
By taking a hit on its Greek bonds, the ECB could reduce the onerous repayments that hang like a sword of Damocles over Greece's euro zone membership and scale back the backdoor monetary financing to Athens that it is sanctioning.
But ECB policymakers are reluctant to be pushed by governments into accepting writedowns now. The Frankfurt-based central bank has never taken losses on sovereign bond holdings.
The ECB has spent about 38 billion euros on Greek sovereign bonds with a face value of 50 billion. Some of the euro zone's 17 national central banks - the ECB's stakeholders - also hold Greek bonds on their own accounts. It is not known exactly how much they hold, but estimates are around 12 billion euros.
Waiving outstanding bond or loan repayments would «make us lose credibility», said one euro zone central bank official.
By taking losses on its Greek bonds, the ECB would grant a benefit to taxpayers in Greece at the expense of taxpayers in other euro zone countries, which would need to recapitalise the ECB or, more likely, forgo dividends from the central bank for years to come to offset the cost of the writedown.
If governments cajoled the ECB into such a deal, they would turn it into a burden-sharing mechanism and damage its independence, said former ECB economist Christian Schulz, now at Berenberg Bank, adding: «If the ECB agrees ... then critics would accuse the ECB of doing something on behalf of the governments."
Greek Prime Minister Antonis Samaras will next week hold his first meetings with euro zone leaders since taking office, trying to assure them he will honour a pledge for more austerity and gauging whether they could grant him more time to do it.
Privately, euro zone officials say some form of official sector involvement (OSI) will ultimately be needed to ease Greece's debt burden. The trick is how to design and present it.
The ECB has already ceded some ground, agreeing in February to forgo the profits it will make on Greek bonds during Athens's second bailout programme, roughly 5 billion euros. It may give up profits that result from the 3-year programme too.
The ECB has also indicated that euro zone national central banks may also waive profits on Greek bonds in their own investment portfolios.
Going further and taking a loss on the principal may only cost the ECB a few billion euros as it bought the bonds at a discount, but the idea is still toxic. The principle would be hard to swallow, if not the bill.
Draghi has repeatedly defended the ECB's insistence that it should not take part in the Greek PSI deal on the grounds that the bonds it holds were effectively bought with taxpayers' money.
With the ECB poised to make large-scale purchases of Spanish and Italian bonds, euro zone insiders see little appetite for setting a precedent on taking losses that could later burden taxpayers with a bigger bill - even if it is via the ECB.
Instead, Greek debt relief could involve changing Greece's debt profile by extending maturities on the bonds it owes the bank without the ECB taking a balance sheet loss. The ESM bailout fund could be used to reprofile or cut the debt burden.
"I think the official sector will take a haircut, but they will try their best to hide that with accounting gimmicks,» said
Anna Gelpern, law professor at American University and a former U.S. Treasury official.
"The debt held by the ECB could be moved outside the ECB - to the ESM or another vehicle - where the haircut would look more like a fiscal contribution rather than an ECB haircut ... Greece clearly needs debt relief. It's all about form."