Wrong signal sent from sell-off plan

The essential backtracking of the Greek government on the announced sale of public property and the privatization of state-controlled companies and utilities worth at least 50 billion euros for the 2011-2015 period by the troika has convinced many market participants that the country may finally have to resolve its public debt problem via a more painful way.

This may have other complications because it makes it harder for mega-mergers in the local banking sector to move ahead at this point since it adds to uncertainty over valuations due to bonds. The recent refusal of Alpha Bank?s board to accept a proposal for a friendly merger with National Bank of Greece may be interpreted this way.

Facing a backlash in its own party and the Greek political scene in general, following the troika?s announcement of at least 50 billion euros in revenues to be raised from privatization proceeds and the sale of public property, the government announced its intention to bring a law in parliament by which it will prohibit the sale of public land.

Many in the market interpreted the announcement as an indication of the government?s unwillingness or/and inability to deliver on the figure which had been agreed with the troika, that is, the representatives of the European Commission, the ECB and the IMF.

For a country with an estimated public debt of 340 billion euros at the end of 2011 which may go up to 380 billion euros or more in a few years? time, retiring debt via the sale of public assets is generally considered the right way to go.

So, the government?s decision to limit the available options raised eyebrows in Greek business circles and abroad. Although this decision may be justified by political considerations, it is definitely not a sound economic decision by any means.

Even worse, more market participants have come to the conclusion by now that Greece has no option but to restructure its public debt in order to bring it down to levels considered sustainable by financial markets.

In general, a public-to-debt GDP ratio of 80 to 90 percent is considered sustainable, assuming the country produces primary surpluses and restructures its economy to become more competitive in the future and come up with higher GDP growth rates. Whether or not they are right remains to be seen and we certainly hope they are all wrong but this is the reality.

This creates greater uncertainty over the value of Greek government bonds carried by local and international banks and insurance companies in their books. For example, it is known that all major Greek banks will have to raise a good amount of capital if they were to keep the core Tier?I ratio, a capital adequacy ratio, at 7.0 percent. This in turn may other complications in the sense that may become an obstacle to some mega merger bank deals in the local sector at this point in time.

It is known that any merger of two domestic banks with a significant exposure to Greek government bonds will not reduce the sovereign risk they carry on the books and the potential negative impact on their capital adequacy ratios as explained above. Equally important, any merger between two large local banks will not resolve one of the major issues facing the sector, that is, the availability of liquidity.

Of course, a merger, such as the one proposed by National Bank with Alpha Bank, has the potential to lead to lower deposit costs since more concentration in the sector will lead to less competition for deposits locally.

Still, it will not resolve the issue of liquidity for the following reasons. Firstly, the wholesale markets will remain closed for domestic banks as long as the Greek sovereign debt risk is not addressed. Even bigger lines from interbank repo (repurchase agreements) transactions with international banks will come at a higher cost and larger haircuts.

It is estimated that foreign banks are willing to provide large Greek banks with liquidity up to 12 months at an interest rate of 2.5 percent to 3.0 percent when the underlying security is Greek government bonds. However, the liquidity provided implies an average 10 to 15 percent bigger haircut to the nominal value of these bonds compared with the one applied by the ECB according to bankers.

Secondly, it is difficult to see how domestic banks? deposits can grow with the economy shrinking at a fast pace and unemployment rising. So, local banks cannot realistically rely on a bigger pool of domestic savings to fund their assets.

In addition, the argument that a merger between two major banks will produce significant extra revenues state does not seem very convincing given the weak state of the Greek economy and the structure of the local credit market. It is noted that the large and medium sized companies have credit lines with a number of major Greek banks and therefore it is hard to see how the marriage of two of them can really produce marginal revenues.

If there is any scope for worthwhile synergies from consolidation in the banking sector, this has more to do with their operations abroad. The combination of the subsidiaries of two large Greek banks in those countries or the sale of one of the two subsidiaries to a foreign bank can bear fruits to the new bigger entity in the form of smaller funding requirements and the release of capital.

The announced benefits to EFG Eurobank from the agreed sale of a majority equity stake in its Polish subsidiary, Polbank, to Austria?s Reiffessen speaks volumes.

All-in-all, the recent developments on Greece?s apparent difficulties in raising at least 50 billion euros from public asset sales have made it harder for the country to convince international investors that it will tackle its public debt burden effectively. This has wider implications, circumventing the bond markets, and we may even witness some of them in the local banking sector.

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