First things first, it looks very likely that the government MP’s would vote the MTP with perhaps 1-2 losses. That is however enough. All the vocal objectors seem to have calmed down. Watching the debate in the Greek parliament, one thing struck me as very worrying. Many if not most government MP’s, even the MP who introduced the legislation to the house, said that they dislike the plan, that the plan is not good, unfair or that is defective, but they are voting yes because otherwise Greece would not get the 5th installment. This is hardly an endorsement by the ruling party of the wiliness to effect economic reform. In other words, after the vote, we may go back to square one. Their vote does not represent their commitment, dedication and tenacity to tackle the debt problem but rather their fear of losing their seat and their majority. And these are the persons who after voting yes, would have to implement just what they said they dislike. Europe and the EU share the blame for this though. The irony is that the highly divided EU politicians insist lecturing the Greeks on unity. The MTP includes a rather ambitious plan to sell assets (at the wrong time) instead of forcing the government to cut expenses by reducing the fat public sector.
French Plan
Now we have some more details of the French plan we can summarise them as follows:
Lets assume that 100 GGB (for ease of calculation, actual number is around 85bln) mature between now and 2014.
As the GGBs mature, investors who agree “voluntarily” to participate in the plan will get 30 cash (good for them).
The other 70 would go into buying Notes/participation in an SPV. The SPV would get the 70 and would use 40-50 to buy 30Y GGB with a 5.5% coupon plus some upside coming from a GDP warrant. The other 20-30 would be used to by 30Y zero coupon from a EU entity like the EFSF.
The SPV Notes would further be acceptable as collateral for funding purposes by the ECB but would be on restricted trading.
Comments
Investors would get at least 30% of their principle back and a further 100 in 30years (30 would buy a zero coupon maturing at 100 in 2041). This is the sort of “Brady bond” guarantee. The main problem is however that long term yields are not very high (30Y swap is around 3.7%) and this does not help at all the Brady solution. Remember the higher the rate the lower the zero coupon (for example at 7% the zero would be at 13%). Investors would also get 5.5% coupon (plus some bonus if the Greek economy is resurrected) for holding a 30Y GGB risk. Thus, if we assume that the Greeks default on their 30Y GGB the investors get roughly 30(cash)+30 (zero coupon)=60 an implied haircut of 40 which is not bad considering that some GGB are trading at 50 now. A further complication is that they propose restrictive trading. Thus once you enter the scheme it is very hard to get out even if it becomes toxic. That does not seem to make much sense either economically or from a regulatory point of view. How much equity would they need to hold against this kind of illiquid asset?
Rating Agencies
Does it really matter what the rating agencies think of the plan? Well if you believe what they say, any rollover would be treated by some as a credit event. This is not such a big deal if Greece continues to pay the coupons on their bonds. The ECB would need to contortion once more the collateral rules and adopt some internal rating system rather than rely on external agencies. Would the Greek banks collapse? It depends. If the ECB or the Bank of Greece provides liquidity through repo or ELA there is no reason why the credit event should matter much. After all they mark their holding at 100 anyway irrespective of the CCC rating and the sub-par market.
Solvency issue still alive
The interest rate proposed for the new 30y GGB is 5.5%. It is not that it is high (considering the current market) but a quick back of the envelope calculation is as follows: Greece already is paying around 5% for the Bailout money. Assuming thus an average 5% for their interest rate payments on 350bln of debt (and growing) means 16.5bln a year in interest or almost 8% of the GDP (to foreign and not domestic investors) or close to 35% of their tax revenues. It is hard to see how they can survive such a burden which would hinder any attempt to grow the economy. In other words, it does not solve the solvency problem but only the liquidity for some time. In other words, Greece becomes a debt zombie. Greece would need a significant grace period in order to have a chance of ever coming out of the debt wormhole.
Finally, why go to such a complicated structure and don’t just allow the Greek Government to issue restricted (trading wise, like a Schuldschein) Bonds or loans which the Greek and other banks buy and then repo with the ECB. The scheme proposed resembles a hidden restructuring with a 40% haircut. It does fulfill the wish of politicians to share the load with the private bond holders and buys some time before the next restructuring. The truth is that the EU should have allowed this sharing of risk a year ago. Now anything that is proposed would leave a sour taste to all of the players, public and private and most of all to the Greek people.
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