Greek debt buyback

LONDON: The euro zone may be starting to get to grips with the Greek crisis. The idea of bond buybacks by the European bailout fund is back on the table.

The European Financial Stability Facility could lend to Greece to buy its own debt back, or buy bonds directly itself. It could pass the benefit on to Greece by forgiving debt or channelling debt payments back to the sovereign.

The idea isn't entirely new: it was mooted last year before being shouted down by Germany, which saw the plan as a backdoor way of making other countries take on Greek debt.

Berlin's opposition to the scheme is likely to remain. The ECB, on the other hand, has long pushed for allowing the EFSF to intervene on secondary debt markets.

A buyback could genuinely bring down Greece's debt. It could be done in conjunction with lower interest rates on Greece's bailout loans, and some form of extension of bond maturities. This three-way formula could pave the way for compromise between the ECB and euro governments.

Greek debt is trading, on average, at about 55 cents on the euro.?A buyback of all the country's debt at that price would cut the country's debt load to 87 percent of GDP, lower than Portugal or Ireland.

That's a generous estimate, since a massive bond buying plan would likely push up secondary market prices, and the EFSF is unlikely to buy back all outstanding debt Moreover, banks haven't yet written down most of their Greek holdings, making it for them hard to sell at market levels.

The euro zone could tempt them by offering to buy at above current market values say 75 or 80 cents of the euro appealing both to speculators and banks keen to reduce possible losses. But that would amount to a partial bailout.

A better way would be for the euro zone to offer at just above current market rates, while making it clear a default could follow sooner rather than later, say in 2012, if the country's debt remains unsustainable. Such coercive tactics would make it hard to believe the buyback was voluntary, and would likely be deemed a default by rating firms, something the European Central Bank is deeply opposed, But the time for half-measures is long past.

Euro zone finance ministers said the region stood ready to adopt new measures to deal with the Greece's debt crisis as part of the country's second bailout.

Bond buybacks and a German proposal for a bond swap for longer maturities are under consideration.

New measures could include "enhancing the flexibility and the scope of the European Financial Stability Fund," finance ministers said in a July 11 statement.

"Ministers recognised the need for a broader and more forward-looking policy response to assist the government in its efforts to bolster debt sustainability and thereby safeguard financial stability in the euro area."

Copyright Reuters, 2011