Thursday, 27 October 2011

Greek gentlemen, we have a deal ! Or do we ?

Talks on the third wave of financial aid for Greece have come to an end (finally), during last night's second crisis summit held in Brussels. The conclusion? Greek bondholders will accept a 50% haircut on Greek debt, while the EU will provide guarantees and collateral through the EFSF and will work on the recapitalization of European Banks. The "hot potato" question still remains? Who is going to provide the money for all this? The US, the IMF, China ?

Greek Outstanding Debt

The total sovereign debt issued by Greece amounts to 350 billion, out of which only an estimated €200 billion will actually undergo a haircut. Applying a 50% haircut on the 200 billion means that the total debt forgave is only 100 billion out the  350 billion, which is only 28%, nowhere close to the 60% that FMI estimated would be required to stop the Greek debt crisis. The remaining debt will still be higher than 2010 Greek GDP which stood at 230 billion. And with the 2011 economic outlook still grim, the GDP forecast for this year is a whopping -4.5%, the debt outstanding after the haircut is applied will still be more than 100% of GDP. More on Greek economic outlook from Greekdefaultwatch:

Greece’s economy continues to contract at an alarming rate: the Greek Statistical Agency released its flash estimate for GDP growth in Q2 2011, putting it at -6.9% (not seasonally adjusted). Evangelos Venizelos, the finance minister, admitted that GDP this year may fall by over 4.5%, the fourth revision against an initially estimated -3% and higher than the -3.8% assumed in the government’s medium-term strategy.

European Rescue Fund: a bunch of leveraged guarantees ?

While patting themselves on the backs for solving the Greek debt crisis so darn brilliantly, the European officials are now looking for investors in the EFSF. And with the FED kindly refusing to chip in at this party and Brazil declaring that it does not want to "donate" any money, the Europeans are turning their heads to China. Thereby Sarkozy is expected to have a series of meeting with the Chinese president Hu Jintao in the coming days on the possibility of further investments in the EFSF (the Chinese have already been a major buyer of EFSF bonds).

Shadow of doubt still remains

Meanwhile there are still some questions that require a more careful address: 

1. Is the Greek debt haircut going to trigger a credit incident for the CDS holders ?
2. Can the EFSF gather enough funds to act as an emergency insurer in case other European countries fail ?
3. Is the contagion going to spread to other PIIGS countries ?
4. What happens if France loses its AAA rating due to the under-capitalization of its banks ?  How do you bail out a TBTF country ?

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