Germany is pushing behind the scenes for a "hard" default in Greece with losses of up to 60pc for banks and pension funds, risking a chain-reaction across southern Europe unless credible defences are established first.
German Chancellor Angela Merkel and Greek Prime Minister George Papandreou. Officials in Berlin told The Telegraph it is 'more likely than not' that investors will suffer fresh losses on holdings of Greek debt Photo: AFP
9:13PM BST 10 Oct 2011
Officials in Berlin told The Telegraph it is "more likely than not" that investors will suffer fresh losses on holdings of Greek debt, beyond the 21pc haircut agreed in July.
The exact level will depend on findings by the EU-IMF "Troika" in Athens.
"A lot has happened since July. Greece has fallen back on its commitments, so we have to assume that the 21pc cut is no longer enough," said one source.
Finance minister Wolfgang Schäuble told the Frankfurter Allgemeine that the original haircuts were "probably" too low, saying banks must have "sufficient capital" to cover greater losses if need be. Estimates near 60pc have been circulating in Berlin.
The shift in German policy has ominous echoes of last year when Chancellor Angela Merkel first called for bondholder haircuts, setting off investor flight from Ireland and a fresh spasm in the EU debt crisis.
Although Greece's 10-year bonds are trading at a 60pc discount on the open market, European banks do not have to write down losses so long as there is no formal default and the debt is held in their long-term loan book. The danger arises if banks are forced to "crystallize" the damage before raising their capital buffers.
Marchel Alexandrovich from Jefferies Fixed Income said Germany risks opening a "Pandora's Box" by unpicking the Greek deal.
"It would be a complete disaster, a signal that sovereign debt is not safe. Investors would pull their deposits out of Portugal, Ireland, Spain and Italy and set off bank runs across Europe," he said. "The French are against doing this and so is the European Central Bank. They know banks need more time to adjust. We don't think Europe will pull the trigger."
Mrs Merkel and French president Nicolas Sarkozy vowed over the weekend to do "all that is necessary to guarantee bank recapitalisation", promising a package for Greece and the eurozone by the end of the month. The pledge was vague.
"No details of the plans were released, presumably because they haven't actually got any yet. That in itself is astonishing," said Gary Jenkins from Evolution Securities. "Nothing has really changed and we still expect that the most likely outcome will be a comprehensive package – that circles the wagons around the sovereigns and the banks – that will only be agreed at one minute to midnight when the alternative is that the market is about to implode on the Monday morning."
France and Germany have yet to agree on how to beef up the banks, or on the scale of the threat.
Antonio Borges, Europe chief for the International Monetary Fund, said lenders may need up to €200bn to cope with losses.
France wants banks to be able to tap the EU bail-out fund (EFSF) directly if they cannot raise enough capital on the open market. This would avoid any further strain on the French state, already at risk of losing its AAA rating.
Mr Schäuble said the EFSF should be the last resort when all else fails – "Ultima Ratio" – and deployed only under the strictest conditions. He said the fund should not buy the debt of states in difficulty (presumably Italy and Spain) until they implement tough reforms under "tight control", signalling that Germany will not endorse blanket purchases of EMU debt to cap yields... read more>>
