When it comes to Greece, Laurent Fransolet at Barclays Capital observed back in November that:
. . . there is a decent correlation between these holdings of government bonds by Greek banks and the amount of financing Greek banks have taken at the ECB, more so than in most other countries.
And here lies the critical issue behind the Greek sovereign ‘credit problem’ — the ECB’s decision to remove a number of key long-term refinancing facilities from the market.
Indeed, when S&P put Greece on credit watch on Monday, it stated:
We expect to resolve the CreditWatch placement within the next two months, after we receive further information from the Greek authorities on their plans to counter intensifying economic and fiscal pressures.
“The ratings on Greece have been placed on CreditWatch negative to reflect our view that the fiscal consolidation plans outlined by the new government are unlikely to secure a sustained reduction in fiscal deficits and the public debt burden,” Standard & Poor’s Ratings Services credit analyst Marko Mrsnik said.
In the absence of further measures, we project that Greece’s general government debt burden could reach 125% of GDP in 2010–the largest among Eurozone sovereigns–and remain at that level, or move higher, over the medium term.
The issue is that without Greek banks standing ready to buy Greek debt, who might come in to replace that demand?
Edward Hugh over at A Fistful of Euros meanwhile points out if a rating cut to BBB+ did transpire it would mean Greek bonds would no longer be eligible as collateral for ECB liquidity facilities “once the temporary relaxation of normal criteria which accompanies the extraordinary liquidity measures is withdrawn”.
This means anyone holding Greek debt with the understanding it can be used for ECB liquidity measures, might very likely be inclined to replace it. Although as Hugh adds, who really knows when a reversal to the ECB’s current policies will come?
Nevertheless, it is these points — rather than the prospect of an imminent sovereign default — that are likely leading bondholders to reprice Hellenic debt severely. As a case in point, the spread between the yield on the 10-year Greek benchmark and the 10-year bund yield hit 203 basis points on Tuesday from the 174 basis points level of late last Friday. However, it is nowhere near as wide as it was back in February:
On the matter of sovereign default, Hugh himself defers back to Moody’s statement last week, which noted that “the risk that the Greek government cannot roll over its existing debt or finance its deficit over the next few years is not materially different from that faced by several other euro member states”.
The issue for Greece therefore has never been its ability to meet near-term debt repayments, but rather its ability to handle longer-term liabilities. What’s more, the ECB stands to gain very little from pushing Greece into default, other than perhaps some temporary respite to euro strength. Hugh expands on the matter as follows (our emphasis):
So here’s the first point, the Greek situation is a bad one, but it is not “materially different” from that of a number of other eurozone member states even if the risk of its losing sovereign bond collateral eligibility is greater than that of any other member state, at this point. In the second place what Greece is inevitably facing is not a liquidity crisis (I’m sorry Maria, no financial crisis at this point), but a long term solvency one if it can’t raise its trend growth rate in the context of the looming cost of maintaining an ever larger dependent population with a declining and ageing workforce. That is to say, the strategic problem for Greek public finance is not the quantity of debt accumulated to date, but rather the impending dead weight of future liabilities, and how these can be met.
In this case, short term technical default to wipe the slate partially clean and start-up again would resolve nothing, since without a much higher underlying growth rate (without the aid of government deficit funding) the impending liabilites are not supportable, and decision takers at Ecofin and the ECB know this perfectly well, which is why they may well rattle the sabres, but in the short term at least we will see little in the way of exemplary action. For a sovereign default in Greece (a mature developed economy) would be a complete first, and would take us all into very new, and uncertain territory, since it could quite literally become a default from which there was no viable route for return.
According to Hugh, therefore, it makes sense for the ECB to sting Greece in the short term (via a ratings cut and exlclusion from the window) if it means the country brings in the sort of austerity measures that might help it in the long term. Such measures, by the way, might very well include IMF assistance. As Hugh notes:
Indeed M Trichet’s statement could be interpreted as meaning that an exasperated ECB would almost welcome such an eventuality, and might by withdrawing easy short term funding from Greek Banks even give things a hefty shove in the direction of just such an outcome. But an ECB which does not frown on the possibility of their most recalcitrant pupil being steered briskly towards the welcoming arms of the IMF is not the same thing as an ECB which envisaging, contemplating, or even in its wildest dreams vaguely imagining a Greek sovereign default.
Any such default would surely follow, and not precede a (flawed and failed) IMF intervention, or would be the inevitable by prooduct of Greece being unceremoniously ejected from the Eurozone by sheer market forces, with the ECB relegated to meer spectator, unable despite its best efforts to contain the situation.
Which could explain why S&P has given Greece 60 days to respond to its action with a viable fiscal action plan, rather than the customary 90 days.
In other words, the quicker Greece is made an example of, the quicker the ECB can get its other unruly children back into fiscal line too.
CDS report: Greece under pressure again after downgrade threat – FT Alphaville
The return of widening sovereign credit spreads – FT Alphaville