Tuesday, February 21, 2012

European Update

Greece Receives Second Bailout

Late Monday Eurozone finance ministers approved the second, €130 billion, bailout for Greece. The bailout includes a larger-than-expected haircut on privately held debt. Greece must also still meet a list of "prior actions" before aid will be disbursed or the IMF will participate in the program.

The largest surprise included in the deal was the increased private sector involvement. Bondholders will be offered a deal with a 53.3% cut in the face value of their bonds, up from the 50% they agreed to in October. Interest rates on the new notes will be significantly lower than initially agreed upon at 2% for the first three years and 3% for the following five years, after which the bonds will yield 4.2%.

The bailout includes tough terms which would require a permanent team of monitors in Greece to ensure Athens abides by the bailout terms. Greece would be required to temporarily hold three months worth of bond payments in an escrow account. Finally, Greek leaders have agreed to change the constitution to make debt repayment a top priority of government spending.

Official lenders have also increased their share in the bailout in order to get projected debt to GDP down to 120% of GDP by 2020. They have cut interest rates on bailout loans to 0.5% for the next 5 years and 1.5% from thereon. This is expected to cut an additional €1.4 billion (2.2% of GDP) from Greece's debt burden.

Read the eurogroup statement.

ECB Exempt From Losses on Greek Debt

The ECB is set to exchange its Greek bonds, purchased for about €40 billion, for new bonds that are exempt from any legal action by Athens to impose losses. This is a step the ECB has deemed crucial in its potential plan to put profits on the holdings towards the Greek bailout.

The ECB cannot take losses on investments, as this would be directly funding governments which is against its legal charter. It will instead redistribute profits it would earn on those bonds toward a Greek bailout. In effect, the ECB will writedown its holdings to the discounted value at which it purchased the bonds. As per the final bailout deal the ECB will redistribute profits from the bonds to various central banks in exchange for substantially lowering the interest rates on Greek bailout loans.

France to Forge Ahead on Tobin Tax

France will move ahead with implementing a financial transactions tax despite not seeing Eurozone-wide support for the measure. French finance minister, François Baroin, has said the tax will charge 0.1% and raise €1 billion per year. France hopes that by leading on the tax it will pressure the rest of Europe to follow.

Many are dismissing the move as “election politics,” designed to win French President Nicolas Sarkozy votes in the upcoming elections. The French Banking Federation has noted that the tax will be “ineffective and counterproductive for the French economy,” as it is easily bypassed if unilaterally implemented. Mr. Baroin has dismissed this criticism, noting that France is prepared to implement the tax alone, but is confident others will follow suit.

China to Aid European Bailout

China has pledged to invest in Europe’s bailout funds and maintain its holdings of European sovereign debt. People’s Bank of China Governor, Zhou Xiaochuan said “China will always adhere to the principle of holding assets of EU sovereign debt,” adding further that China “would participate in resolving the euro debt crisis.” There is hope that the aid from China could bring other countries such as Japan, Russia, and even the United States to contribute as well.

Eurozone Economy Shrunk in 4Q

Europe's economy shrunk by 0.3% in the fourth quarter of 2011, the first contraction in two and a half years. The decline was slightly milder than the forecast of a 0.4% decline. Year total growth for the eurozone was 0.7%.

Ahead this Week

Tuesday – Spanish T bill Auction

Wednesday – German Bond Auction

Thursday - Greek Parliament expected to vote on introducing collective action clause to bonds

Friday – Italian Bond Auction

Saturday - Group of 20 finance ministers and central bank governors meet

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