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"I am concerned by individual countries asking for collateral, which, while understandable, is not consistent with the spirit of the July 21 agreement" |
Financial market participants had been bracing themselves for a sovereign debt restructuring in Europe for 18 months before Greece’s bailout deal was agreed at a summit in late July. It was a pivotal moment in the crisis, with a sovereign member of the eurozone seeking debt forgiveness for the first time from owners of its bonds. Talking to participants in the negotiations, one strange aspect that emerges is that private-sector investors were almost more eager to take these hits than other governments were to put Greece’s finances on a stable footing.
Charles Dallara, managing director of the Institute of International Finance, says: "Even when some European governments were still arguing that private-sector involvement was not the way to go, private creditors had recognized that it was unsustainable simply to pile on more IMF and official-sector debt and that some form of forgiveness was the best way to prevent an outright train crash from hitting their balance sheets."
One of the many concerns roiling the markets was over the great difficulties in pulling together diverse private-sector investors in Greek bonds to participate jointly in any voluntary and negotiated restructuring of debt terms.
In the event, the IIF, the trade association for large international banks that has been most active since the financial crisis in lobbying regulators and encouraging members to meet new best practices in how they run themselves, stepped forward and played a surprise role. The IIF was able to coordinate an offer to Greece that covered a menu of options for investors to exchange or roll over existing holdings of bonds into new 30-year instruments with low interest rates in the early years.
The target participation rate is 90% and, as Euromoney went to press, it remained uncertain that this could be achieved. Without it, the deal might not go ahead. But at the outset, the list of signatory financial institutions to the offer, which entails a loss of net present value of about 21%, looked impressive. It includes not only leading banks from France, Germany, the UK, Spain, Italy, Scandinavia and Greece itself, but also leading insurance companies including Allianz, Axa, Munich Re, Swiss Re, Zurich Financial and Generali. Several of these are not IIF members but they have asked the IIF to represent their interests.
Rather than fractious private-sector creditors, it was squabbling sovereign participants that threatened to overturn this Greek lifeboat in August when they began falling out over side-deals for collateral commitments.
How did the IIF come to play this role? Dallara points out that the body, which came together in the Latin American debt crisis of the early 1980s and then comprised mainly large US, European and Japanese commercial banks that were appointed to the steering committees on debt renegotiations, has expanded its membership radically ever since to encompass banks across the emerging markets and non-banks, including investment banks, insurers and asset managers. This expansion reflects the growing importance of capital markets investors relative to bank lenders as channels of funding to sovereign borrowers.
Intermediary
"I met the prime minister of Greece in Davos in 2010 and, as the strains around Greece erupted, we sent in teams of country analysts and economists to renew our insights into the country," Dallara recalls.
He points out that, behind the scenes, the IIF, which has a staff of strong country economists and capital markets analysts, has often played a role in Europe intermediating between countries encountering difficulties in maintaining access to finance and their most important providers of funds.
This has usually played out away from the glare of publicity. National governments don’t want to make it too obvious that international banks might be playing a prominent role in setting their budgets. But these interventions, with the IIF playing the role of honest broker between debtor nations and their creditors, go back to Latin America in the 1980s, Mexico in the 1990s, Brazil at the start of the 2000s and more recently in emerging Europe.
| "This is a country that has very quickly reduced its annual budget deficit by 5% of GDP. If they do manage to increase revenues and bring in privatization receipts, that will change the dynamics of how the investor community views Greece" |
Dallara recalls: "In 2006, the prime minister of Hungary [Ferenc Gyurcsany] admitted that he had misled the markets over the strength of the Hungarian economy in the run-up to being re-elected and that admission destabilized the exchange rate and the country lost access to the markets. The Hungarian government came to us and asked us to organize meetings with investors to develop a policy adjustment framework, which we agreed to do with the condition that we approved their approach to tackling the economy. Those meetings helped restore investor confidence.
"More recently, when the market was losing confidence in Turkey’s current account position, finance minister Ali Babacan came to us for help. When we made sure we were comfortable with their policies – and we went through the fiscal accounts and encouraged them to change the way in which they reported certain numbers – we organized meetings for Babacan and the central bank governor here in London that were pivotal to Turkey renewing access to the financial markets."
Now, with the Greece bailout deal offer in July, the IIF has publicly raised its head above the parapet as a principal negotiator in a tense and yet unresolved crisis that sees it dealing not only with Greece and bond investors but also other creditor governments and the IMF. These don’t want to lend money to Greece simply so that Greece can then repay its bondholders on time. The banks and investors get this, rather better than the governments, it seems.
Dallara says: "When it became clear that private-sector involvement was needed, we discussed this potential role with the Greek prime minister and our own board but held off until July when we were approached by the eurozone deputy finance ministers’ group who asked what we thought would be needed to restore market access and to reach out to the investor community."
It is a shame that the private-sector lenders did not take a lead role much earlier in the Greek crisis. When its bonds were trading around 80% of face value a year and a half ago, there might have been a time for Greece to offer to buy them back, capture some debt forgiveness and engage with creditors early on the need for structural reforms including privatization.
Private sector
It is shocking to realize that it was private-sector lenders that were pushing to take haircuts on their Greek positions so as to restore debt sustainability, when the official sector was not. Jean-Claude Trichet, president of the European Central Bank, appeared to set his face against this, perhaps partly for the embarrassment of having to take losses on the ECB’s own principal balance-sheet positions.
Other participants in the crisis, speaking not for attribution, suggest that Trichet and other leading official-sector players were simply in denial. "He sees himself as a guardian of the euro and could not seem to accept that one of its member states would need to have any portion of its debts forgiven," says one. "He was not alone in this. Many in the official sector feared that a sovereign default would spell the end of the single currency, but it need not."
For private-sector veterans of sovereign debt restructuring the key question over the viability of the Greek offer is not whether bondholders have been asked to take too big a hit but rather too small a loss. "The private sector has to get involved at a realistic level," says a banker who has worked on several emerging market sovereign debt restructurings.
Unconvinced
He is unconvinced by the Greek deal. "There looks to be a lot of collateral in the proposed exchange and not enough debt forgiveness. There is no cookie-cutter approach to these things but the politicians and the populations of debtor nations have to be able to see some light at the end of the tunnel and they have to feel some ownership for the programmes rather than chafing at what has been imposed by outsiders, the EU, or the IMF and the banks. There’s a lot of austerity here but not much on increasing revenue."
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| target for Greek debt-to-GDP ratio reaching 100% |
Dallara clearly hopes that the Greek offer will work. He says: "If we manage to achieve the proposed immediate debt reduction of €13.5 billion through the bond exchange programme and up to €20 billion including the debt buy-back, that will quickly bring the debt-to-GDP ratio down from 142% to 125% and then further reductions through primary surpluses should bring it to 120% by 2018 and put it on the path to 100% by 2020. That is even without growth any higher than current IMF forecasts. Remember this is a country that has very quickly reduced its annual budget deficit by 5% of GDP. If they do manage to increase revenues and bring in privatization receipts, that will change the dynamics of how the investor community views Greece."
Dallara knows well that that’s a long list of rather big ifs. One Greek economist who has advised the prime minister sees a positive. He tells Euromoney that scepticism outside the country over Greek willingness to proceed with privatization is overstated. "There is an opportunity here for much-needed reform. The Greek population has lost faith in the political class and its ability to manage ports, roads, airlines, airports and telecoms. I don’t think there will be too much resistance to selling the family jewels."
The difficulty is that Greece might be selling these assets when buyers are cautious and their own funding is scarce.
In the short term, Dallara has more pressing concerns about the deal. He admits: "I am concerned by individual countries asking for collateral, which, while understandable, is not consistent with the spirit of the July 21 agreement."
In the long run Europe has many bigger concerns if this is not to be the first of several occasions when the IIF is forced to pull out its menu of options for sovereigns with unsustainable debts.
Europe’s fractured decision-making process is a worry. While investors were pleased to see an announcement on July 21 of new powers for the European Financial Stability Facility (EFSF) to intervene directly in the markets for stressed sovereign bonds, and forestall outbreaks of panic, this still requires the approval of national parliaments. As the IMF/World Bank meetings kick off in Washington, many eyes will be on a possibly tight ratification vote in Slovakia.
