Tuesday, January 31, 2012

Greek Bond Math (Assuming the Deal Goes Through) ; Merkel Faces Backlash Over Deal; Political Zugzwang

Rumors that a deal will be reached "soon" have gone on for weeks. Indeed announcements of an expected agreement today have already hit new snags.

For the sake of argument, let's assume a deal does go through, then crunch the latest numbers to see what the situation looks like from the point of view of Greece (and the lenders as well) before and after the deal.

The place to start is the current projection for the size of the next needed bailout.

Please consider Greece Needs EU145 Billion in Second Aid Package
Greece requires 145 billion euros ($192 billion) as part of a second aid package for the cash- strapped country, 15 billion euros more than was agreed in October 2011, Der Spiegel reported, citing an unidentified official from the so-called troika of European Commission, European Central Bank and International Monetary Fund.

Greece needs more money because the country?s economic situation is worsening, the German magazine cited the official as saying. The gap can?t be filled by contributions from private creditors alone, it said.
Bigger Bailout Needed

So, presuming a deal goes through, Greece is going to take on another 145 billion euros of debt, up from 130 billion last week.

Let's now turn our attention to the latest deal rumors.

Private Investors Near Deal on Greek Debt

Bloomberg reports Private Investors Near Deal on Greek Debt

Let's assume for the moment that "near" really means "near" and not five weeks from now when undoubtedly Greek conditions will have deteriorated further, requiring of course a bigger bailout. Here are the pertinent ideas from the article to consider.

  • Investors holding euro206 billion in Greek bonds would exchange them for new bonds worth 60 percent less
  • The new bonds' face value is half of the existing bonds. They would have a longer maturity and pay an average interest rate of slightly less than 4 percent.
  • The deal would reduce Greece's annual interest expense on the bonds from about euro10 billion to about euro4 billion.
  • When the bonds mature, instead of paying bondholders euro206 billion, Greece will have to pay only euro103 billion.
  • The deal would reduce Greece's debt load by at least euro120 billion
  • Greece faces a euro14.5 billion bond repayment on March 20, which it cannot afford without additional help

Three Essential Facts 

  1. The new deal will reduce existing debt by 120 billion
  2. The new bailout funds will take the debt load up by 145 billion
  3. The net result is an increase in Greek debt of 25 billion

This is supposed to work? The reduced interest rate to 3.6% will of course help Greece. But what is the interest rate on new debt?

Regardless, given Greece's deteriorating financial condition, exactly how long will it take before the EU and IMF realize once again that Greece cannot possibly pay back the new 145 billion?

In whose best interest is this deal? I fail to see how it benefits anyone.

Merkel Faces Backlash Over Deal

The Financial Times reports Merkel faces backlash over EU pact
Angela Merkel, the German chancellor, is facing growing political pressure at home to demand stricter fiscal discipline from her eurozone partners at an extraordinary European Union summit in Brussels on Monday.

She also faces a potential revolt by conservative members of the German parliament over any call for more taxpayers? money to bail out the ailing Greek economy.

?If the Greeks don?t put the reform programme into effect, there can be no more help,? said Horst Seehofer, leader of the Bavaria-based Christian Social Union, in an interview with Spiegel magazine.

Philipp R�sler, economy minister and leader of the liberal Free Democratic party, junior partners in Ms Merkel?s government, threw his weight behind the call for stricter control over the Greek programme. ?If the Greeks cannot do it themselves, there must be stronger leadership and supervision from outside, for example from the EU,? he said.

On the eve of the EU summit, which is supposed to finalise a formal treaty on budget discipline, Ms Merkel?s supporters in the German Bundestag are also calling for those rules to be made tougher.

?As it stands, the draft treaty does not go far enough,? a senior official of the Christian Democratic Union in the parliament said on Sunday. He said the centre-right group wanted sanctions to be imposed more automatically for excess debt and deficits, and a tighter timetable for all 17 eurozone members to introduce a binding commitment to balanced budgets in their national constitutions.
Political Zugzwang

Zugzwang is a term in chess. A player has to make a move but every move weakens the position. Pass is not an option.

Merkel is in such a no-win position. Everything she does will put her under attack by someone. Doing nothing, is an option in politics but not chess. However, doing nothing also exposes Merkel to attack.

Attacks Fly

Check out this nonsense from former European Commission chief Jacques Delors who says Resistance to eurozone bailout boost 'scandalous'
Former European Commission chief Jacques Delors on Sunday blasted the reluctance of eurozone countries like Germany to boost the size of the Greek bailout and create a system of eurobonds to facilitate lending.

"It is scandalous. You cannot be a member of the euro cooperation and at the same time say no to elementary demands for solidarity with other members within the framework of existing agreements," the prominent European federalist said in an interview with Dagens Nyheter, Sweden's daily of reference.

"We have to save Greece together. What has been done so far is too little, too late," he added.

Delors, who was commission chief between 1985-95 and a key player in creating the framework for the euro's 1999 launch, said it was "out of the question" to push Greece out of the eurozone and insisted the solution was for "Greece to privatise more of its economy."

"The euro countries also must together introduce common eurobonds, ... not to finance the current debt but to create greater efficiency and connectivity in the financial and monetary system," the 86-year-old Frenchman said.

The creation of such a "eurobond," which would pool the debt of the entire monetary bloc in a bid to reassure markets and facilitate lending, has long been a contentious issue among top policymakers, with the European Commission and France being in favour of such an instrument but Germany strictly opposed for now.

"It is a mistake of German Chancellor Angela Merkel to refuse to go along with such bonds," Delors said.
Delors' Self-Serving Pomp

What's scandalous if for political hacks like Delors to assume the Eurozone is worth saving, then tell everyone else how to go about it without taking into consideration any restraints others may have.

I suggest the euro is not worth saving. For the sake of argument, however, let's assume the eurozone is worth saving, and start with a look at Merkel's options.

Merkel's Predicament

  1. If Merkel proposed Eurobonds, her coalition would collapse and she would be ousted. Moreover, the German supreme court would certainly demand a referendum which would fail. The irony then, is if Merkel did what Delores asked, the eurozone would fly apart right here right now.
  2. If Merkel proposed significantly more bailout money, her coalition would also collapse and once again the proposal would be at risk of a challenge from the German supreme court.
  3. If Merkel does nothing, she takes heat from political dimwits like Delors and an entire gamut of other nanny-zone supporters. She also takes heat from her coalition.
  4. If Merkel steps up the pressure on Greece she hears it from her political opposition, from Delors, and from a whole host of parties representing a myriad of political views.

That my friends is political zugzwang and that is precisely why she called for Greece to Cede Sovereignty to Eurozone "Budget Commissioner".

Her proposal elevated the ire of Greeks as well as the likes of political hacks like Delors. Yet, that option is the one that made the most sense.  It was her least-worst option, that also bought her and the eurozone the most time.

It is the only option that has any chance of working.

By making those demands, she has a chance of keeping her coalition together. Indeed, if her demand are met or if Greece exits the eurozone in response, she might even be viewed as a hero!

Simply put, she is doing everything she can to keep the eurozone together. For doing the best she possibly can under the circumstances, she gets nothing but grief.

I think the best thing for the Eurozone would be for Germany to exit. The irony is that would likely happen if Merkel embarked down the path demanded by eurofools like Jacques Delors.

Mike "Mish" Shedlock
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