EU proposal puts bailout burden on investors


EU FINANCE ministers opened the door to debt restructuring in the euro zone with a deal to force bailout losses on private investors if aid recipients “cannot realistically” restore debt to a sustainable path.

The agreement on the scope and scale of the new European Stability Mechanism (ESM), which ends months of difficult talks, will be put to EU leaders at a summit on Thursday and Friday for final approval. It suggests that rescue aid will not in future be granted if a euro zone country whose debts are deemed unsustainable cannot demonstrate a credible plan and sufficient commitment to “ensure” adequate and proportionate private sector involvement.

“I can tell you that we have agreed on all elements relating to the ESM,” euro group chief Jean-Claude Juncker told reporters last night in Brussels.

The ESM fund will take over from the temporary European Financial Stability Facility (EFSF), from which Ireland is drawing aid, in mid-2013. It will be backed in the form of paid-up capital, callable capital and guarantees to the tune of €700 billion by euro zone countries. This backing is designed to ensure a lending capacity of €500 billion and a triple-A credit rating.

Euro zone governments will provide €80 billion to the fund, €40 billion in 2012 with the balance paid over in each of the following three years. As a bailout recipient, however, Ireland will not be contributing capital or guarantees to the fund for as long as its rescue programme continues.

While member-state contributions will be made according to the share of the capital they hold in the European Central Bank, the ministers agreed to reduce the backing required from countries whose gross domestic product (GDP) is less than 75 per cent of the EU average.

While a three percentage point “margin” is currently levied over and above borrowing costs of the EFSF on loans to aid recipients, an annual interest fee at two percentage points will be levied for ESM loans with an additional percentage point “surcharge” for loans outstanding after three years.

Many of the operational features will be similar to those of the EFSF, which grants aid only on the basis of very strict policy conditionality. However, it will have two new operational features. The first is provision for private sector participation. The second is power “in exceptional circumstances” to intervene in primary debt markets to buy sovereign bonds directly from euro countries.

There was no agreement to provide for discounted bond buybacks by the EFSF or for the rescue fund to participate directly in bank recapitalisations, two ideas mooted during debate on the overhaul of Europe’s bailout scheme.

On debt restructuring, controversially introduced at the behest of German chancellor Angela Merkel, the ESM “term sheet” signed off by ministers said an “adequate and proportionate” form of private sector involvement will be expected in all cases where financial assistance is received.

“The nature and extent of this involvement will be determined on a case-by-case basis and will depend on the outcome of a debt sustainability analysis, in line with IMF practice, and on potential implications for euro-area financial stability,” it said. “If, on the basis of a sustainability analysis, it is concluded that a macroeconomic adjustment programme can realistically restore the public debt to a sustainable path, the beneficiary member state will take initiatives aimed at encouraging the main private investors to maintain their exposures.”

However, member states will be required to engage in active negotiations “in good faith” with creditors to secure their direct involvement if their debt is deemed unsustainable. In such talks, member states will be obliged to adhere to the principles of proportionality, transparency, fairness and cross-border co-ordination.

Moreover, new “collective action clauses” (CACs) will be included in all new euro area government securities with maturities above one year from July 2013.

“The objective of such CACs will be to facilitate agreement between the sovereign and its private-sector creditors,” the term sheet said.

On the direct purchase of sovereign debt from member states with “severe financing problems”, the ministers said the objective was to maximise the cost efficiency of such support.

This would be done only “on the basis of a macroeconomic adjustment programme with strict conditionality”.