Greece sustains another severe day on markets

GREECE ENDURED yet another tough day on the markets as investors brushed off fresh attempts to rubbish claims that the country is careering towards a restructuring of its debt.

French finance minister Christine Lagarde and European Central Bank (ECB) executive board member Juergen Stark stepped up yesterday to say restructuring was not on the horizon.

Mr Stark also appeared to dismiss the prospect of any imminent move by the ECB to deepen its support for euro zone banks, remarks that come weeks after the bank pulled back from a medium-term funding initiative for Irish banks.

“What is needed is structural adjustment for the banks not to depend for too long only on the refinancing operations of the ECB . . . But this is not our task. It is not our task to recapitalise banks; that is a task for governments.”

Greek bond yields remained at record levels as investors weighed increased default risk and a leading German academic economist said the country’s precarious position pointed to the likelihood of a “haircut” of its liabilities.

Senior euro zone officials are deeply divided over the merits of any move to reduce the debt burden but there is mounting concern that the pressure on the country’s finances will make it impossible to return to market financing as planned next year.

If that proves impossible, then Greece may require assistance from the European Stability Mechanism (ESM) permanent rescue fund, which comes into force in 2013.

A condition of ESM aid is that private investors bear bailout costs, leading many observers to conclude that some form of restructuring is inevitable.

This is weighing heavily on Greek bonds, with credit default swaps at record rates and the yield on the country’s two-year notes staying above 20 per cent for a second day. Portuguese borrowing costs are also at record levels as talks on its bailout proceed.

While Greece did manage to sell €1.625 billion of very short-term debt yesterday, demand for the paper was lower than previously and the interest rate was higher.

Such strain is fanning renewed market turmoil at time when the EU authorities are trying to hold the line that they have turned the corner in the battle against the debt crisis. A further concern in official circles is that much of the debt restructuring debate takes little account of the impact on the reputation and future borrowing costs of the defaulter.

However, informed sources acknowledge the disconnect between the mantra that restructuring now would be very unwise while any ESM intervention would be predicated on such a development.

As reports about the prospects of restructuring increase, certain euro zone officials concede they are not winning the argument that such steps are not necessary.

Davy analyst Donal O’Mahony said mixed messages from EU officials were compounding market volatility, adding that restructuring was an open question but one for resolution in the medium term.

“Greece is barely one year into its EU/IMF adjustment programme, and logic dictates that time be given to appraise fiscal consolidation and asset disposal efforts before determining the next step,” he wrote in a note.

“Such judgment [is] reinforced by threat of renewed adverse feedback loops between banking sectors and sovereigns, all the more so with European Banking Authority stress-testing now in train, and its credibility already under scrutiny.”

Adding to the pressure on Greece were remarks attributed to leading University of Oxford economist Clemens Fuest, a member of the academic advisory board of the Germany’s finance ministry. “One must recognise the realities – I am expecting a haircut,” he said. The present interest burden on Greece’s debt was “breaking” the country, he added.

Berlin quickly distanced itself from such remarks. A finance ministry spokesman said “absolutely not” when asked whether Mr Fuest spoke for the government. “He is an independent expert.”

There was no sense of any change of stance from Ms Lagarde, who said the notion of restructuring was not under discussion. “As a result, even if it may make some people smile, there is no question of envisaging such a mechanism.”

Mr Stark said restructuring would not solve the Greece’s debt problem, adding that fiscal difficulties would swiftly resurface. “With restructuring you would hit the wall again in a couple of years.”