The fallout from a Greek debt default can be contained if European leaders reached an agreement to let the restructuring take place in an orderly manner, former IMF chief economist Raghuram Rajan has said.
Euro zone ministers failed yesterday to reach an agreement on how private holders of Greek debt should share the costs of a new bailout.
The lack of a deal pushed bond yields of Greece, Ireland and Portugal to their highest levels since the introduction of the euro in 1999, and Moody's today placed France's top three banks on review for a possible downgrade, citing the banks' exposure to Greek debt.
"One of the advantages of this long drawn-out crisis resolution process is that many private sector entities that were exposed to Greece have reduced their exposure," Rajan told reporters on the sidelines of an investment conference in Singapore.
"The extent to which banks in Europe are exposed to Greece is much more limited than it was, even say, six months or a year ago, and so the cost of a Greek default and restructuring could be absorbed by the banking sector," he said.
Mr Rajan said a restructuring of Greece's debt looked increasingly probable as Athens lacked the political will to carry out widespread privatisations of state assets and budget tightening.
"If it (the debt restructuring) happens in a way that banks and markets are prepared for, even if not publicly but at least privately, it is very well containable," he said.
"But a restructuring which happens because the dialogue breaks down will be more complicated because that would suggest that there will be implications for Ireland, for Portugal and so on, and that could be more problematic down the line."
Striking Greek workers today protested against a new wave of austerity after euro zone finance ministers failed to agree how to make private creditors contribute to a second bailout for their indebted country.
Socialist prime minister George Papandreou must push through a five-year deficit reduction and privatisation programme to continue receiving aid from the European Union and International Monetary Fund and avoid default after Greece fell behind on its first €110 billion rescue plan.
In Brussels, finance ministers of the 17-nation single currency area debated late into the night how to make private bondholders share the cost of the second rescue in two years without triggering even worse turmoil in financial markets.
They are aiming for a deal at a European Union summit on June 23rd-24th and will meet again on Sunday evening in Luxembourg. However yesterday's apparent impasse, and the absence of the usual news conference, sent the cost of insuring Greek debt against default rocketing to an all-time high.
Highlighting contagion risks from the Greek crisis, shares in top French banks tumbled after credit ratings agency Moody's said it might downgrade them because of their exposure to Greece's debt-stricken economy.
Greek bank stocks also fell by as much as 7 per cent on growing political uncertainty.
The French government sought to deflect market pressure by noting - perhaps pointedly in the light of differences between Paris and Berlin over the Greek bailout - that German banks were actually more exposed.
However, figures from the Bank for International Settlements show that France has the highest overall net exposure to Greece with $65 billion, compared to $40 billion for Germany and $41 billion for the United States.
A leaked European Commission working paper on options for private sector involvement, published by the Financial Times, showed the difficulty facing euro zone ministers in avoiding creating market havoc.
A voluntary rollover of bonds at maturity, favoured by France and the European Central Bank, offers the lowest risk of causing a credit downgrade for Greece and leading to wider contagion, but it would be impossible to quantify the private sector contribution in advance.
That means official lenders would have to provide more of the required €120 billion in funding, of which €30 billion are expected from privatisation revenues.
Furthermore, ratings agencies have said they could classify even an ostensibly voluntary debt swap as a "selective default", since it is hard to imagine a rational investor maintaining Greek exposure without coercion.
Reuters
