Merkel comments on Greek euro membership denied

A Greek-German row broke out this evening after Greece's government spokesman said chancellor
Angela Merkel raised the idea of Athens holding a referendum about its euro zone membership next month, which  Berlin vehemently denied.

The confusion arose after a telephone call earlier today between Dr Merkel and Greek president Karolos Papoulias, in which Dr Merkel conveyed her hope for a functioning government in Greece after repeat elections on June 17th.

Greek government spokesman Dimitris Tsiodras said after the call that Dr Merkel also raised the idea of a referendum.

"(Merkel) relayed to the president (Karolos Papoulias)thoughts about holding a referendum in parallel with the elections on the question whether Greek citizens wish to remain in the euro zone," he said.

A German government spokesman rejected the idea that Dr Merkel had proposed a referendum. "This is false and we completely dismiss this," the spokesman said.

A spokesman for the Greek government subsequently disputed the German denial and said the issue of a Greek referendum was in fact raised by Dr Merkel during the course of the telephone conversation.

Greece's international bailout, in which Germany is the single biggest contributor, has strained relations between the two countries as debt-laden Athens finds it increasingly hard to meet the harsh austerity measures Berlin demands. Greece's May 6th election produced a hung parliament evenly divided between pro- and anti-bailout parties, leading to the June 17th vote.

EU leaders and officials have since warned that if the country fails to elect a pro-bailout government, Athens might have to abandon to euro.

A referendum could not be held under Greek law because Greece's current interim government has no authority to call it.

"It is obvious that this issue is outside the scope of a caretaker government," Mr Tsiodras said in his statement.

Several Greek parties accused Dr Merkel of infringing on the country's sovereignty.

"The Greek people don't need a referendum to prove they're pro-euro," said conservative leader Antonis Samaras, who backs the international bailout.

"Her idea is unfortunate, to say the least, and can't be accepted," he added.

"Ms. Merkel is used to address Greece's political leaders as if the country was a protectorate," said Alexis Tsipras, leader of the anti-bailout radical leftist Syriza.

Earlier, German finance minister Wolfgang Schaeuble, one of Greece's harsher critics, said market turmoil fuelled by the euro zone debt crisis could last another year or two.

"Regarding the crisis of confidence in the euro ... in 12 to 24 months we will see a calming of the financial markets," he said.

European shares hit their lowest level since December, depressed by the prospect of a Greek euro exit spreading a wave of contagion in the currency union which could engulf much larger economies such as Spain's.

Policymakers insist they want Greece to remain in the euro zone but European Union trade commissioner Karel De Gucht said the European Commission and the European Central Bank were working on scenarios in case it has to leave.

"A year and a half ago there maybe was a risk of a domino effect," Mr De Gucht told Belgium's Dutch-language newspaper De Standaard.

"But today there are in the European Central Bank, as well as in the Commission, services working on emergency scenarios if Greece shouldn't make it. A Greek exit does not mean the end of the euro, as some claim."

Speculation about such planning has been rife, but Mr de Gucht's comments, which were confirmed by a person close to him, appeared to be the first time an EU official has acknowledged the existence of contingencies being drawn up.

A German finance ministry spokeswoman, asked about plans for a possible Greek exit, said without elaborating: "The German government naturally has the responsibility to its citizens to be prepared for any eventuality."

But the European Commission's top economics official, Olli Rehn, later dismissed Mr De Gucht's comments.

In a statement released by the European Commission's press officer in Berlin, Rehn said: "Karl De Gucht is responsible for trade. I am responsible for financial and economic affairs and relations with the European Central Bank. We are not working on the scenario of a Greek exit. We are working on the basis of a scenario of Greece staying in. We do not comment on speculative issues."

A spokesman for the Commission, also wrote on Twitter there was no active planning."(The) European Commission denies firmly (that it) is working on an exit scenario for Greece," Oliver Bailly wrote.

"(The) Commission wants Greece to remain in the euro area."

World shares slid and German borrowing costs hit record lows as uncertainty about Greece's future in the euro zone and a deepening Spanish banking crisis bolstered safe-haven assets.

Investors were rattled by a ratings downgrade of 16 Spanish banks by Moody's Investors Service, although the move had been expected.

Sentiment has soured to such an extent that an opinion poll showing Greeks are returning to establishment parties which support the country's bailout had little impact.

If they vote that way in June 17th elections, Greece's place in the euro zone would look more secure and the threat of contagion to countries such as Spain would diminish.

The poll, the first conducted since talks to form a government collapsed and a new election was called, showed the conservative New Democracy party in first place, several points ahead of the radical leftist Syriza which has pledged to tear up its €130 billion bailout programme.

"It's up to Greek politicians to explain the reality to their people and not make false promises," Mr Schaeuble told France's Europe 1 radio.

"We want Greece to stay in the euro but meet its commitments and that's a decision that's up to the Greeks."

The biggest fear for European leaders is that a Greek meltdown, which would surely follow the stoppage of its bailout funds, triggers a domino effect among the currency bloc's weaker members.

Even aside from the contagion threat, they have huge problems of their own.Spanish banks' bad loans rose in March to their highest level in 18 years, figures from the Bank of Spain showed on Friday, underscoring the problems facing the government as it attempts to clean up the sector.

The Bank of Spain said bad loans rose to 8.37 per cent of the banks' outstanding loans, the highest since August 1994 and up from 8.3 per cent in February. Banks beset by bad property loans which could deteriorate further, along with overspending in indebted regions, are the two biggest risks for Spain's public finances.

Investors believe Spain needs to aggressively address these two issues to avoid a bailout and pushed Spanish borrowing costs to euro-era highs this week.

Additional reporting by Reuters/Bloomberg