Tuesday, January 17, 2012

Too Late for Greece?

S&P downgraded a number of the Euro-zone nations last Friday, including France, Austria, Italy, Spain, Portugal, and others.  They did this writing, "The outcomes from the E.U. summit on Dec. 9, 2011, and subsequent statements from policymakers, lead us to believe that the agreement reached has not produced a breakthrough of sufficient size and scope to fully address the Euro-zone's financial problems."  They go on to assess the recent European Central Bank monetary policy actions as "instrumental in averting a collapse of market confidence."

Athens (photo: Steve Swayne)

Additionally, S&P's managing director Moritz Kraemer told Bloomberg, "Greece will default very shortly. Whether there will be a solution at the end of the current rocky negotiations I cannot say."  Adding, "There is a lot of brinkmanship on and a disorderly default will have ramifications on other countries but I believe policymakers will want to avoid that ... The game is still on."

Kraemer is calling the Greek default based on European Union (E.U.) plans to force current Greek debt holders to "roll over" Greek debt into new debt instruments such as EFSF bonds (which was also downgraded from AAA to AA+).  "Even the debt exchange, by our definition, is a default.  It's a distressed exchange."  The ratings agency, Fitch has also indicated that it believes that would be a default as well.  The Wall Street Journal is setting a date on the potential default as March 20, 2012.  Apparently Greece has an especially large amount of debt to repay that day, and they do not currently have the money, so they will either need another large bail out or a rollover program in place.

There seems to be an enormous decoupling of Greek debt from the primary market, which has had small interest rate increases and the secondary market, which has seen interest rates rise quickly.  The secondary market is seeing Greek government one year bond spike to as high as 415%.  Greece has stopped offering one year debt, but their 26 week debt interest rates went for significantly less, 4.9% at their last auction last Tuesday.  This decoupling suggests the large extent to which the E.U. is bailing out Greece, and that few other institutions are joining them in loaning to Greece.

(chart via Bloomberg)

The run up in the secondary market also happened after this rollover plan was announced.  Details of this plan have not been finalized, and this is what S&P and Fitch are saying will constitute a default when it occurs.  The ECB is saying that it will still accept Greek debt as collateral if even only one of the three major ratings agencies does not declare Greece in default.

This comes on the heels of success for the E.C.B.'s fine tuning program, which drove down yields last week on Greek debt (slightly), and Italian debt.  I have to worry if this program, as fine suited as it is for putting out the flames of this crisis, is too little too late for Greece (and then perhaps for the rest of Greece if contagion overwhelms).  If contagion and crisis does spread from either a Greek default or a Greek exit from the Euro... one has to place a large amount of blame on the ECB (under Jean-Claude Trichet) for not starting their fine tuning earlier, and attempting to target it towards Greece which has seen a significant shrinking of their M2 all year.

Greece is auctioning off more 13 week debt today.

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