Beware, the Day After Tomorrow Is at Hand

by Simon Nixon

Wall Street Journal
June 8, 2011

It is now clear the euro zone stands at a crossroads, forced to choose between greater political integration and disintegration. And judging by the debacle over efforts to agree a new bailout package for Greece, it's hard to dispute the growing consensus that the forces of disintegration are on top. Last week's apparent agreement among the troika of the International Monetary Fund, the European Central Bank and the European Union to offer a new $60 billion aid package is already in doubt as member states haggle over the details. Yet the further European leaders descend into petty nationalism, the more likely the crisis will end with closer political integration.

European leaders are still divided over whether and how to make bondholders share the pain of bailouts, thereby easing the burden on euro-zone taxpayers. That's a laudable aim, but no one has come up with a workable solution—hard restructuring, soft restructuring, reprofiling, maturity extension, haircuts—that doesn't create more trouble than it was designed to avoid. The latest plan is to ask Greece's existing bondholders to roll over maturing debt. That may yet offer a short-term fix, but it also raises the risks that further bailouts requiring much more radical solutions will soon be needed.

On the face of it, the bond rollover idea has obvious appeal. European banks already have an agreement with the ECB not to sell Greek government bonds, so asking them to maintain their exposure when existing bonds mature is a logical extension of that deal, according to a senior ECB official. Only a third of existing bondholders need to agree to roll over their exposure to the €90 billion ($132.2 billion) of bonds maturing in the next three years to cover the shortfall in the current bailout plan; Greek banks alone could make up much of this. Agreements by lenders to maintain exposure to struggling economies have been a successful feature of past bailouts, including those in Eastern Europe in 2008.

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