EU May Consider Greek Guarantee to Offset ECB Concern

Euro-region governments may guarantee Greek bonds to make it easier for the European Central Bank to accept a default of the indebted nation after months of opposition to such a move, said two officials familiar with the talks.

Policy makers would aim to keep any period of default as short as possible, said an EU government official, who spoke on condition of anonymity because deliberations before today’s Brussels summit were confidential. The bonds could be backed up by top-rated securities sold by the European Financial Stability Facility, a national central bank official said. No decisions have been taken and an ECB spokesman declined to comment.

The proposal signals that leaders may find a way for the ECB to accept a default and sign up to a new package for Greece, which is a key step in stopping Europe’s debt crisis spreading to Italy and Spain. ECB President Jean-Claude Trichet, who is at the summit, has said until now that the ECB can’t accept defaulted Greek bonds as collateral in market operations, a step which would cut off funds to Greek banks.

“This could be the fix to the problem the ECB was facing,” said Laurent Bilke, head of inflation strategy at Nomura International in London, who used to work at the ECB. “If these guarantees are very short-term, maybe just for a few days, just to tide them over a short selective default, then taxpayers’ exposure will be limited.”

ECB Room

Dutch Finance Minister Jan Kees de Jager told his country’s parliament today that he sees “more room” for the ECB to accept a selective default. Luxembourg Prime Minister Jean- Claude Juncker told reporters before the summit that a Greek default can’t be excluded.

The risk was that a refusal by the ECB to fund Greek banks would have a sparked a collapse of the country’s financial system. The ECB is the main source of their funding and also holds the bulk of the country’s sovereign debt.

As part of its recession-fighting armory, the ECB lends banks as much money as they need for up to three months against collateral determined at the central bank’s discretion.

While the ECB last year suspended the minimum credit rating threshold for Greek banks, ECB Governing Council member Jens Weidmann from Germany told Die Zeit newspaper in an interview published July 13 that it’s “not our job to finance insolvent banks, never mind countries.”

Debt Burden

“The euro system only lends money against adequate collateral,” he was quoted as saying.
German government officials have signaled that a restructuring of Greek debt may be inevitable as governments try to carve out a second bailout package for the debt-laden country.

Leaders may turn to the EFSF fund to finance the Greek bond agreement. The 440 billion-euro ($624 billion) EFSF fund, overseen by euro nation governments, was set up last year to raise emergency fund for debt-strapped nations. In June, it put on sale 5 billion euros of 10-year notes at a yield of 3.49 percent.
So far, the fund has not been used for Greece even though it has co-financed the Irish and Portuguese rescue packages.(Bloomberg)