Greece’s new finance minister has charmed markets with a surprise proposal for a "menu” of bond swaps to reduce his country’s debt burden.
That approach appears far less contentious than earlier demands from the new Greek government that a large share of its debts be forgiven. Yet a closer reading of the menu suggests its contents may not prove so appetising to the country’s eurozone creditors.
Details are still scarce, but the government’s idea is to exchange European rescue loans for debt linked to future GDP growth and convert bonds owned by the European Central Bank to new instruments without a maturity date — perpetual bonds.
The question is whether creditors will accept the alternative plan. Beneath the technical details of the latest proposals lies a difficult dilemma, say analysts: debt exchanges that give Greece meaningful relief are likely to imply meaningful sacrifices for its creditors.
"If done in a neutral way that does not lead to losses for official creditors, then it will serve as insurance against unexpected GDP shocks, but it won’t lead to gains for Greece,” Zsolt Darvas, a research fellow at the Bruegel think-tank, said. "It will not reduce the debt burden.”
So far, eurozone governments have shown little willingness to make bigger sacrifices for Greece and its new government led by the leftwing Syriza party.
Yanis Varoufakis, Greece’s new finance minister, will travel to Frankfurt on Wednesday to try to drum up support from Mario Draghi, the ECB president, and then Berlin on Thursday for a meeting with Germany’s powerful finance minister, Wolfgang Schäuble.
Mr Schäuble, in particular, has so far given the new Greek government a cool reception, last week warning the newly appointed Mr Varoufakis against trying to "blackmail” Berlin into debt forgiveness and demanding that Greece uphold its obligations.
Perpetual bonds and GDP-linked debt are not new ideas — nor are they widely popular ones.
Greece already has GDP-linked debt that was created in the midst of a 2012 restructuring. It came in the form of warrants to existing bondholders who are paid back a maximum of 1 per cent of face value every year from 2015 to 2042 if Greek GDP hits a complicated set of targets.
Costa Rica, Bulgaria and Bosnia Herzegovina all turned to growth-linked securities in the 1990s, as did Argentina following its 2002 default. Similarly, Mexico has issued bonds linked to oil prices.
Such bonds pay more to creditors when times are good and less when they are bad. Advocates say they give their issuers some form of protection — particularly during an economic downturn — as long as creditors are willing to be flexible. The idea has been promoted at various times by the economist Robert Shiller, the International Monetary Fund and the Bank of England.
But their popularity has been constrained by two main criticisms. The first is the concern that governments might cheat on their GDP figures to reduce what they have to pay creditors. Then there is the problem of agreeing interest rates for such esoteric securities, which are often turned to only in times of crisis.
Alberto Gallo at RBS said that if such practical issues could be overcome then growth-linked bonds were a better proposition for borrowers such as Greece than the more conventional approach of merely extending debts long into the future.
"For public sector debts, the hope is that interest rate cuts and maturity extensions will eventually make debt disappear,” Mr Gallo said. "This is unlikely.” For the creditor, he argued, such bonds present a chance to be repaid and avoid the risk of suffering certain losses from a "haircut”.
Perpetual bonds are similarly rare but were once far more widespread. In 1751, the British Prime Minister Henry Pelham converted the entire stock of British debt into perpetual bonds that would pay out interest but came with no requirement for the government ever to repay the face value.
The Netherlands and Portugal also have small sums of perpetual debt and as recently as 2012 the UK Treasury was said to be considering selling more perpetual bonds to lock in low market interest rates and reduce the future costs of servicing the government’s debt.
The ECB is not legally allowed to extend its loans. In theory, though, Greece could take out an exceedingly long maturity loan from eurozone’s bailout fund to repay its ECB debts. But to do so, it would need to be in a formal eurozone rescue programme — precisely what Athens is trying to forgo.
"European partners cannot accept everything,” Mr Darvas said, "but in my view, giving up the haircut demand by Greece is a good start and reasonable compromises should be found.”
(Financial Times)
