July 3, 2011 3:49 pm
The Greek rollover pact is like a toxic CDO
By Wolfgang Münchau
It was always clear that European politicians would ultimately end up trying a complex debt product to solve the crisis. If you want to “kick the can down the road”, as the wearily favourite metaphor of the crisis goes, if you want to obfuscate facts and circumvent rules, then a variant of a collateralised debt obligation seems the perfect choice. I wonder what took them so long.
.
I have no space for a large drawing with lots of boxes and arrows to explain the complexity of the vehicle, through which eurozone governments want to involve the private-sector banks in its next loan package. So here is my best attempt in words: if you own a Greek bond that matures by June 2014, you keep 30 per cent of the redemption as cash, and roll over 70 per cent into a 30-year Greek government bond. The Greeks will have to pay an annual coupon, or interest rate, of between 5.5 per cent and 8 per cent. The precise rate will depend on future economic growth.
Of the money received, Greece will lend on 30 per cent to a special purpose vehicle, another well-known construction from the subprime mortgage crisis. The SPV invests into AAA-rated government or agency bonds, and issues a 30-year zero coupon bond. The purpose of this is to guarantee the principal of the 30-year Greek government bond that you just bought.
With this construction, the downside to your losses is limited. Depending on how some of the parameters of this agreement evolve, you will probably make a small loss, relative to the par value of your holding. If you are lucky, you might come out positive. You will probably not be lucky. But you will still be better off than if you sold today, or if Greece were to default. More important, the accounting rules allow you to pretend that you are not making any losses at all.
If this was any other field of human activity, you would go to jail if you accepted, let alone made such an indecent offer.
This structure is still not quite so complex as some of the more elaborate CDOs we have encountered in the global financial crisis. If you take some time to work through the arrows and boxes, you see relatively quickly that this complex structure is not a private sector participation at all. Rather it is a private sector bail-out.
It is also inevitable that Greece will default on its coupon payment at some point. The interest will be 8 per cent under a benign growth scenario, and 5.5 per cent under a not so benign one. Either way, Greece cannot pay such a high level of interest.
As Jeffrey Sachs pointed out last week in the Financial Times, if you really wanted to achieve Greek debt sustainability, you would need to reduce the interest rate to about 3 per cent. This is what Germany pays for 10-year bonds. And even then would you have to extend the maturity of those bonds as well. Neither is, unfortunately, on offer.
All there is, is this dirty little con-trick. The complexity of the scheme is due to the need to persuade the rating agencies not to attach a default rating to Greek bonds.
The rollover agreement represents, from an economic point of view, nothing but a collateralised bond. It subordinates all other bondholders. The rating agencies would normally not hesitate to attach a default rating to Greek government debt.
So the solution is to create a complex structure, and claim that it is technically not a collateralised bond, but something that defies definition.
Just why the Greeks would want to accept such a ruinous deal is not clear to me. They did their duty last week when they voted for the austerity programme and its implementation law.
The acceptance of the terms of this private sector participation agreement was never part of the agreement with the European Union and the International Monetary Fund. They could therefore simply refuse, and throw the ball back to Europe’s squabbling finance ministers. I doubt they will do this. They seem scared about the consequences of an immediate default.
Nevertheless, once the treacherous nature of this contraption is fully understood, I would expect the politics of crisis resolution in Greece to become even more difficult, and accident-prone.
How about Germany? Having made so much fuss about the need for private-sector involvement, Germany managed only to secure a pitiful €2bn from its own non-state sector banks. The French banks have more short-dated Greek debt securities than their German counterparts, and thus have made a correspondingly larger commitment.
Considering the line-in-the-sand rhetoric from Berlin on the issue of private sector participation, one might be surprised to hear that this tiny, cuddly, bank-friendly agreement will now miraculously secure a Yes vote in the Bundestag. The speed with which the German government is shifting inalienable positions is breathtaking.
We have learnt from the financial crisis that one should not place too much faith in financial vehicles with three-letter acronyms. But that is what we are doing with this European equivalent of a late-period subprime mortgage CDO.
We are not just “kicking” any old “can down the road” any more. This is a can of explosives.
Copyright The Financial Times Limited 2011
0 comments:
Publicar un comentario