With the Irish ?bail-out? moving to its sad denouement, the next sequence of events in the euro?s existential crisis is becoming clearer. Had the Irish banking sector?s ability to maintain funding not been resolved, the Spanish banking system would almost certainly have rapidly been seized by the same problems.
The Irish banks? loss of wholesale deposits had precipitated the current crisis, and the same class of depositors had already begun to trickle out of Spain. The European Central Bank?s balance sheet was barely able to temporarily provide liquidity to the Irish; the effect of a Spanish deposit flight on the central bank does not bear contemplation.
So, the crisis caused by tardy bank insolvency management has been dealt with, for the moment. This week, eurozone finance will turn back to sovereign insolvency, which means, for the moment, Greece.
This Monday, auditors from the International Monetary Fund, European Union, and ECB will have formally completed their review of Greece?s compliance with the terms of the May stabilisation programme. It is already understood that the spending and revenue targets for the Greek state will not have been met.
Nevertheless, the next tranche of ?9bn ($12bn) of EU-IMF money will be released next month, since apparent sincerity and new, revised promises are taken to count for as much as actual compliance.
From the point of view of the private sector market people, the outcome of this particular review is a crucial one. It means there will be no systemic crisis in December, which means the chances of getting through the month without losing the year?s profits, and bonuses, are very good. Reality can wait.
For how long?
Among the bankers and lawyers preparing for Greece?s forthcoming orderly default, there is disagreement over timing. Some believe the dramatic, shocking announcement and frantic public response should take place in the second quarter of 2011; others think some time in the third quarter would be more appropriate.
A third-quarter event is more in keeping with tradition, but judges in Germany and politicians in Greece are apparently getting tired of all this euro-folderol, and may move up the date, leaving more of the third quarter free for already-planned holidays. With my own holiday planned for August, I take the moral position that it is better for everyone to face facts, book investment losses and have further austerity imposed, sooner rather than later.
The Greeks and their advisers are already much further along in their thinking than euro officialdom. They realise that reaching a ?successful? conclusion of the three-year adjustment process agreed with the euro leaders would be a disaster for their balance sheet. As Greek bonds mature over that period, they are paid off in large part with new borrowings from Europe and the IMF, as well as with Greek banks? discounting bond purchases with the ECB.
That means Greece is exchanging outstanding debt that is legally and logistically easy to restructure on favourable terms with debt that is difficult or impossible to restructure. It is as if they were borrowing from a Mafia loan shark to repay an advance from their grandmother.
As has been noted publicly by sovereign debt lawyers such as Lee Buchheit of Cleary Gottlieb, the former counsel to Argentina, 90 per cent of outstanding Greek bonds are governed by Greek law. That means the terms of a restructuring could be set by the rapid passage of a law through the Greek parliament allowing for the application of ?aggregate collective action?.
So, if a specific fraction, say 80 per cent or 90 per cent, of all Greek bondholders agree to a restructuring that lowers the net present value of Greek debt by, say, half, then the remaining ?holdout? bondholders would be forced into accepting the same terms. Greek 30-year paper is now at 50 cents on the euro ? a good indicator for what the shorter-term paper is worth.
In contrast, Greece?s advances from eurozone countries, the IMF and the ECB are, in effect, unrestructurable. Unlike Argentina, which had a trade surplus at the time of its 2000-01 default, Greece needs continued financing, post-default, for a trade deficit. That would not be available if it tries to stiff the IMF or ECB, let alone Germany and France. Think Zimbabwe.
Also, as Whitney Debevoise, a sovereign debt lawyer with Arnold & Porter of Washington points out: ?There is an incentive for a country to be an early mover on getting access to [European stability funds].? After all, it seems as though the German, and other ?northern? taxpayers, will not accept an expansion of the European bail-out pot.
After euro-support for Ireland is paid out, you might have drawings by Portugal, and who knows when Spanish bank recapitalisation is necessary. So, I say late in the second quarter. After the next IMF test. Before I rent a summer place.
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