What the eurozone deal means for banks, markets and Greece

27th October 2011

Here Bloomberg discusses how the Institute of International Finance agreed the deal on behalf of more than 450 global institutions, but it doesn't sound like they had much choice if this quote from Luxembourg Prime Minister Jean-Claude Juncker is anything to go by though he gives himself quite a pivotal role alongside the French and German premiers.

He said: "It was the fiercely delivered wish by Merkel, Sarkozy, Juncker, that if a voluntary agreement with the banks was not possible, we wouldn't resist one second to move toward a scenario of the total insolvency of Greece. That would have cost states a lot of money and would have ruined the banks."

European Voice reports on the view of the European Banking Authority, the body which among other things conducts stress tests. It has backed the big recapitalisation and says Europe's banks need a new buffer mainly against sovereign debt of at least euro 106 billion.

The website notes that: "The banks are expected to find the capital either by going to private markets, or by retaining profits and withholding dividends and bonuses, or by replacing existing instruments with higher quality capital instruments. If those measures are not sufficient, then, says the EBA, government backstops should be made available."

The Wall Street Journal gives more details. It writes that "As part of the new capital buffer target, the EBA said banks must build a temporary reserve against their sovereign debt exposures to reflect current market prices. Greek, Portuguese, Spanish and Italian government debt has been hit by concerns over the countries' finances."

The Journal notes that several large banks have said that they will not have to turn to shareholders.

A Barclays Capital note says: "The scope of the capital shortfall is roughly in line with estimates floating in the media earlier this week and … should not come as a big surprise to markets. It now remains to be seen whether the envisaged recapitalization threshold can be met by the banks by themselves or would require national public or EFSF support."

FTAlphaville gives a list of banks which has issued statements about the capital positions so far.

Impact on Greece

However, is it enough to help Greece? Zero Hedge's Tyler Durden says: "The Greek haircut will be 50%, which is still insufficient as it excludes ECB Greek debt holdings, plus as the IMF noted, a 60% NPV haircut on all bonds is needed for Greece to return to viability."

Indeed, in another post, Durden suggests the real haircut is around 28 per cent because existing loans and not included.

Greek Reporter also remains unconvinced that the full implications have been understood for Greek banks which have to hold Government debt and for Greek pension funds.

It writes: A 50 percent haircut means Greek banks will have to be rescued by the government – although exactly how is unsure since the bailout money isn't available and that's what will cause the haircut in the first place. Greek pension funds will lose about $16.6 billion, making pensioners who have already had their pensions cut under austerity measures anxious about what will happen to them next, especially as they, like other Greeks, struggle to pay a raft of new "emergency taxes" while tax evaders costing the country nearly $40 billion a year have gone almost untouched. Each time unemployment rises by 1 percent, the pension funds lose about $695 million in contributions, as Greek newspaper Kathimerini notes.

Fund manager Schroders thinks further action on Greek debt may be necessary too and is sceptical of the 120 per cent figure.

European economist Azad Zangana says: "the full details of the Greek restructuring are unlikely to be available until the end of the year, with the EU targeting implementation at the start of 2012. It appears that the announced measures have the support of the vast majority of creditors. However, we still have no confirmation of the extent of the voluntary take up. The hope is that taking the haircut together with Greece's austerity programme and the support provided by the EU and IMF that its debt level can fall to 120% of GDP by 2020. We would argue that this level is still too high and that haircuts on publicly owned Greek debt will be required. Why target 120%? Probably as it makes Italy appear more sustainable than it actually is."

Some of the speculation has focused on whether the move to pay only 50 per cent would trigger a credit event, where banks would call on the insurance on the bonds, which would spread the risk of default.

It is certainly one question that FTalphaville is asking.

"Let's get the inevitable Greek CDS question out of the way. What are the bondholders going to do, and what's the The International Swaps and Derivatives Association (ISDA) determination committee going to determine? Assuming everyone agrees that the haircuts are sufficiently voluntary not to trigger a credit event – what does that mean for sovereign CDS? And indeed, for bond yields."

Reuters reports the ISDA view here.

"As far we can see it's still a voluntary arrangement and therefore we are in the same position as we were with the 21 percent when that was agreed," said David Geen, general counsel at derivatives body ISDA, referring to an original deal proposed in July that
involved smaller bondholder losses. The percentage (of losses), as far as the analysis for CDS purposes goes, doesn't change things. typically a voluntary arrangement won't trigger the CDS."

Not all agree.

Here the Anirudh Sethi Report suggests the ISDA is not meeting its obligations and notes the fact that one its members Barclays suggested only two days ago that a 50 per cent haircut would trigger an event.

Bond markets believe some risk has been transferred to the eurozone core as German bond yield rose and prices fell a little on the periphery reported here by Bloomberg.

More from Mindful Money:

The Eurozone summit: What are the issues?

What are the economic benefits of the UK leaving the EU?

New Global Titans: Stock-picking to benefit from emerging market success

Creativity and financial crisis: Will this provide the answers?

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