The Greek Bailout Plan - Priya Gokani

On March 25, 2010 in Brussels, sixteen Eurozone nations approved an emergency bailout plan to rescue heavily indebted Greece from bankruptcy if the latter could not get credit from capital markets. The bailout plan consisted of substantial funding from International Monetary Fund (IMF) and coordinated bilateral loans from Eurozone countries. The Eurozone leaders were hoping that their promise of financial support might enable Greece to get credits at more favorable terms from markets and eliminate the need of their support. (The Greek government revealed late last year that its budget deficit was 12.7% of its gross domestic product (GDP), far exceeding the European Union (EU) limit of 3% and it aims to reduce that deficit to 8.7% this year and to reach the EU target by 2012.) However, that seemed remote.

In the first week of April, Euro zone finance ministers agreed upon a giant 30-billion-euro ($40 billion) emergency aid mechanism to help Greece tide over its fiscal problems. If Greece decides to take the loans, the funds will cost an annual rate of 5% over a three-year period. The IMF has also committed to provide further funding of up to 15 billion euro. But Athens said it could solve its problems without outside assistance. The Greek government has proposed a multibillion-dollar austerity package which will bring down its deficit by several percentage points this year. After the announcement there was some relief in the market, but Greece’s borrowing cost spiked to a record high intensifying the country's debt crisis indicating that the promise for support from Eurozone countries and International Monetary Fund is providing little relief for Athens' struggle to avoid default. The higher interest rates demanded by bond investors are potential poison for the Greek budget; unless they fall, the government will have to pay a massive premium to borrow and face a vicious cycle wherein higher borrowing costs fuel fresh default fears.

But Finance Minister George Papaconstantinou had said that Greece's program to pull out of a crisis would work, adding that Greece's budget deficit figures for the first quarter fell to 4.3 billion euro from 7.1 billion euro in the first quarter of 2009. However, the high interest rate gap, or spread, between Greek 10-year government bonds and the German equivalent, considered a benchmark, show that markets are unconvinced that Greece can pull it off. Further Standard and Poor’s downgraded Greece's long-term sovereign debt rating to a rating of "BB+" from "BBB+” and the short-term rating was lowered to "B" from "A-2."  The outlook on the country was negative. S&P also said that it believes the Greek government's policy options are narrowing because of Greece's weakening economic growth prospects, at a time when pressures for stronger fiscal adjustment measures are rising.

Fearing a full-scale financial panic and a concerted attack on the euro currency, European Central Bank President Jean-Claude Trichet declared that the EU would not allow Greece to default. Finance Ministers across the Eurozone held a conference to discuss the details of the Greek rescue plan. After intense negotiations between the EU, European Central Bank and International Monetary Fund, Eurogroup (a meeting of the finance ministers of the eurozone) President Jean-Claude Juncker said that the international aid package would be worth 110 billion euros (US $146 billion) over three years and of the overall amount, 80 billion euros will be made available through euro-area members, with up to 30 billion available in the first year. The first disbursement of bailout money will be made before May 19.

The international bailout plan will include a 10 billion-euro ($13.3 billion) support fund for the nation’s banks, which may face rising bad loans as the economy shrinks. Standard & Poor had also lowered counterparty credit rating of EFG Eurobank Ergasias, Alpha Bank and Piraeus Bank to BB from BBB and that of National Bank of Greece to BB-plus from BBB-plus.

(Counterparty Credit rating evaluates the creditworthiness of both public and private financial institutions and financial service entities - whether or not the rated company issues in the public debt markets.A Counterparty Credit Rating can help an organization gain the confidence of lenders and helps negotiate favorable pricing and terms)

The rating agency said banks are at risk because of their holdings of government bonds and that their asset quality and profitability will remain under pressure as the economy shrinks and drives up loan losses. The objective of the fund will be to ensure that the Greek banks are well capitalized at all times.

In return the Greek government agreed to cut civil servants' salaries and pensions, raise the retirement age to 65 from 60, bringing it in line with that for men. Sales tax will be raised to 23 percent from 21 percent and excise taxes for fuel, tobacco and alcohol will be raised immediately. The measures will be taken to cut the deficit to below 3 per cent of gross domestic product by 2014 from 13.6 per cent currently.

The bailout plan mentioned above which is by far the largest bailout plan will now pass through parliaments of Eurozone member, including that of Germany, where public resistance to the rescue package runs deep. The Euro which rallied 0.5 percent against the dollar on Friday April 30 weakened against 13 of its 16 most traded peers during Monday’s trade and the stocks fell on fears of whether Greece will be able to deliver on its latest promises, on the possible political challenges that the bailout plan may face and also which fiscally vulnerable country in Europe might be next.