Germany’s economic elite has said it would agree to an EFSF expansion and hence installation of European firewall, but at a price: a “controlled” default by Greece and 50% haircuts for private bondholders (good for German banks who have already offloaded their Greek bonds).
This means that a second “Lehman” moment is indeed here!
So as part of this new strategy, here are the three key components of the plan to “firewall” contagion, via the Telegraph.
Sources said the plan would have to be released as a whole, as the elements would not work in isolation.
First, Europe’s banks would have to be recapitalised with many tens
of billions of euros to reassure markets that a Greek or Portuguese
default would not precipitate a systemic financial crisis. The
recapitalisation plan would go much further than the €2.5bn (£2.2bn)
required by regulators following the European bank stress tests in July
and crucially would include the under-pressure French lenders.
Officials are confident that some banks could raise the funds
privately, but if they are unable they would either be recapitalised by
the state or by the European Financial Stability Facility (EFSF) – the
eurozone’s €440bn bail-out scheme.
The second leg of the plan is to bolster the EFSF. Economists have
estimated it would need about Eu2 trillion of firepower to meet Italy
and Spain’s financing needs in the event that the two countries were
shut out of the markets. Officials are working on a way to leverage the
EFSF through the European Central Bank to reach the target.
The complex deal would see the EFSF provide a loss-bearing “equity”
tranche of any bail-out fund and the ECB the rest in protected “debt”.
If the EFSF bore the first 20pc of any loss, the fund’s warchest would
effectively be bolstered to Eu2 trillion. If the EFSF bore the first
40pc of any loss, the fund would be able to deploy Eu1 trillion.
Using leverage in this way would allow governments substantially to
increase the resources available to the EFSF without having to go back
to national parliaments for approval, which in a number of eurozone
countries would prove highly problematic.
The arrangement is similar to the proposal made by US Treasury
Secretary Tim Geithner to the eurozone at the September 16 EcoFin
meeting in Poland. Gathering turmoil in financial markets has convinced
Germany to begin work of some kind of variant of the US plan, despite
having initially rejected the notion as unworkable as threatening to
compromise ECB independence.
The proposal would be hugely sensitive in Germany as its parliament has yet to ratify the July 21 agreement to allow the EFSF to inject capital into banks and buy the sovereign debt of countries not under a European Union and International Monetary Fund restructuring programme. The vote is due on September 29.
As quid pro quo for an enhanced bail-out, the Germans are understood to be demanding a managed default by Greece but for the country to remain within the eurozone. Under the plan, private sector creditors would bear a loss of as much as 50pc – more than double the 21pc proposal currently on the table. A new bail-out programme would then be devised for Greece.