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German Doubts Force Rethink on Greece

German objections to suffering losses on official loans to Greece have forced the euro zone to explore more complex means of helping Athens cope with its debt mountain.

Joachim Messerschmidt

After almost 10 hours of intense talks on Tuesday night, euro zone finance ministers failed to agree on how fast to cut Greece's debt pile. They called a further meeting next week to settle differences and release 44 billion euros of long-overdue aid.

The main stumbling block was Berlin's refusal to back "illegal" cuts to the interest rates on bilateral loans to Greece or return the profits from the European Central Bank's purchases of Greek bonds, said people involved in the talks.

An alternative proposal involves offering 10 billion euros of extra loans to Athens from the European Financial Stability Fund, the euro zone's temporary bailout pot. The option is seen as a leading contender for a compromise deal.

This extra lending would support a more ambitious scheme to purchase Greek bonds held by private investors, part of a package of debt relief measures to bring down Athen's debt to significantly below 120 percent of economic output by 2022.

Sanctioning a new 10 billion euros of bailout loans would pose a considerable political challenge to several countries and require the backing of restless parliaments in Germany, Finland and the Netherlands. In part to address the inevitable political concerns, officials are drawing up options to back the new loans with collateral from Greece's privatization program, which aims to raise 50 billion euros.

Berlin's demand that any new measures must not represent a fiscal transfer to Greece – which the German government sees as illegal – means that the degree of support given will vary country by country.

Wolfgang Schäuble, Germany's finance minister, said in Berlin he backed Greece's deploying 10 billion euros for a debt buyback and said "good progress" was made in Brussels on Tuesday. Pierre Moscovici, French finance minister, told French radio that the bloc was only a "whisker away from a deal".

France's President François Hollande, anxious to reach a deal on Greece to dispel "doubts about the integrity of the euro zone", clearly signalled continued differences between Paris and Berlin, saying there would be no accord "unless France and Germany reach agreement". He added: "Everyone has their domestic political issues. I respect that, but there is a higher interest."

Greece's debt burden has ballooned since the last bailout deal in March because the country's recession has been deeper than expected and because privatisation plans have failed to get off the ground.

Greek debt is expected to peak at 190 percent of GDP by 2014; without any debt relief it would stand at 144 percent in 2020 and 133 percent in 2022. These levels are well in excess of the 120 percent benchmark for debt sustainability previously used by the International Monetary Fund.

Before the meeting of ministers on Tuesday, officials had drawn up a menu of measures to slash the debt mountain to 121 percent by 2020 and 107 percent by 2022, according to people familiar with the proposal. The measures – which officials initially believed had the backing of Berlin – included cutting interest rates on bilateral loans from 150 basis points above interbank rates to just 25bp.

But during the meeting Mr Schäuble made clear those rates would amount to an "illegal" fiscal transfer because the rates were below the borrowing costs of the Germany's KfW development bank, which issued the loans. According to one person familiar with the proceedings, Mr Schäuble also said that, because the Bundesbank retained half the profits from its Greek debt holdings, it would be impossible for Germany to pass on all the upside to Greece.

Greece's political leaders rounded on euro zone finance ministers for failing to agree on an extended aid programme and payment of up to 44 billion euros in long-overdue aid to Athens.

Antonis Samaras, Greece's prime minister, criticised the bloc's "negligence" for delaying a decision on how to address the country's long-term debt pile and accused the euro zone of reneging on its side of the deal to help his stricken country.

"Greece did what it had committed it would do," Mr Samaras said. "Our partners, together with the IMF, also have to do what they have taken on to do. Any technical difficulties in finding a technical solution do not justify any negligence or delays."

Athens faces a serious political backlash, with leftwing Syriza and far-right Golden Dawn saying the country has been deceived by its lenders.

The postponement also prompted renewed apprehension in markets on Wednesday, where the euro dropped against sterling for a second day and fell 0.6 percent against the dollar. German 10-year Bunds rose and the Eurofirst 300 fell 0.2 percent.

Officials said the IMF, which has clashed publicly with the eurogroup recently over providing financing for Greece, continued to resist prematurely giving its assent to a package that did not fill the financing gap. But it did not insist on a rigid target of reducing Greek debt to 120 percent of GDP by 2020 – a point that recently sparked a public spat between Christine Lagarde, the IMF's managing director, and Jean-Claude Juncker, chairman of the eurogroup.

The IMF argued more generally that the debt burden needed to be on a sustainable medium-term path, officials present said.

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