LOUISA GOULIAMAKI
Ireland is adding another layer of stress to already rattled debt markets just as the Greek crisis reaches a near-breaking point, sending shock waves across Europe.
Ireland's move to squeeze the senior bondholders of two ailing Irish banks, both controlled by Dublin after their near destruction during the financial crisis, came as worries about Greek debt intensified, pushing up sovereign bond yields in Spain and other euro zone countries with weak economies and high debts.
While the Irish plan to force the bank bondholders to take "haircuts" is not technically new - the idea was raised late last year, when the country accepted an €85-billion ($118.5-billion) bailout - it is being revived just as Greece's political, social and financial turmoil boils over. And that spooked the debt markets. "It's adding fuel to the debt fire," said Gustavo Bagattini, European economist in London for RBC Capital Markets.
The European Central Bank has not commented on Ireland's plan, but it has fiercely resisted the notion of using private-sector losses to reduce sovereign debt loads. The central bank says forcing losses would trigger a "credit event" - a default - that would inflict grave wounds on the banks with heavy exposure to Greek debt and unleash a second European banking crisis, in turn forcing another round of emergency bank rescues.
The Irish plan and the deepening Greek financial and political crisis rippled through the euro zone Thursday. Spain managed to sell 15-year and eight-year bonds, but paid a hefty yield and failed to raise as much as it had hoped. The yield on benchmark 10-year Spanish bonds surged to 11-year highs. Greek two-year bond yields also set euro-area highs, while the euro itself fell to a three-week low against the U.S. dollar.
Irish finance minister Michael Noonan revealed the bond-haircut plan late Wednesday. He wants to impose losses on the senior bondholders of Anglo Irish Bank and Irish Nationwide Building Society, but apparently not on the four other big Irish banks that required government support to make it through the financial crisis and Ireland's property collapse.
The Anglo Irish and Irish Nationwide bondholders would lose about €3.5-billion, equivalent to about 2 per cent of the country's gross domestic product. The two banks are considered special cases. Dublin nationalized the pair and injected about €35-billion into them to prevent their outright collapse. The two banks are to be merged and wound down over 10 years.
Ireland's deputy prime minister, Eamon Gilmore, said Thursday the government cannot act unilaterally to force the bondholders to take losses, and that the government will discuss the plan with the ECB. Mr. Bagattini said the ECB is unlikely to approve the plan "because it is worried that approval would set a precedent" and open the door to debt restructurings.
Still, the notion that the investments of senior bondholders will be protected forever may eventually die as the debt loads of the three bailed-out countries - Greece, Ireland and Portugal - reach levels that are considered unsustainable. Greece's debt-to-GDP is more than 140 per cent, making it the most indebted country in Europe.
Credit default swaps indicate a 78 per cent chance of a Greek default as Greek bond yields soar. On Monday, Standard & Poor's downgraded Greek debt firmly into junk territory and said there is "a significantly higher likelihood of one or more defaults" under its default definitions.
Germany and the Netherlands have supported the idea of using private-sector bond losses to share the burden of the second Greek bailout, which is being negotiated by the EU, the IMF and the ECB. Greece received a €110-billion bailout 13 months ago, but it is proving inadequate. Another bailout, worth perhaps €60-billion, may be approved if Athens agrees to aggressive austerity measures, including a privatization program that would raise about €30-billion by 2014.
Economists and analysts expect a compromise in the second bailout. It would appease the ECB, which wants to avoid a Greek debt overhaul that would constitute a technical default, and the Germans and Dutch, who want bondholders to help lighten Greece's debt burden. The outcome may be a voluntary debt rollover or swapping bonds for bonds with longer-dated maturities.
If the ratings agencies rule that the debt swap or rollover constitutes a default, the effect could be devastating. RBC calculated this week that commercial banks, almost all of them in Europe, hold about €90-billion of Greek public-sector debt, or 27 per cent of the total. Banks hold €20-billion of Irish public debt, and €42-billion of Portuguese debt.
In each of the three countries, the biggest holders are domestic, German and French banks. France, like the ECB, has not supported bondholder haircuts.
On Thursday night, Mr. Papandreou struggled to keep his government intact as the country waited for the next tranche of the last year's bailout money from the EU and the IMF. The day before, he announced he would shuffle his cabinet and demand a vote of confidence as an internal governing party revolt, and lack of cross-party support, threatened to sink his ambitious austerity program.
In a TV address Thursday, he pleaded for unity. "The challenge before us, the moment we are facing, is historic," he said. "Either Europe will make history, or history will wipe out the European Union."
Eric Reguly