ECB Appears Willing to Accept Temporary Greek Default

The European Central Bank (ECB) said today that it may be necessary to allow Greece to descend into a temporary default in response to the Greek sovereign debt crisis. Sources say that German Chancellor Angela Merkel and French President Nicolas Sarkozy have agreed in principle that private investors should be forced to absorb part of the cost of a second bailout package for Greece.

European leaders are currently attending a summit where it is hoped that lawmakers can stop the debt contagion already infecting several countries from spreading even wider throughout the region.

Banking Tax Ruled Out

French officials have argued in favor of a bank transaction tax that would raise funds that could then be distributed as needed. Germany has opposed this move and with today’s earlier announcement that the two countries have reached common ground, it appears that a new bank tax has been ruled out.

“You should assume that there will not be a banking tax,” one source told Reuters news.

Four Competing Approaches

During the summit it is expected participants will debate four possible scenarios for saving Greece – Chancellor Merkel has cautioned however, that a definitive approach may not be reached prior to the close of the summit. The four possible solutions are:

1. Rollover of Greek bonds as they mature
2. Swap bonds for debt with longer maturity dates
3. Tax on European banks
4. Buyback of Greek debt at discount to face price

Items 1 and 2 are similar and variants of a “re-profiling” of the country’s debt. Either approach is likely to elicit a “default” status from the ratings agency. The third item – a new tax on the banking system – appears to be off the table with latest comments from the summit.

This leaves the idea of buying back bonds at a discounted price. Again, this would likely evoke a “default” status as investors will likely recoup some of their investment, but they will definitely suffer a haircut. It is still a matter of conjecture how deep this haircut might be.

For its part, Greece will be free from some of its debt and will receive “new” money with much of the risk being transferred to the discounted bond holders including presumably, the ECB.

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