Greek Rescue Plan May Allow for Default on Some Debt

By STEPHEN CASTLE

Published: July 21, 2011

BRUSSELS — After weeks of uncertainty that revived fears about the foundations of the euro, European leaders were close Thursday to clinching a new rescue plan for Greece that could push the country into default on some of its debt for a short period but that would also give Europe’s bailout fund sweeping new powers to shore up struggling economies.

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Chancellor Angela Merkel of Germany arrives for the E.U. summit meeting on Thursday in Brussels.

According to drafts of a statement that was being discussed into the evening by the 17 euro zone heads of government, banks have agreed to take part in several programs to reduce Greece’s debt, including plans that would mean exchanging existing bonds for new bonds with lower interest rates and longer maturities.
The outlines of the plan seemed particularly bold, dealing with the economic problems of bailed-out Ireland and Portugal as well as Greece, and calling for nothing short of a “European Marshall Plan” to get Greece itself on a road to recovery. The underlying economies of those countries — and others — remain remarkably frail, however, and the plan itself had many hurdles to overcome.
On the central issue of extending debt, rating agencies have already issued strong warnings that such steps might constitute a limited form of default because creditors would not be repaid in full on the original terms.
The negotiations came after days of conflict among Europe’s leaders over how to keep the debt crisis from engulfing the much-larger economies of Italy and Spain. Any contagion would not only pose a potent threat to the euro — the most important symbol of the European integration — but could destabilize the entire global financial system.
According to the draft declaration, euro zone leaders were set to agree on a remarkable shift of direction. A series of measures to lighten the burden on Greece, Ireland and Portugal represents a recognition that the mountain of debt hanging over them threatens to stifle any prospect of recovery.
The draft calls for a “comprehensive strategy for growth and investment in Greece,” including the release of European Union development funds to finance infrastructure projects.
More significant, the euro zone leaders were also being asked to give wide-ranging new powers to the bailout fund, the European Financial Stability Facility by allowing it to buy government bonds on the secondary market and to help recapitalize banks where necessary.
That would effectively turn it into a prototype European version of the International Monetary Fund. Under the draft proposals, the bailout fund would even be able to help shore up countries that had not requested a rescue.
Germany rejected such ideas only months ago.
Strengthening the bailout fund would signal a new willingness to come to terms with the scale of the euro zone’s debt crisis by taking a big step toward common economic structures. The challenges for Greece and the other bailed-out countries remain enormous, however, and some fear a default may still happen, even though markets reacted positively Thursday.
Diplomats said that going forward with the proposals would require a change in the fund’s rules, which in turn would require approval by national parliaments.
On the eve of the summit meeting, a statement from the French president, Nicolas Sarkozy, and the German chancellor, Angela Merkel, said they had “listened” to the views of the president of the European Central Bank, Jean-Claude Trichet, who flew in from Frankfurt unexpectedly to join them in Berlin.
Though the statement from Mr. Sarkozy and Mrs. Merkel did not say whether they had settled the issue of allowing Greece to write down some of its debt — something Mr. Trichet has argued against publicly and adamantly — suggestions before the summit meeting in Brussels were that the E.C.B. had softened its stance.
“The demand to prevent a selective default has been removed,” the Dutch finance minister, Jan Kees de Jager, told Parliament in The Hague, Reuters reported.
That appeared to be the sense of the draft summit meeting statement, which opened the way to a variety of different measures.
source: www.nytimes.com