After another attempt failed to get commitment from private investors on forgiving a portion of their Greek debt, the Institute of International Finance (IIF) maintains that a deal will be finalized shortly. Considering that the IMF, ECB, and a host of other European leaders have been claiming that a deal is “imminent” for the past three months now, this once again is as believable as MF Global assuring investors one week before collapse that it “is in its strongest position ever.” What’s worse is that while this circus of negotiations continues, Portuguese bonds and spreads are blowing-up.
Below is a chart of Portuguese 10-year bond yields over the past two years. Just today, yields rose 14.3 percent to an all-time high 17.4 percent yield.
Portugal is now in the same predicament as Greece and will have to go through the same bailout and debt reduction procedures as is currently occurring in the Hellenic Republic.
Greece is trying to lock down a $170 billion bailout from the IMF which will allow it to hobble along for the remainder of the decade. Reports surfacing last week say the figure needs to be at least $190 billion. Either way, in order to receive the funding, Greece must get a voluntary agreement from the private holders of its debt to commit to taking at least a 70 percent haircut (loss) on their holdings and take as the 30 percent remainder new 30-year Greek bonds with a coupon of somewhere between three and four percent. 10-year Greek bonds currently yield 34 percent.
Why anyone would choose to accept such a deal is beyond comprehension and may be why the talks have stalled for so long. It’s a terrible deal. Remember, the commitment from private investors is voluntary.
Private bondholders know exactly how much they stand to gain and lose by choosing to accept or decline a deal. Many of the bondholders are holding derivative contracts on their bonds and may actually benefit from a Greek default. Certainly none of them will cave to the scare tactics that holding out for a default would cause a financial meltdown, and regardless, even if they suspected a meltdown would ensue, I can imagine some of the hedge fund managers drawing pride from being responsible.
None of this would even be happening if markets were simply allowed to function. Greece would default, bond holders would line up for their share of the claims, derivatives would pay out, banks would take losses, Greece would design a budget sufficient to gain new funding at a market rate albeit with significant cuts, and voila, problem solved. Instead there is this political maneuvering from the IMF, ECB, and heads of State claiming where rates need to be set, who’s entitled to a bailout, and why a ten-year-old monetary union needs to be upheld because of regional peace for all reasons. As if free trade and free movement of labor had nothing to do with the last 60 years of peace in Western Europe.
So the unending political pandering and breakdown of securities market law continues and will double once the situation in Portugal hits the fan. Portugal is issuing debt this week, and when their government realizes where their financing costs have risen to, they’ll be whining for the same treatment their Mediterranean neighbor received.
They may want to be careful what they wish for. Over the weekend, Germany asked that Greece relinquish control over its budget to a central European authority and hinted that others in distress who would be receiving bailouts do likewise. That’s the last thing any nation would want, ceding decision making authority to an institution with limited knowledge beyond a ledger, and to boot it would come at the price of nearly a decade of painful austerity.