ATHENS, Greece (AP) — A disorderly and potentially devastating Greek debt default is looking much less likely.
Greece and investors who have bought its bonds have reached a tentative deal to significantly reduce the country's debt and pave the way for it to receive a much-needed €130 billion bailout.
Negotiators for the investors announced the tentative agreement Saturday and said it could become final next week. If the agreement works as planned, it will help Greece remain solvent and help Europe avoid a blow to its already weak financial system, even though banks and other bond investors will have to accept multibillion-dollar losses. Still, it doesn't resolve the weakening economic conditions Greece and other European nations face as they rapidly rein in spending in order to get their debts under control.
Under the agreement, the €206 billion worth of Greek bonds that investors own would be exchanged for new bonds worth 60 percent less.
Private investors would receive new bonds whose face value is half of the existing bonds. The new bonds would have a longer maturity and pay an average interest rate of slightly less than 4 percent. The existing bonds pay an average interest rate of 5 percent, according to the think tank Re-Define.
The deal would reduce Greece's annual interest expense on the bonds from about $10 billion to about $4 billion. And when the bonds mature, instead of paying bondholders €206 billion, Greece will have to pay only €103 billion.
Without the deal, which would reduce Greece's debt load by at least €120 billion, the bonds held by banks, insurance companies and hedge funds would likely become worthless. Many of these investors also hold debt from other countries that use the euro, which could also lose value in the event of a full-fledged Greek default. This is the scenario analysts fear most and why they hope investors will voluntarily accept a partial loss on their Greek bonds.
The agreement taking shape is a key step before Greece can get a second, €130 billion bailout from its European Union partners and the International Monetary Fund. Besides restructuring its debt with private investors, Greece must also take other steps before getting aid. It must cut its deficit and boost the competitiveness of its economy through layoffs of government employees and the sale of several state companies, among other moves.
This would be Greece's second bailout. The EU and the IMF signed off on a €110 billion aid package for Greece in May 2010, most of which has already been disbursed.
Greece faces a €14.5 billion bond repayment on March 20, which it cannot afford without additional help.
Private investors hold roughly two-thirds of Greece's debt, which has reached an unsustainable level — nearly 160 percent of the country's annual economic output. By restructuring the debt held by private investors, Greece and its EU partners are hoping to bring that ratio closer to 120 percent by the end of this decade. Without a deal, analysts forecast that ratio ballooning to 200 percent by the end of this year as the Greek economy falters.
In return for the first bailout, Greece's public creditors — the International Monetary Fund, the European Union and the European Central Bank — have unprecedented powers over Greek spending. However, Greece's problems will not be fixed simply by cutting government spending. In order to bring its debts to a more manageable level, the country must also find ways boost economic output, which would enable it to collect more taxes.
If no debt-exchange deal is reached with private creditors and Greece is forced to default, it would very likely spook Europe's — and possibly the world's — financial markets. It could even lead Greece to withdraw from the euro.
Sarah Ketterer, co-manager of Causeway International Value Fund, a $1.4 billion mutual fund that invests in European stocks, said the region's markets have rebounded this month largely on expectations that negotiators would reach a deal along the lines of the one being finalized now.
Any last-minute breakdown in the talks could trigger a sharp decline in European markets, she said. But a rally is unlikely if negotiations succeed.
"The equity markets have ... largely already discounted this, and you can see that in the confidence that has returned in European equities since the end of December, and especially for financial stocks," Ketterer said.
She said there "really was no other option" than reaching a deal for bondholders to take a haircut of 50 percent or more.
Ketterer said a Greek deal could help restore bond market confidence. That would help Italy manage its own debt crisis — one that Ketterer views as more critical than Greece's because of Italy's greater size.
The investors who own Greek bonds are being represented by Charles Dallara, managing director of the Washington-based Institute of International Finance, and Jean Lemierre, senior adviser to the chairman of the French bank BNP Paribas.
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Elena Becatoros in Athens and Gabriele Steinhauser in Brussels contributed.
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