Tag Archive | "International Monetary Fund"

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Cyprus Banks, Italy’s Politics Drain Markets

For a nation that contributes just 2 percent to euro zone growth, the proposed bailout is taking a far larger measure of the market than seems proportionate. In fact, the handling of the Cypriot bank bailout is weighing heavily across the globe.

There are many fears surrounding the bailout approved by the European Union, the International Monetary Fund and the European Central Bank. The biggest concerns are that the restraints imposed upon international accounts and the troublesome capital controls which have yet to be revealed.

Unconfirmed reports suggest that Cypriot banks will re-open on Thursday. In anticipation of runs on the banks, withdrawal restrictions will be imposed. It will be difficult to move money out of the country and national depositors will be limited as to how much money can be withdrawn in a single day or in a single transaction.

Foreign Investors    

The fate of foreign investors is sure to test the nerves of wary depositors in Cyprus and throughout the European Union. The fear is that the Cypriot model will serve as a remedy for other troubled banks in the region.

Cypriots are expected to pull huge sums of deposits out of the country’s banks. There is a very real sense of fear throughout the land. Consumer confidence has hit the floor and retail trade is at a virtual standstill.

Finance Minister Michael Sarris has said that capital controls will be “within the realm of reason.” Un confirmed reports said these controls would only apply to international transactions but that seems unlikely.

The Chairman of the Cyprus Chamber of Commerce, Phidias Pelides, told Reuters, “We have been assured that limitations will not affect transactions within Cyprus at all. Where there will be limitations is on what we spend abroad and also on capital outflows.”

Sarris has said his goal is to limit the damage caused by withdrawals inside the country. However, CNBC reported that national withdrawals would be closely monitored and very restricted.

Under the terms of the 10-billion euro bailout, certain international investors could take 40 percent losses. All deposits over 100,000 euros will be taxed. Russian investors are especially vulnerable.

Russian Fallout

Russia, who failed to work with Cyprus to eliminate the demands of the Troicka, stands to lose the most in the current plan. The country has said that their current loan of 2bn euros to Cyprus would be under review unless their investors are treated fairly. In Russianese, that means suffer no losses.

Losses are unavoidable for Russian investors and companies that have used Cyprus to stash away tax-free funds. Russian Finance Minister, Anton Siluanov said, “If there are such measures, this will not foster trust but only provoke additional problems for participants, depositors.” It was clear that Russia will be unwilling to restructure the Cyprus loan if the capital controls hurt Russian investor liquidity.

On The Ground

Civil unrest reigns in capital. Students marched on Tuesday and bank workers lined the streets in protest on Wednesday. Laiki or the Cyprus Popular Bank, the country’s second largest bank has been closed. Loans and account under 100,000 euros have been moved to the Bank of Cyprus. Deposits at Laiki and the Bank of Cyprus over 100,000 euros are frozen.

The two-week shutdown on the banks have raised havoc across the economy. Supermarket shelves are not stocked. Retail sales are non-existent. Shop owners have no access to their funds. Bills are not being paid. The economy is paralyzed and cash rules the day.

Italy Adds Fuel to Fire      

The political chaos in Italy has added to the crisis level of the euro zone. Without a new president, the country has no direction, no public mandate and is subject to the policies of the Troicka. That means unwelcome austerity, no growth, tough banking policies.

Italian bonds struggled at Wednesday’s auction. Long-term and mid-term Italian bonds sold at multi-month highs and auctions were not fully subscribed.

The euro fell to 1.2772 USD, down 0.7 percent at one point. The Dow Jones slid off yesterday’s highs and was struggling to maintain a 38 point loss. The S&P 500 fell 5.91 points. Benchmark US 10-year Treasuries climbed 19/32 to a 1.8454 yield.

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Greece Wins For Now

Late Monday night, euro zone finance ministers and the International Monetary Fund (IMF) reached an agreement that gives Greece more breathing room than expected. The agreement came after weeks of tense negotiations and for the time being appears to have thwarted the possibility of an unstructured default by Greece.

Greece’s Prime Minister, Antonis Samaras, was quick to applaud the deal and promised that “a new day for Greece” will commence on Tuesday. Greece has endured stern austerity cuts and has been unable to realize full value on several asset sales. The agreement has both short and long-term consequences for the ailing economy that has suffered seven recessions in recent years.

The central stipulation of the deal is that lenders agreed to reduce Greek debt by more than 40 billion euros, which should cut the sovereign debt to 124 percent of GDP by 2020. By 2022, Greek debt could fall to 110 percent of GDP if the finance ministers take the actions they agreed to on Monday.

2016 Could Provide First Budget Surplus

The 2022 goal reflects what many analysts project as an inevitable write-off of obligations due in 2016. It is in this year that Greece is projected to achieve its first primary budget surplus in many years. The idea of a projected write-off may be a stumbling block when the deal is presented to the Finnish, German and Dutch parliaments. German Finance Minister Wolfgang Schaeuble has already asked the German Parliament to consider the deal.

The entire agreement is scheduled to be approved and signed on December 16, 2012. Several international leaders praised Greece for its austerity measures, but there are serious questions about how the ailing nation can regain its economic footing.

Zero Interest for 10 Years

Among the terms of the agreement, finance ministers agreed to trim interest rates on sovereign debt loans and extend the term of the loan from 15 to 30 years. Interest on European Financial Stability Facility loans will be waived for ten years. If Greece cannot succeed under these generous concessions, there is no out in sight for the country.

Greece is set to receive 43.7 billion euro in for installments, but must meet the stringent austerity conditions. 34.4 billion euros will be advanced to the government in December. 10.8 billion euros will be allocated to  sustain the budget. Another 23.8 billion euros will be used to shore up the country’s ailing banking sector.

In a separate section of the agreement, the finance ministers agreed to return about 11 billion euros in profits accrued in their central banks which were prompted by actions taken by the European Central Bank (ECB). The IMF agreed to honor the deal after taking a different stance over the past few months. If the IMF had halted lending to Greece, the deal would not have been viable.

One portion of the deal dealt with handling hedge funds. The finance ministers agreed to deter hedge funds from manipulating interest rates by entering into a 10 billion euro program. This program will be used to purchase outstanding debt from hedge funds and private investors at $0.35 on the euro.

Samaras faces his own internal battles at home where the Greek Parliament is now controlled by a rival party, SYRIZA. This part has already renounced the deal as woefully inadequate in making Greece’s debt affordable.

Germany’s approval of the plan hinges on convincing Parliament that the country’s contributions will not be subject to a write-off. To ensure this, German funds will be earmarked into a strengthened “segregated account” that will prevent default.

The IMF came on board because it believes the extended term and favorable interest rate makes a Greek recovery possible. Some negotiators pointed out that the body would consider additional write-off if Greece continued to sustain its austerity budget. This new agreement is definitely a step in the right direction, but will come under close scrutiny from the Dutch, Finns and Germans.



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Merkel Turns Positive Again

In the complicated politics that is holding the global economy ransom, Angela Merkel stepped out in front of the bus to sound optimistic about the solution to the Euro Zone debt crisis. If you think you have heard this message before, you have. Yes, it is a posture the politically troubled German Chancellor has taken in the past only to reverse her position within weeks. At home and abroad, Merkel is losing her grip.

But, once again, equity markets and currency markets responded positively to her latest endorsement of the Euro Zone and the ECB.  But, like Merkel, her message is tired and probably lacks credibility. She has become a tap dancer of sorts dodging bullets and buying time by mixed messages of support, intimidation and bullying. Could this be a last gasp effort to try to rally support for what promises to be a stern political challenge at home? Definitely.

For Germany, the Euro Zone, the ECB and the US, September will be a crucial month. Politicians and investors are expected to return to work and either pump life into the global economic woes or squash all hope.  Germany’s announcement came on the heels of Finland’s report that the country was preparing for the possibility of a Euro Zone breakup.

There is a strong case for Germany to withdraw from the Euro Zone. Politically, Merkel is the only Euro Zone head of state that has faced an election and still remains in power. Her grip on Parliament is a single vote majority, a situation that will reverse in the next election. Merkel has played just about every card in the deck, including a generous tax refund to the populace to try to quell resistance but the chancellor may be playing into a done deal.

Merkel threw her support behind ECB President Victor Draghi’s recent stance that the ECB would aggressively buy bonds in the Euro Zones most troubled economies. Germany has insisted, along with the International Monetary Fund (IMF) that countries like Greece and Spain should not receive any bailout funds until they commit and stand behind the requirements of the European Stability Mechanism (ESM).

Merkel’s stance has alienated many Euro Zone nations who believe a more measured and balanced approach is the only way to grow economies and get their citizens back to work. In a recent statement, France has joined the call for less austerity and more pro-growth initiatives. France has adamantly supported its position that it will not cater to Germany or Merkel. The Euro Zone’s second largest economy does have some clout at home and abroad.  Its position is more in line with what economists believe to be reasonable.

However, the impact of Merkel’s statement was felt in global equity and currency markets. The euro climbed to six-week high against the yen. The dollar also rose to a five-week high against the yen. As The largest importer of American goods, what is good for the Euro Zone is good for the US. However, one of Federal Reserve Chairman Ben Bernanke’s available boosts for the US economy is to weaken the dollar in efforts to make US goods more affordable and desirable.

Overall market conditions are low. Volume is low, bulls are driving the market and September may change the playing field one more time before the US elections. There is some speculation that a poor economy will actually boost President Obama’s chances come November.  The thinking is that the worse the economy is the more likely voters are to disdain an overhaul of the questionable federal benefit programs.

A more realistic analysis is that no matter who wins the Presidency, if Congress, which yesterday posted a 10 percent approval rating, is not fixed the office of the President of The United States will be largely ineffective.

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Euro Leaps Higher

For followers of market driven data, the news from the euro zone presents puzzling trends.  The European Union and the euro zone are struggling with high unemployment, low manufacturing, low consumer confidence, a debt crisis that expands every day and a volatile euro that defies logic.  Most of the economies in the region suffering their 3rd, 4th or 5th recession in the last six years.

Citizens are walking away from metropolitan areas and returning to the countryside soil, much of which has been neglected for 50 years or more. Unemployment among the young is more ten 30 percent.  For university graduates or young persons with expertise in a trade, the only unemployment solution is to escape.  Only one euro zone political leader has held office since 2008.  And, that leader, Angela Merkel, has lost the confidence of her constituents.

Investors want the euro zone to succeed but they are out of patience.  Feeding off baseless political rhetoric, sophisticated investors are shying away from most of the region’s bond markets.  Italy and Spain have been forced to offer unsustainable yields on both short and long-term bonds. Spain is in the midst of a banking crisis that could collapse at any time.  The euro zone has committed more than 100 billion euros to rescue Spain’s banks, but thus far it appears as more idle talk rather than anything else.

Euro zone finance ministers have lost their credibility while the European Central Bank and the International Monetary Fund and the European Union have poured more than 1.5 trillion euros into losing propositions. Having gone about as far as possible, sovereign debt originators are now turning to international and private investors to keep the region functional.

The G20     

At this week’s G20 summit in Mexico, the positive spin continued.  European leaders told anxious economies that a plan was in the works to develop “concrete steps to integrate its banking sectors.”  Throughout the debt crisis, the only consistent behavioral pattern for the euro zone has been to assess what international investors want and then announce a remedy along those lines.  Time after time, these announcements have hit a roadblock and been left for dead.

President Barrack Obama and Treasury Secretary Timothy Geithner echoed support for this initiative but Obama was quick to emphasize that this plan did not resemble a silver bullet.

IMF chief Christine Lagarde, whose bank just pledge 1.4 billion euros to struggling Ireland, was enthusiastic about the announcement. “It doesn’t matter if it takes a long timer.  It has got to be done well.”  Lagarde added that all short term remedies had to be consistent with the long-term plan. This is the prototype that advocates of growth have been awaiting. This strategy could also come to the aid of Greece and Portugal who may receive extended terms to their bailout packages.  This sounds more like the plan that France’s Francois Hollande recommends than the pan Germany’s Merkel supports.

After pain received a pledge to capitalize the Spanish banks, it has become apparent that the country needs a more comprehensive bailout because the government cannot meet its obligations. While the euro zone could survive a Greek default, it will not survive a Spanish default.

To complicate the landscape further, Italy has now asked the European Union for assistance with its sovereign debt obligations.  These funds could conceivably be issued by either the European Financial Stability Facility (EFSF) or the European Stability Mechanism. The funds would be invested in the purchase of Italian bonds and thus reduce the yield for short and long-term debt.

Italy’s president Mario Monti said the EFSF or ESM investments were only to be deployed to countries that are compliant with the austerity cutting measures required by the euro zone members.  Monti does not want these investments considered as part of a bailout package. Between the ESM and the EFSF, there would be nearly one trillion euros ready for investment by the end of this month.

The fate of the euro and the euro zone falls into the hands of Germany’s Merkel. The Chancellor must explain why her vision of the euro zone has changed from pro-austerity to pro-growth.  This strategy is not popular with Germans who are the cornerstone of Europe, the world’s richest economic entity.

Merkel received heated feedback for her announcement earlier in the month that supported extending Spain’s time frame to reach the country’s targeted deficit reduction targets.  The success of this new, long-term initiative will certainly determine Merkel’s legacy and political future.

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Greece Gets Lifeline

In the world theater of economics, Greece has been center stage or just off curtain for three years.  The world has learned more than they care to know about the euro zone, the European Union and the interactions between the European Central Bank (ECB), the International Monetary Fund (IMF) and the European Stabilization Facility.  All the acronyms have become part of the global lexicon.

Years of tough, rigid negotiations have served to forestall the economic collapse of Greece.  However, while the Greek economy may enjoy a breath of fresh air, the civilian population is in a state of unrest. The one thing the Greek populace and the international community share is a sense of permanency.  It is difficult to feel secure with an economy where the optimistic projection is –3.0 percent GDP. 

For the rest of the world, Greece’s relief comes at the expense of the other European Union members and all the private and central banks that hold Greek bonds.  And, there are serious doubts about the euro zone bad boy’s will to continue the aggressive austerity programs that are slated to take an even sharper turn in the next three years.

More than 85.8 percent of private bondholders came to a painful arrangement with Greece.  Losses are estimated to be 75 percent of the investment’s value.  To reign in most of the unhappy private investors, Greece triggered payments on default insurance contracts through legislative actions.   

The International Swaps and Derivatives (ISDA) acknowledged the action supported by the Europe, Middle East Africa (EMEA) Determinations Committee.  The terms of the collective action clauses (CAC) are sufficient to amend the terms of Greek law governing the issuance of Hellenic Bonds.  The trigger of the CAC increases the percentage of investor compliance to more than 95 percent.   In essence, this means bondholders must accept payment terms offered by Greece.

For Greece this action limits their exposure on the default swaps to $3.16 billion.  The actual amount paid could be significantly lower as participants will not get full refund of their principal investments.  ISDA classifies this action as a “credit event.”

The credit event has left most public and private investors feeling bitter.  The bitterness is also apparent every hour of every day in Athens.  The investors who ended up facing the bleak reality that the bailout had to happen feel the Greece may very well retreat from the austerity measures that saved the country from complete collapse.

There is reason to be concerned.  With new elections scheduled for April, Germany and a host of other euro zone members fear that a new regime will be under great pressure to maintain compliance.

However, the larger concern is what will happen next to Portugal, Spain and Ireland.  All along, the leaders of the euro zone nations have maintained there would be no contagion.  Portugal, Ireland and Spain have worked in earnest to reduce spending and trim deficits.  While the countries have progressed, it is neither quick enough nor deep enough to enable the countries to meet their obligations.  Ireland has already requested more bailout funds.

The ratings agency Fitch lowered Greece’s rating to restricted default.  Fitch was the only holdout of the big three ratings agency.  After the press release confirming the credit event, markets reacted passively. The news was expected.  However, the likelihood of more euro zone defaults will now weigh on investors. 

As for Greece, there was light demand for 10-year bonds; even with 20 percent yields. Portugal’s bonds are now yielding between 11 and 14 percent.  If we look back at the start of the euro zone crisis, the underlying reason for engaging Greece’s debt was to prevent contagion.  That mission has failed.

Compare this to the US bank bailout initiative and there are striking differences.  One component of the banking bailout was that when the financial institutions accepted the funds, the government took a seat at the board meetings and has a voice.  This process was designed to protect the People’s money.  Most of the big banks could not wait to get the federal government out of their boardrooms so they repaid the debt as quickly as possible.

The US is just beginning to see some sustainable upward momentum but it is tenuous at best.  On the other hand, Greece has been in recession for five years. Most members of the euro zone are also in recession.  As the US is learning slowly and painfully, the two primary key ingredients for recovery are employment increases and GDP growth.  Unemployment is always considered a lagging indicator on the way down to recession but a leading indicator on the way out of recession.  Greece unemployment is at 20% and probably much higher.  A serious look at the data from Greece, Portugal, Spain, Ireland and Italy is sobering. It seems impossible that the euro zone will not be faced with these same issues in the near future.

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Ireland Enters The Fray

The struggle to resolve Greece’s financial instability has involved so many parties and so many conflicting interests that it is almost impossible to understand how the hope for a bailout is still a possibility.  The biggest drawback to the newest bailout package is the players behind the scenes.  Imagine trying to bring 17 members of the euro zone and 27 members of the European Union and key contributors to the International Monetary Fund together under one happy roof. 

This may well account for why time-after-time good intentions have been received with enthusiasm and then fallen by the wayside as the European finance ministers and international private investors take their messages home.  Many countries feel the impact of stifling austerity cuts imposed on Greece will not survive a regime change, which will occur in the upcoming elections. 

In short, there has been much finger pointing and an absurd amount of bickering.  There are disgruntled legislators in every euro zone government and most European Union member legislatures.  At times, the negotiating has resembled the perfect no-can-do scenario.  It is fair to say, there are no winners in this deal.  In fact, everyone loses.  It is merely a question of how much and when.

It should be understood, that what remains is a flimsy plan to complete the Greek bailout.  If a consortium can find a way to trim 6 billion euros from the ever-expanding Greek black-hole debt, a deal will likely occur.  As flimsy as the plan is, it may be the best hope to avert an unstructured default and inevitable bankruptcy that might cause financial chaos throughout the world.

The players are the euro zone nations, the troika of banks including the ECB, the IMF, the EU and private investors. To understand why Greece is such a problem, all one needs to do is consider the entities and their objectives.  The banks are attempting to keep the most delinquent euro zone member from failing and igniting a chain reaction that causes a global depression of unparalleled scale.

The investors want their money back.  They have acknowledged there will be losses but they feel wronged by Greece, who misrepresented its financial pedigree, and the euro zone members who are asking these investors to absorb huge losses on behalf of a cooperative solution.  Oh, and by the way, listen up investors because after you agree to take 50 percent haircuts, you will not be able to withdraw any principal.  Now, that may be a sweet deal for someone but is certainly not the type solution that anyone could make anyone feel warm and fuzzy.

Germany and Ireland

For a bailout resolution, Germany must wear many hats.  The first role is to guide the euro zone through the maze of issues that can rescue Greece and create a firewall for the other members and their banks.

Germany’s second hat is to be the grand enforcer in both the euro zone and European Union.  This means getting the EU members to ratify a proposed European Stability Treaty.  The treaty was crafted so that parliamentary referendums would not be needed to approve the pact. 

However, Ireland’s Prime Minister, Enda Kenny, said the citizenry would be asked to vote on the treaty.  No date for the vote has been scheduled yet. Ireland has a habit of going against the grain. This time the stakes are huge. 

Despite being the beneficiary of a EU/IMF bailout in 2010, Ireland has voted against the treaty in two earlier votes.  The Irish did not like the austerity cuts that were imposed upon them and could very well flex their muscle on this treaty.  Normally, European Union treaties cannot be completed without 100 percent approval of the members.  However, this treaty was crafted to avoid unanimous approval.

The treaty does require approval by the major players, of which Germany is the foremost.  Surprisingly, Germany’s top court overruled efforts by Chancellor Angela Merkel and Finance Minister Wolfgang Schaeuble to permit disbursements to euro zone bailouts through a closed-door group of nine legislators. 

This judicial decision will certainly handcuff the Prime Minister, who at times has seemed an obstacle to negotiations.  Merkel has recently suffered another political setback as 17 members of her coalition balked at the role Germany is playing in the bailout.  The negotiations have cast a long shadow on the Prime Minister’s control of her party ad her parliament, where she only has a one-vote majority.    

Merkel suffered yet one more powerful setback on Saturday when one of her trusted, but anonymous cabinet members reported that it was time for Germany to leave the currency block.  Such a move would not only cripple the European Union and euro zone but would send those economies into a dramatic freefall.

If Germany’s participation in bolstering the rescue fund is not strong and complete, the bailout will die on the floor.  The country’s participation is already viewed pessimistically by a majority of the populace. 

One of the European Stability Mechanism’s (ESM) most vigorous opponents has been Dutch Finance Minister Jan Kees de Jager.  On Wednesday, de Jager said a decision on the new treaty might be made in April at the IMF’s spring meeting.  Alluding to Germany, de Jager said that only one country now stood in the path of boosting the ESM.


In Greece, the parliament formally approved the controversial austerity cuts that were required by the IMF and other participants to trigger an initial round of bailout funds to stay a late-March default.  The austerity program has filled the streets of Athens with blood, fire and stone.  One of the country’s main sources of income is tourism. With nightly scenes of protests and labor strikes, tourism has become a losing proposition for Greece.

Portugal and Spain 

Portugal is one of the success stories of the bailout process. In fact, Portugal’s star has risen in the eyes of investors and its neighbors.  On Tuesday, Portugal passed its third leg of compliance.  Portugal reports that despite a steeper recession than Greece, it will not require a second round of bailout financing equal to that of Greece.

The troika recommended release of a 14.9 billion euro payment to Portugal.  Like other nations in the euro zone, Portugal is fighting with negative GDP.  Investors must wonder how long this scenario is sustainable.  Business confidence in Portugal hit an all-time low on Tuesday. Portugal’s 10-year notes were yielding 13.07 percent on Tuesday.


On one hand, the ECB’s aggressive low interest investments in its member states have benefited both Spain and Italy. On the other hand, the ECB has served notice to Greece that the bank will no longer accept Greek bonds as security.  This means the country’s central bank will be forced to look inward for assistance.

The move may be temporary.  It became mandatory after Standard ad Poor’s relegated Greek bonds to selective default.  The ratings agency did indicate that when the default-swaps were concluded, the bond rating would likely improve.  The rating change would permit the ECB to get back in the game.

Private Investors

Negotiations with Greece’s private investors are taking a deep bath and it is not in the Mediterranean.  As mentioned earlier, private investors have been walked over run over and held hostage on the edge of a steep cliff.  Negotiations with the investors began seven months ago.  The wrangling was thought to be concluded 60 days ago.  Then, Germany insisted on steeper cuts.  The investors were forced to comply. 

It is painful to take a 50 percent hit but it works against the grain to be told that after taking the hit, the investors have to leave their money on deposit in a failing economy that does not exactly espouse economic responsibility.  In essence, the investors have been told to take it or leave it. That is easy to say when it is other people’s money, but when it is personal, well, that changes things.


Under the leadership of former French Finance Minister, Christine LaGarde, the IMF has stepped up to the plate.  Overtures to the US have been fruitless.  LaGarde’s pleas to China and Russia have received qualified replies.  The truth is, this bailout process is so far-reaching and so deep that there is a lack of appetite.  Negotiations have been so draining that even the most robust players are wary to enter the fray.

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Greece Holds The Cards

Creditors unexpectedly walked away from the bargaining table after late Friday night negotiations came to a halt.  The news is likely to reshape the Monday meeting of finance ministers from the euro zone.  At stake is the fate of billions of euro Greek bonds and very possibly the future of the euro alliance.

The plan on the table would require investors to accept a 65 – 70- percent loss on current Greek obligations.  Greece would take the remaining balance and convert the balances to 30-year bonds that would yield an average of 4 percent.  The plan also calls for a 15 percent cash sweetener from  

Private investors left town but agreed to further discussions via telephone.  The private investors have retained The Institute of International Finance (IIF) handle their negotiations.  Charles Dallara is the chief negotiator.

While this general remedy creates an outline, there are many conditions and aspects of the negotiations that need to be resolved.  Drawing of the mere paperwork is tedious and could not be completed in less than three weeks from acceptance.

One of the big concerns is what role the European Central Bank, (ECB), the European Union (EU) and the International Monetary Fund (IMF) will play in the rescue plan.  Greece has an upcoming 14.5 billion euro call that is covered by the European Finance Stability Fund (EFSF).  All agreements are contingent upon that infusion.  The total bailout package consists of 130 billion euros.

The IMF has stated that no funds will be extended to Greece unless a plan is in place to reduce the debt from 160 percent of GDP to 120 percent by 2020. With Greece in the midst of its fifth recession, there is little hope for GDP growth.     

The finance ministers meeting in Brussels would have to approve whatever plan is presented and the clock is clicking.

Greece Calls The Shots

The bailout of Greece is about as far from a win-win scenario as could be imagined.  The only winner is Greece, the country who cooked their books to gain admission into the euro zone.  It is anybody’s guess what financial condition accurately portrays the depth of the Greek crisis.

Despite the pitiful condition of Greece, the country holds a stacked deck. The creditors must decide between a ”voluntary structured” loss or a “coercive” exchange. Taking a 65-70 percent hit strikes a stale note, but the alternative could be worse with far reaching consequences.

However, Greece’s creditors face the reality that the Collective Action Clauses (CAC) that will be attached to their debt.  If Greece activates these clauses, hedge fund managers have little control over how the final deal will be shaped.  As the majority of Greek bonds are held by euro zone banks. Greece simply needs to appease the banks and the hedge funds will be forced to comply.

Greece can structure the CAC to a loss ratio that European finance ministers will accept.  That 65-70 percent ratio will settle bank resistance.  If the bonds were handled on a one-on-one formula, the hedge funds would have more clout.  As it is, Greece will need to negotiate further with hedge funds.  They can simply force the deal upon the funds. 

Watch Out For Portugal

After the Greek negotiations fell apart, the focus immediately shifted to Portugal, another euro zone member in a prolonged recession.  Standard & Poor’s has reduced Portugal debt to junk bond status. 

This has led to speculation that Portugal will be the next country to seek voluntary relief from its creditors.  Lloyds Bank in London issued a statement saying that the gap between 10-year Portuguese bonds and the 10-year German bunds will widen between 100 and 200 basis points.

Euro zone finance ministers have repeatedly said Greece was a one-time situation but evidence points to the contrary.  The region’s biggest fear is contagion but countries like Italy, Hungary, Spain and Portugal are mired in recession and there seems no clear path to GDP growth.  Everything in the euro zone points to negative growth.  The net effect is that no matter how much money is thrown at these countries, without growth the crisis will only intensify.

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Greece Overshadows Downgrades

Standard and Poor’s downgrade of nine euro zone members on Friday is sure to create political and financial upheaval in the euro zone. However the fate of Greece remained center stage in the region’s once proud economic theater.

The struggling country is in its fifth recession but has few sympathizers for a nation that rigged the books to gain admittance into the euro zone. Although most private investors have agreed to a structured default and have agreed to accept as much as a 50 percent loss in credit default swaps, the banking sector is not on board.

In order to meet a 14.5 billion euro call in late March, Greece must put a deal together immediately or prepare to file bankruptcy. Negotiations ground to a standstill when banks demanded higher interest rates on new bonds and also demanded a security plan for potential investor losses.

The two sides will not meet again until Wednesday. Meanwhile, Prime Minister Lucas Papademos sent his top financial aides to Washington to meet with the IMF. Reports from the negotiations blame the failed negotiations on the European Central Bank (ECB), the International Monetary Fund (IMF) and the European Union (EU).

This powerful troika is due in Athens at week’s end. The purpose of the visit is to arrive at an agreement for another round of the bailout funds. Greece seeks 130 billion euros to reduce their debt to GDP ratio from 160 percent to 120 percent.

If the risks were not so dangerous, Greece’s situation would be laughable. Despite the country’s long recession, there is no evidence that suggests the country can support any debt, much less 120 percent of GDP. The prospect for economic growth is dismal. The most optimistic analysts project negative GDP for the next three years. It is time for the world and the euro to face the inevitable. Investing in Greece is the classic equivalent of throwing good money after a bad investment.

Greece lacks the political, social and economic will to change the country’s trajectory.

Following Friday’s sobering downgrades, global investors have had to look failure squarely in the face. Countries do fail. Currencies do fail. The failure of Greece does not have to take the rest of the euro zone with it. Rather than throw another 130 billion euros to Greece, conservatives want to use the funds to shore up other economies in the euro zone.

As banks and private investors explored possibilities, it became clear that Greece might need to ask investors to take a 75 percent hit plus issue new bonds at 2-3 percent. Investors want a 50 percent reduction and a minimal interest rate of 4 percent on new notes.

Adding to the confusion is the very likely fact that Greece will need even more future funding than the newest 130 billion euro tranche. An assistant German finance minister said that the euro zone does not want a temporary fix but wants a one and done workout plan. Throughout the region, Friday’s downgrade has been less disturbing than the plight of Greece.

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Euro Zone Doubts

In the Euro Zone, history has repeated itself one more time. This time it may spell doom for ailing Greece, Spain and Italy and the banking systems throughout the globe.  After an optimistic tone last weekend, Chancellor Angela Merkel and French President Nicolas Sarkozy, felt confident that a redesigned bailout package could save Greece.  The formula seemed realistic.  The members of the Euro Zone would add to the European Financial Strategic Facility (EFSF) and then leverage the sum creating about 2 trillion euros to stabilize the region.

Heading into this weekend’s European Union, hope were high that a realistic plan had been implemented.  The regional plight is shadowed by a group called Troicka, which consists of the IMF, the European Central Bank and the European Union. 

Moody’s Credit Rating Service downgraded Spain by three levels yesterday on the heels of a downgrade of Italy by three notches on Monday.  This double-edged sword was sufficient to create doubts with Christine LaGarde, the head of the International Monetary Fund.

The IMF withdrew its commitment to contribute to the much-needed 9 billion euros to allow Greece to honor its November operations.  The IMF and EU were scheduled to proceed with an 8 billion euro advance next week.

Today, the IMF has retreated from that position, citing a lack of agreement between EU members.  LaGarde issued a statement saying that the IMF would reserve judgment until after a productive meeting of EU members this weekend. If a firm commitment does not come from these meetings, the funds for Greece may be withheld.

The Greek debt problem has been under the scrutiny of the International community and especially the Euro Zone.  Two of the continent’s strongest economies, France and Germany have much exposure to the Greek failure.

A large part of the most recent agreement calls for increasing the EFSF.  Several Euro Zone members are not sold on this strategy.  This is an important component in the IMF’s participation.  The enhanced EFSF to about 600 billion euros and then leveraging that amount appeared to be the aggressive action necessary to stabilize the zone.

As usually, when it comes time to act in the Euro Zone, there are too many political interests to achieve unified action.  Conflicting estimates regarding the exposure of the region’s banks have made the situation more difficult.  Estimates range from Austria’s projection of a 100 billion euro shortfall to the IMF’s more realistic projection of 200 billion euros.  Most analysts feel the real figure is approximately 250 billion euros.

Germany has been aggressive at seeking other options. They have proposed Euro Zone bonds and it has been suggested that the EFSF could underwrite a portion of new euro zone debt.  This system would give the EFSF new reach and create a pool of about 2 trillion euros.

Meanwhile, the resistance in Athens to deep austerity cuts has left 40 percent of the population unemployed.  The forced cuts have been painful and it appears the pain will not have any quick fix. With revised estimates that the GDP would shrink to negative six percent, it will be a long time before the country can dig itself out.  This is a country whose retirement age has traditionally been 58.

This weekend the EU will be meeting to meeting to firm up a three pronged solution: 

 Reduce Greece’s debt

Add funding to the EFSF

Agree to leveraging the debt 

If a firm agreement is not reached, the IMF will not be participating in a solution.

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U.S. To IMF No Go

The long awaited G20 meeting of finance ministers and central bank representatives received the bad news early on Friday morning.  The IMF is seeking to expand its $380 billion base by another $350 billion.

The IMF’s largest contributors, China, the U.S. Japan and Germany were joined by Canada and Australia in rejecting more capital infused into the beleaguered International Monetary Fund. Timothy Geithner, the US Secretary of the Treasury, said that the IMF “ has very substantial resources that are uncommitted.”

Most of the developed nations are undergoing their own tight money battles. There was quick and decisive resistance to the idea of bolstering the fund.  The IMF has said the fund does not have enough resources to help the Euro Zone. 

The Euro Zone’s European Financial Stability Facility (EFSF) consists of 440 billion euros.  The finance ministers from the largest economies are pressing the 17-member Euro Zone to tackle their own problems.  These countries believe that the plan mapped out in July will work.

According to the July Euro Zone initiative, the EFSF would be increased to 600 billion euros and then leveraged to create a fund with 2 trillion euros.  This money would serve as a bailout fund and a reserve for banks needing capital.  The IMF would serve a s a safety net. This is an accurate reflection of the seriousness of the Euro Zone debt crisis.  With the U.S. rejecting the concept of a contribution to the IMF, the plan will need to be tweaked before November 3rd.

The finance ministers of Germany and France have much at stake.  They agreed at the morning session to put a workable plan on the table at the next G20 meeting on November 3 and 4th.  However, Australia’s finance minister, Wayne Swan, may have summed up the international sentiment by saying, “The first priority here is for Europeans to get their own house in order.”

Many analysts wonder if the Euro Zone can hold their house in order.  The July initiative originally failed to pass the Slovakian Parliament.  However, in a Friday re-vote, the bill passed.  This means that Greece will receive its 9 billion euro shortage to meet its November 9th call. 

In the July plan, banks were advised to prepare for a 20 percent hit.  Most likely, the new Franco – German plan will point to steeper losses.  Indications are that the new plan, which will first be presented to the European Union meeting on October 23rd

In behind the scenes talks, China and the U.S. continue to haggle over a proposal in Congress that the Chinese currency, the Yuan, be re-evaluated.  The Euro Zone crisis has overshadowed this dangerous rhetoric.

In today’s activity, the 10-year bond spiked to $2.25 and the 30-year bond hit $3.38.  The euro rose to $1.38.  At the end of the day, the rush was to American equities, which topped over 12,600, and the bond market.

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