ESM recapitalizes National Bank, examines Greek debt relief

ESM board of directors on Tuesday decided to release 2.71 billion euros in order to recapitalise National Bank of Greece. This amount will be subtracted from the funds designated to cover potential resolution and recapitalisation costs of the banking sector, part of the ESM financial assistance granted to Greece in August.

“With the recapitalisation of National Bank, the four systemic banks in Greece should now all be able to stand on their own feet again. Healthy banks play a crucial role in a country’s economic recovery, by providing new loans to businesses. An important contribution from the private sector has also helped strengthen the stability of the banking sector, a key objective of the third assistance programme to Greece,” said Klaus Regling, Managing Director of the ESM.

Comprehensive assessment

The European Central Bank’s Single Supervisory Mechanism (SSM) earlier conducted a comprehensive assessment of Greece’s four systemic banks. In this process, it identified a 4.6 billion euros shortfall at National Bank. In recent weeks, the bank has covered 1.5 billion euros of that gap by private means and 120 million through positive third quarter results. Furthermore, 302 million euros in preference shares will be bailed in before the bank receives state aid. This entails that National Bank has raised sufficient capital to cover the gap identified by the SSM under the so-called baseline, but not the adverse, scenario. The Hellenic Financial Stability Fund (HFSF) will cover the remaining 2.71 billion.

After ESM’s disbursements to the HFSF, €4.6 billion remains available from the original 10 billion euros designated for the Greek banking sector and held in a segregated account at the ESM.

Greek debt relief

In the meanwhile, a document issued by the ESM back on 10-Aug-2015, outlines different options to reduce Greece’s large debt. A deal to reduce Greece’s debt burden may include capping interest payments, extending debt maturities and linking debt repayments to economic growth.

The nine-page document, dated Aug. 10 and publicized by The Wall Street Journal, was put together by the European Stability Mechanism, the Luxembourg-based eurozone bailout fund, and outlines different options to reduce Greece’s large debt load.

The paper focuses on three measures: extending the maturity of some of Greece’s loans, linking fixed debt repayments to the country’s gross domestic product and capping or deferring interest payments.

Sustainable path

“These measures provide the necessary conditions for bringing debt service back to a sustainable path,” it mentions.

The document doesn’t examine imposing a haircut on the debt, an option ruled out by eurozone leaders in July.

The paper was distributed to the institutions overseeing the country’s bailout: the IMF, European Central Bank and the European Commission, but not to European governments.

 Updated assumptions

It works under the assumption that Greece’s annual gross financing needs—the money the country must raise to cover its deficit, interest payments and maturing debt—remain below 15% of GDP annually, a threshold the IMF has deemed sustainable. Until now, the key official measure of debt sustainability has been total debt as a proportion of gross domestic product, which the International Monetary Fund has projected would peak at close to 200%.

“This is a technical paper drafted by staff in August. At the time it was shared with institutions at a working level. The paper was not sent to member states and it was never discussed in the Eurogroup or the Eurogroup Working Group,” a spokesman for the ESM said, referring respectively to meetings of eurozone finance ministers and their aides.

As four months have passed since the ESM document was distributed, some of its assumptions on Greece’s economy and the size of its bailout must be updated before debt negotiations start, eurozone officials say. The country’s recession this year is forecast to be shallower than expected, while the recapitalization of the country’s largest banks required significantly less money than the €25 billion ($27.6 billion) originally set aside for this purpose.

 Basis for discussions

Still, officials say the options outlined in the document remain a possible basis for discussions, shedding some light on the issues set to dominate debt-relief negotiations in the coming months. Talks on debt have been contingent on the country concluding the first review of its bailout, now expected in early 2016.

The ESM paper focuses on options for debt relief through debt re-profiling—pushing debt and interest repayment schedules out into the future. While this wouldn’t reduce the amount of the debt, it would immediately enhance Athens’s ability to repay. economy is doing better and less if it isn’t.

More specifically, the paper looks at fixing amortizations—the scheduled repayments of debt—to 1% of GDP for 2023-2033 and 1.5% from 2034-2044. Any outstanding debt would then be split into equal tranches to be repaid starting in 2044.

Partial extension

It also suggests that an existing deferral to 2022 of the interest Greece has to pay on some of its loans could be partially extended for another 10 years, while interest payments get fixed at 2% for the decade of 2023-2033. Any leftover interest would then be paid in equal installments from 2044 on.

Given the assumptions the paper makes on the state of the economy, the debt-relief measures it outlines could reduce the net present value of Greece’s debt by 52.5%, it says, with 6.1% coming from extending maturities.

The paper also addresses concerns echoed by many European officials, that if Greece is granted debt restructuring from the start, it may get a free pass to run deficits in the future and slow its reform pace.

Prudent fiscal policy path

“The effectiveness of any debt re-profiling measures to support debt sustainability will depend critically on the ability and willingness of Greek authorities to pursue a prudent fiscal policy path, and to implement the structural reforms needed to produce sustainable growth,” the paper notes.

It lalso cautions that “strong and lasting conditionality related to debt relief measures could undermine their credibility and effectiveness,” and instead suggests that part of the debt relief could be granted upfront while part of it would be tied to longer-term monitoring of Greece’s adherence to fiscal rules and implementation of structural reforms.

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