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Greece: Just Do It!

May 06, 2011 2:25 PM ET
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One might certainly wonder how long the stage managers in Brussels will let the Greek tragedy run, before they finally close down the show. It seems like the top leaders of EU are afraid of the consequences of a Greek default and a restructuring of the nations debt. But the consequences of doing nothing may be far worse.

“We therefore urgently need a thorough assessment of the systemic implications of a Greek debt restructuring.“

Guntram Wolff

As Guntram Wolff points out in a syndicated column by eurointelligence.com,  the opinions are divided whether or not a Greek debt restructuring would undermine the financial stability of the euro area . But, as Wolff also indicates, the current strategy of doing nothing may cause far worse problems.

In fact, no one can say for sure what will be the result of a Greek default and a restructuring of the nations debt.

But one thing is for sure; the longer the EU and IMF wait to come up with a solution, the longer we have to wait for our economy to recover.
And most important of all: we have to get all the facts regarding Greek debt on the table.

As this blogger has stressed a thousand times, market confidence will not return before a transparent financial system is in place.

Mr. Wolff makes an additional good point about this being a natural task for the  newly established European Systemic Risk Board (ESRB) to take on.

Here’s the full article:

Among the most vocal opponents of a restructuring, ECB’s board member Bini Smaghi has argued that a restructuring would severely undermine the stability of the Greek banking system and euro area financial stability as a whole.
He may be right.

Others, however, argue that a sovereign restructuring is manageable, pointing out to the low exposure of German and French banks to Greek debt.
The Greek banking system could even be restructured and taken over by foreign banks.

Moreover, they dismiss the idea that a restructuring would lead to contagion beyond the countries that are already under EU/IMF assistance. Hence they argue that this would not be comparable to a second “Lehman Brothers”.

Given this uncertainty in the assessment of what a restructuring of debt with private sector involvement means, European decision makers have so far erred on the side of caution, preferring to commit significant amounts of tax payers’ money instead.

However, the election success of the True Finns has shown that such a policy has limits.

We therefore urgently need a thorough assessment of the systemic implications of a Greek debt restructuring.

The ESRB is the institution uniquely placed to make such an assessment.

First, it has probably the best access to the kind of data needed to make such an assessment.

The ECB – providing a large part of the infrastructure of the ESRB – knows which banks use Greek bonds as collateral for the open market operations and should therefore have a good picture of exposure to Greek bonds.

The ECB should also have fairly detailed information on the interbank market, from which contagion across banks can be assessed.

Last but not least, the ESRB has the legal authority to request data from the national and European supervisors needed for such an assessment.
The assessment would obviously have to take into account the possible contagion effects.

Second, the ESRB is the European institution with the legal mandate to warn about systemic risk..”

A warning from the ESRB that a Greek debt restructuring undermines the stability of the financial system of the EU would enjoy great credibility since its General Board includes among its members central bank governors, national supervisors and the chairs of the European Supervisory Authorities.

To further increase the credibility of the warning, the ESRB could choose to publish its warning.

Publication would also help convincing voters that a bail-out is in their own best interest if, indeed, a systemic risk exists.

Conversely, in the absence of a warning from the ESRB, EU decision makers as well as voters should rightly assume that a restructuring would not constitute a systemic risk and would not undermine the financial stability of the euro area.

They could then confidently move to the task of involving the private sector in the restructuring.

Could the ESRB have a different opinion than the ECB’s current opposition against restructuring?
The ESRB is of course dominated by central bankers and might therefore be similarly risk averse as the ECB.

However, in the ESRB central bank governors of all 27 member states are present.

Already now, one can see substantial differences in the assessment of some of the central banks of the euro zone.

As regards the central banks outside the euro area, little is known to date as regards their opinion on the issue.

Moreover, one should not underestimate the importance of the other members of the board, including the non-voting members, who will voice their opinion.

At the end of the day, the decision will crucially depend on how convincing the analysis prepared by the ESRB staff will be.

Different degrees of risk aversion will only play a role if the analysis does not allow for a clear decision. In that case, the ESRB may opt to be risk averse, not least because it will fear to lose its reputation.
Whith respect to timing, the second half of 2011 would be the right time for the ESRB to undertake such an assessment.

This is important in particular for Greece.

Greece will have to return to the market on a large-scale in 2012.

If the market refuses to provide finance, Greece will either need a new program or it will need to reduce its debt burden through a restructuring.

Clearly, a decision will have to be made earlier to avoid further risks.

A clear communication strategy would help mitigate short-term risks.

In the absence of a contagion warning, EU decision makers should move ahead with restructuring not to strain the financial stability of the euro area any further.

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