Bloomberg News

Merkel’s Greek Bondholder Gambit Tested as Sarkozy Visits

June 17, 2011

(Updates with stocks starting in second paragraph, bonds in fifth, Ackermann comment in sixth paragraph.)

June 17 (Bloomberg) -- Chancellor Angela Merkel meets with President Nicolas Sarkozy today to resolve the impasse over a second Greek rescue as Germany’s insistence that bondholders share the cost fans the risk of contagion.

The euro dropped and stocks in Europe and Asia declined as the focus shifted from political turmoil in Athens to talks between the leaders of Europe’s two biggest economies in Berlin. To break the deadlock, they must reconcile German calls that investors help bail out Greece with European Central Bank warnings backed by France against any compulsory move that might trigger a default.

“Germany is playing a domestic political game” to appear tough, Henrik Enderlein, a political economist at the Hertie School of Governance in Berlin, said by phone. “It would have been much wiser to accept a purely voluntary solution one or two weeks ago. The collateral damage of this could be enormous.”

As the tussle splits the euro area, sending the single currency to a three-week low, the International Monetary Fund said that it would continue to support Greece while “progress is being made” on a revised aid package. Greek Prime Minister George Papandreou named a new Cabinet to better push through his budget-cutting plans after failing to win over the opposition for a unity government to push through the austerity measures.

Yields Fall

Greek government bonds rose, with the yield on the two-year note dropping 51 basis points to 29.19 percent as of 8:24 a.m. in London. It reached 30.32 percent yesterday, the most since the euro’s introduction in 1999. The nation’s 10-year bond yield climbed to a record 18.35 percent before settling at 17.72 percent, down 23 basis points from yesterday.

“We have to help them,” Deutsche Bank AG Chairman Josef Ackermann said today in an interview in St. Petersburg, Russia. “If they need more funds, we have to provide for them.”

German demands spearheaded by Finance Minister Wolfgang Schaeuble to shift the onus for bailouts to bondholders stalled efforts to craft an aid package this week in the face of ECB resistance. Ministers will resume talks in Luxembourg on June 19-20 and won’t complete a plan until July 11.

‘Red Lines’

“We have to observe a certain number of red lines, mainly those mentioned by the ECB -- no default, no rating downgrades and the private-sector involvement has to be done on a voluntary basis,” Luxembourg’s Jean-Claude Juncker, who leads the group of euro-area finance ministers, said yesterday.

After a pounding in five state elections this year and facing another two votes in September, Merkel’s coalition is displaying little appetite for changing tack before a June 23-24 European Union summit that had been slated to complete the deal.

Schaeuble’s proposal that bond maturities be extended by seven years is a “core” aspect of German plans and “still holds,” said Klaus-Peter Flosbach, the financial policy spokesman in parliament for Merkel’s Christian Democratic bloc.

“The government should only back new aid for Greece with an adequate share from private creditors,” Flosbach said in an interview. While bondholder involvement has to be achieved without triggering a default or causing market upheaval, it “has to be of a substantial kind,” said Michael Meister, the finance spokesman for the chancellor’s CDU party.

‘Symbolic’ Involvement

Merkel, hemmed in by domestic political considerations and ECB resistance, may opt for a “symbolic” involvement of the private sector, said Carsten Brzeski, an economist at ING Group in Brussels.

“I wonder whether the German government would really be willing to let the whole thing escalate,” Brzeski said by phone. “We’ve seen Merkel and the German government switching more positions than the ECB.”

Merkel dropped her support for automatic sanctions against euro-area countries that run persistent deficits in talks with Sarkozy at Deauville in northern France in October. In exchange, she won his backing to lock in bondholder contributions under the permanent ESM rescue mechanism that comes in from 2013.

The two leaders are scheduled to meet at 11 a.m. in the Chancellery, with a press conference due at 11:45 a.m.

Thirteen months after European leaders backed a 750 billion-euro ($1,062 billion) rescue fund to bolster the euro against the impact of the debt crisis, the turmoil surrounding Greece is again infecting global markets. The MSCI World Index of equities declined for a second day yesterday, losing as much as 1.3 percent, while the MSCI Asia Pacific retreated 0.5 percent today, taking its five-day drop to 2.2 percent.

The cost of insuring against default on Greek, Irish and Portuguese government debt all surged to records yesterday.

With the euro falling to $1.4074, the weakest since May 26, Sarkozy used a speech in Paris to call for a united front to defend the single currency, “one of the major European achievements.”

“What we need most today is unity,” Sarkozy said. We have “to once again find the sense of our common destiny in Europe - - the compromises on which Europe is constructed.”

--With assistance from Rainer Buergin and Patrick Donahue in Berlin, Rudy Ruitenberg in Paris, Jason Corcoran in St. Petersburg and Keith Jenkins in London. Editors: Alan Crawford, James Hertling

To contact the reporters on this story: Tony Czuczka at aczuczka@bloomberg.net; Brian Parkin in Berlin at bparkin@bloomberg.net

To contact the editors responsible for this story: James Hertling at jhertling@bloomberg.net


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