Thursday, 27 October 2011

Euro debt crisis meeting in Brussels

Since everyone is getting very excited about the euro debt problem I suppose I should jot down my thoughts.

The story so far...

Yesterday evening our PM, "Dave" Cameron flew to Brussels, met the other HOGs (Heads of Government) of the EU, all 27 were present. He arrived about 5pm, had drinks until 6pm approx, and then settled down to a serious hour's discussion. Then the 17 HOGs from the eurozone went to dinner. But Our Dave wasn't invited to that, he had to go to a less swanky dinner with the 10 non-eurozone HOGs. Misery loves company, and because we've still got sterling we're not miserable enough for the euro HOGs's liking so David had to go and eat at a little table in the corner with the other second class Europeans.

After supper the 17 euro HOGs had more discussions but Dave wasn't invited to those either, so he flew home.

The "problem" can be summarised like this: Greece has €350bn of revolving debt and can't refinance it. If Greece defaults a shed load of French banks will go bust. To stop them going bust Greece must be bailed out, but some of the pain needs to be ladled onto the French banks - only fair. So they will be expected to take a 50% haircut, voluntarily. Why voluntarily? Well, because they long ago took out insurance against Greece defaulting and the providers of the insurance will also go bust if the French banks make a claim. But if it's a "voluntary haircut" then the insurance policies don't apply and the damage is contained. But no one is voluntarily going to give up 50% of what they own, are they? Well, the French banks are majorly reliant on the French government which is propping them up anyway. So pressure can be applied and bankers made to toe the line.

But not all Greek debt is owned by French banks. In fact Greek debt can be, very roughly, divided into three equal parts: 1 - Owned by foreigners, including the French banks, 2 - Owned by the Greek people themselves, for example in their pension funds, and 3 - Owned by Greek banks and other institutions.

So when the Greeks are bailed out anyone who doesn't agree to the voluntary 50% haircut is going to get a massive free ride. Mainly this won't provide much profit for them since they will just get their money back, as opposed to losing it. There is, however, one group who are going to make a killing: American hedge funds.

The hedgies have recently been buying Greek debt at well below cost hoping for just this outcome. They will of course refuse the voluntary haircut and when their short-term bonds mature will demand payment in full, for bonds they bought at a heavy discount. Nice!

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