IFF: Disorderly Greek Default Could Cost 1 Trillion Euros

The Institute of International Finance thinks a disorderly default by Greece on its sovereign debt would cause damage of more than a trillion euros ($1.3 trillion) to the euro zone and force Spain and Italy to rely on foreign handouts to prevent a chain reaction from toppling Europe and forcing the global economy into another recession.

Thursday night is the deadline for Greek bondholders to decide whether they will take part in a bond exchange that is part of a bailout and restructuring arrangement designed to help the country repay its debts on March 20. The Greek Debt Management Agency said bondholders won’t get a better deal and warned that if it finds enough support, it will force losses on investors who won’t step up to participate.

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It’s not surprising that investors are reluctant, though, as they stand to lose almost three-quarters of the value of their debt in the swap. A February 18 confidential staff note from the IFF obtained by Reuters said, “There are some very important and damaging ramifications that would result from a disorderly default on Greek government debt. It is difficult to add all these contingent liabilities up with any degree of precision, although it is hard to see how they would not exceed 1 trillion euros.” According to analysts, it seemed as if the IFF – the bank lobby group that helped set up the swap on behalf of creditors – meant for the document to scare bondholders into volunteering for the swap.

A disorderly default would result if the March 20 debt payment deadline rolls around and Greece can’t pay up and has no deal in place. Other weak countries in the euro zone could then fall prey to investors, who could interpret the default as a sign that the euro is spinning out of control. It could take a transfusion of as much as 350 billion euros to Spain and Italy from foreign sources to prevent the epidemic from spreading, while Ireland and Portugal could require as much as 380 billion of aid over five years, said the report.

The IIF said that if the deal doesn’t happen, the European Central Bank is looking at serious losses because its estimated 177 billion euro exposure to Greece is over 200 percent of its capital base. The group also said that if no swap is made, the cost of bank recapitalization costs could reach160 billion euros. This could be a threat to the euro and could make life in Greece, which is already experiencing an unemployment rate of more than 20 percent, much harder.

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To contact the reporter on this story: Gina Smith at staff.writers@wallstcheatsheet.com

To contact the editor responsible for this story: Damien Hoffman at editors@wallstcheatsheet.com