July 5th, 2011
11:31 PM GMT
(CNN) – When is a 'selective default' a default?
Seems like a silly question but it's giving a lot of banks, euro officials, European Central Bank governors, ratings agencies and yes, us mere journalists, a real headache. I'm still trying to figure this all out, but I will give it a go.
We all know Greece can't pay its bills. Giving it more loans and a longer time to pay it all back might give Greece some breathing room, but it means Greece will only have to pay even more money in the long run.
You still have to pick up the can, even if you "kick it" further down the road.
To avoid that, Greece could default, becoming the first Western country in decades to do so, and therefore start again.
Enough big minds say that would be so bad for the world economy - "Worse than Lehman's," we keep hearing - that it seems now that it won't happen.
So then what? In comes the immensely complicated French plan that would see the banks "voluntarily" give Greece another 30 years to pay back half the debt owed to them, from 5.5 percent to 8 percent, apparently.
Therein lies the problem, says the ratings agencies, these private firms that rate the solvency of everything from small U.S. town bonds to build a school to the loan books of international banks and the sovereigns issued by countries.
Greece is currently at the bottom of the rung with a junk rating. Or so it seemed to be the bottom rung - there is one more step below - "SD," which means "Selective Default."
Countries have been SD before - I read it can be technically for no more than a day. But what will happen if Greece goes to this rating?
Standard & Poor's says, well, if the banks take this voluntary deal then Greece is SD.
If Greece is SD then can the European Central Bank continue to take in Greek bonds from private banks as collateral in order to loan money back to the banks? No collateral then no loans, no loans then the banks are in real trouble. Think about Greek banks, with 100bn Euros in Greek bonds, unable to get money from the ECB.
Imagine what this would do to the so-called "stress tests" European banks need to pass again.
The ECB is apparently playing this scenario down; it has four ratings agencies it looks at and will take the highest rating on Greek debt from any of the four and so far only S&P has used the SD term.
Yet Moody's jumped in on Tuesday and said if the banks take this deal, then they may have to write down the value of the bonds on the books, a so-called "impairment charge."
Stay with me.
So, banks can't be "forced" to write down Greek debt, because that would be a straight-up obvious default, at which point all bets are off.
Instead they are being "persuaded" to do it voluntarily, and yet they may still get smacked around by the ratings agencies - the same ratings agencies still being heavily criticized for happily going along with the credit bubble that burst in 2008.
Now they are leading the charge against what seems to be a euro fudge - help Greece default without calling it a default in order to keep the ECB happy and not unleash unintended consequences.
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