Greece will make this a nervous week for the markets: Maley

Global financial markets will be on tenterhooks this week following reports that debt-laden Greece is preparing to launch a bond issue to raise up to $US6.8 billion ($A7.5 billion).

The bond issue – which is expected to come in the same week as the country is crippled by a general strike – will be a crucial test for both the risk appetite of financial markets and the European Union’s pledge to support Greece (Full coverage: Greece’s national debt).

Athens has been pressing the European Union to provide details of possible financial assistance, saying it will affect interest rates on the $US30 billion of debt it must refinance in coming months.

Greek prime minister, George Papandreou, told the BBC overnight that Greece would call on other European countries for help if it were unable to borrow money at similar rates to other eurozone members.

Such help, he said, could take the form of a guarantee on Greek borrowing, or different types of loans that would ensure Greece paid a viable interest rate on its debt.

In the BBC interview, Papandreou said Greece could not deal with speculators on its own. He also pointed out that if Greece was unsuccessful in its bid to raise debt, there was a risk that the contagion would spread to other European countries.

At present, Greece has to pay almost 3.5 percentage points more than Germany for long-term debt, a sharp increase from the 0.1 percentage point gap in 2005.

It is estimated that interest costs will eat up 15 per cent of the Greek budget this year. Any increase in borrowing costs will make it near impossible for Greece to accomplish it ambitious plans to slash its spending.

For its part, the European Union has been reluctant to commit to financial assistance. It is insisting that Greece demonstrate that it can slash its budget deficit to 3 per cent of gross domestic product by 2012, from around 13 per cent at present.

Political pressure is heating up, with recent opinion polls showing Dutch and German voters are strongly opposed to bailing out weaker members of the eurozone. The situation was further muddied by reports in the German magazine, Der Spiegel, that the German finance ministry had drafted plans for eurozone countries to provide Greece with up to $US34 billion in loans. This was denied by a German finance ministry spokesman.

Should Greece stumble in its debt-raising attempts, there is little doubt that markets will increase their focus on other debt-ridden members of the eurozone, such as Portugal, Ireland, and Spain. The countries will likely see their bonds sold off heavily, pushing up their interest costs.

The euro is already under intense pressure, with speculators building up a record short position of just under $US10 billion against the currency.

Markets are also fretting about the massive exposure that European banks have to Greek debt, and the cost of insuring European financial debt has now soared to a record level.

According to figures from the Bank for International Settlements, Greece has a total of $US302.6 billion in foreign bank loans, 84 per cent of which came from European banks. The biggest lender is France ($75.5 billion, followed by Switzerland ($64.0 billion) and Germany ($43.2 billion). In contrast, US banks had only a very modest direct exposure to Greece of a mere $16.4 billion.

The other huge item of interest in any new Greek debt raising will be whether US investment bank, Goldman Sachs, is given a role. Goldman helped Greece with a $US10.8 billion debt raising in late January, and there were also reports at the same time that the investment bank had been trying to sell up to $US34 billions of Greek bonds to China.

But Goldman’s strong links to Greece have come under fire following claims the investment bank helped Greece to cleverly structure transactions so they did not need to be disclosed as borrowings. In one transaction in 2002, Greece was able to conceal US$1 billion of debt, which meant that the country appeared to comply with EU ceiling on government debt. Greece insists that the deal was legal at the time.

Since the crisis over Greek debt erupted, the EU has tightened the rules on the reporting of debt by its member countries. And Greece was due to hand over the details of its Goldman deal to the EU at the end of last week.

The former chief economist of the IMF, Simon Johnson, is predicting the EU will set up a special audit to look at Goldman’s European operations. Such an audit would likely look at what other eurozone countries worked with Goldman over the past decade, what transactions were done, and whether Goldman helped governments disguise the level of their indebtedness.

Johnson contends that Goldman could well find itself blacklisted from working with eurozone governments for a lengthy period, as was the case with Salomon Brothers two decades ago.

This article first appeared on Business Spectator.