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ECB presses battle against Greek restructuring

By Geir Moulson

Associated Press

Published: Wednesday, May 25 2011 10:56 a.m. MDT

FRANKFURT, Germany — The European Central Bank sustained its bitter battle against the idea of letting Greece restructure its crushing debt load, even as a top ratings agency argued that Germany's banks would probably survive losses from such a move with credit ratings intact.

Juergen Stark, the European Central Bank's chief economist, said at a conference in Berlin on Wednesday that cutting Greece's debt by paying later or less than the full amount owed to banks and other bondholders was not the simple solution some think it is.

"To think that there is an easy way out in that a country's debts are largely or fully relieved is an illusion," Stark said. "Debt relief cannot and must not be the solution," he said.

Stark said Greek banks would suffer such losses during a restructuring that they would need new capital from government, which "would not be very cheap."

"We should think one connection further when we use this miracle word debt relief, or debt restructuring," he told a conference organized by a group linked to Chancellor Angela Merkel's party.

Top central bank officials are taking turns on a daily basis in talking down the thought of a restructuring. The bulk of economists, however, have been saying for months that Greece probably cannot pay all its debts despite last year's €110 billion ($155 billion) bailout from the European Union and the International Monetary Funds. Efforts to cut spending and reduce its deficit have worsened a severe recession, making the debts bigger, not smaller.

That leaves European officials with an unpleasant choice: a default and restructuring that could tarnish the entire eurozone and raise borrowing costs for other members, or keeping Greece on a years-long financial lifeline through more bailouts funded by taxpayers. A second bailout is already under consideration.

Many observers think the EU's strategy is to muddle through, hoping a growing global economy will eventually get Greece back on its feet.

Fitch Ratings said in a report that it did not see any German banks suffering a ratings downgrade due to their exposure to Greece. Concern about what would happen to German and French banks holding bonds from struggling Greece, Portugal and Ireland in case of a restructuring has been a key motivation for bailouts given to those countries.

Even a severe reduction, or haircut, in bond value of 50 percent would not cost German banks their credit ratings, Fitch said. In a restructuring, bondholders are given new bonds either with reduced interest payments or, in the worst case, less principal. The consequences can include being cut off from credit for years.

Fitch "does not envisage any rating action on German banks purely as a direct result of their exposure to Greek risk," Fitch analysts wrote in their report. "Most German banks also have limited direct exposure to Portuguese and Irish sovereign risk."

Perhaps of less comfort to officials in Germany was its assessment that losses from a restructuring would instead weigh on German taxpayers, through the government's KfW development bank and taxpayer backed vehicles set up to absorb banks' bad investments left over from the financial crisis.

Moulson contributed from report.

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