A selective Greek default is now on the table as part of a second rescue package

07/11/2011 4:48 pm EST


Jim Jubak

Founder and Editor, JubakPicks.com

I hope that the credit rating companies are happy. It looks like the deal over a second rescue package for Greece has come apart and it’s the fault of Moody’s Investors Service, Standard & Poor’s, and Fitch Ratings. How dare those companies call a default a default!

The financial markets aren’t happy today. They were hoping that today’s meeting of EuroZone leaders would have agreed on a Pretend and Extend strategy that would have shoved the crisis off the radar screen until 2014. Doesn’t look like it’s going to happen. Certainly it didn’t happen today.

In the good old days it looks like European Union leaders were close to cobbling together a deal that would have saddled Greece with debt it couldn’t pay at interest rates it couldn’t afford in exchange for bondholders agreeing to participate in a “voluntary” roll over of maturing Greek bonds. I’ve always understand what banks including the European Central Bank got out of this arrangement—the ability to pretend that they would get paid full value on the Greek debt they held so they didn’t have to take messy write downs on the value of the bond portfolios.  I’ve never understood what the Greek people got of this deal—except near term pain to be followed by long-term pain and an eventual default on the country’s debt.

The French even came up with a plan for this kind of rescue package with a formula for a brilliant formula for those “voluntary” debt rollovers: It was so complex that no one could forecast its impact on any specific bank and therefore nobody could ding any specific bank. The Germans who had been lobbying for mandatory participation by bondholders looked like they were about to sign on once the credit rating agencies weighed in saying that any mandatory participation by bondholders would trigger a default rating on Greek debt.

But then the credit rating agencies threw everything into chaos by saying that they would view even a plan that called for a “voluntary” participation by bondholders as a default. The European Central Bank tried to quickly brush this under the rug by saying that it would continue business as usual with Greek banks even in the case of what it called a temporary and technical default.

But the Germans grabbed hold of the big logical opening that the credit rating companies had provided. If even a plan with “voluntary” participation triggered a default rating, why not go back to the mandatory plan. So what if it triggered a default rating since even the “voluntary” plan would do that?

And that’s where the EuroZone sits today—with German politicians dug in, again, around their demand that all bondholders must share the pain, with the European Central Bank saying it would not accept a plan with mandatory participation, and with the French hoping to negotiate a compromise formula but with no one to talk to on the other side of the table.

But don’t worry, there’s good news in all of this.

If you’ve gotten used to your morning dose of euro debt crisis news, it doesn’t look like you’ll have to go cold turkey soon. EuroZone politicians are now talking about putting a deal together by the fall. (Greece is funded through its August refinancings.)

And there is an increasing likelihood that a second rescue package will actually include an official default on at least some Greek debt. That would be a very useful dry run to see what would happen if the U.S. can’t get its own budget deal together and goes into technical default on its own debt.

And you thought today’s news out of Europe was all negative….

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