'Greece threatens Euro-zone economy'

Press TV talks with Sean O'Grady, Finance Editor of The Independent, London who discusses the difficult situation Greece is facing and her options. Following is a transcript of the interview.

Press TV: Euro-zone ministers have been divided over the role of banks for a second rescue package. Now France and Germany have agreed that private creditors can help voluntarily - Will that be endorsed though by other members?

Sean O'Grady: I think everyone would be very happy if the private bond holders i.e. the banks and insurance companies and pension funds who hold government bonds issued by Athens agreed to roll them over; agreed to have longer maturity; agreed to wait longer for their money without any other conditions attached to it - that would not trigger a credit event, it would not trigger a default; it would not trigger all the insurance claims that would come if the bonds actually defaulted. That is a very hopeful thing. Most people in Europe would like that; the Greek people certainly would as well; and it would be good for the world economy.

The big question is whether those private investors would agree to such a thing - they're under no obligation to do so and the real reason why they would do so is because 'voluntary' has got very heavy exclamation marks round it - it's really saying to them you either agree to this or you may end up with very little back at all; and on that point there isn't a lot of agreement in Europe.

A voluntary arrangement is in everyone's interest... but on the idea that there should be a compulsory way that is made to force a reduction in bond value; that is very hotly debated within Europe. While the government would like to see this happen, the banks would not because it sets a bad precedent and could trigger another financial crisis - a Lehmann style collapse and a general panic around Europe.

Press TV: This week the rating agency, Moody's warned that it may downgrade three French banks because of their exposure to Greece and this could also happen to Germany, which has the largest exposure in terms of Greece debt - Can Germany and France keep their heads above the water as the Euro Zone economic woes continue?

Sean O'Grady: That's a big question, the most important question of all. The amount of Greek debt they hold is very substantial; it would be very expensive for them. The European central bank owns a lot of Greek debt that it took in as collateral for loans to the Greek private banks - that would be devalued. The European central bank would have to be recapitalized and individual central banks would have to be recapitalized as well. That might be manageable.

What would be unmanageable is if it spreads beyond Greece through this contagion effect; if people become fearful of default in other more substantial economies - I'm thinking particularly of Spain - In those circumstances the big economies of France and Germany would not be able to afford to bail her out and to support her banking system.

And we would come to a very difficult situation in which Europe as a whole is pretty much running out of money and then we'd have to turn to the IMF and other countries in the world in order to see a rescue package put together for the entire Euro Zone - that's where we would end up.

For now, if we're lucky, France and Germany will be able to afford to see our way through this crisis, but if they're unlucky, if there is more of a panic, that won't be possible.

Press TV: Why does Greece right now need a second bailout when the first bailout has actually not been working? Observers have been saying when speaking about a second bailout how effective is it going to be?

Sean O'Grady: Another good question. Last year it was 110 billion Euros - a huge amount of money - and the European Union then put together a one trillion Euro package to defend the entire Euro Zone and everyone was supposed to be shocked and awed by that and it would never happen again and now here we are.

There are a few reasons why this has happened: first of all the Greek economy has not been able to grow precisely because of the austerity packages that have been put in place - that has depressed the Greek economy, pushed tax revenues down and it's put unemployment and social spending up as it always does in such circumstances. Now it's actually made things more difficult for the Greeks to service their debts and honor their international obligations.

Underlying the above is the fact that Greece's debts are gigantic by any standards. In Britain, we're panicking because we've got a budget deficit that's 75% of our national income. In Greece, it's going on to 150%. If an economy isn't growing and with the interest rates international investors are demanding from Greece it is impossible for Greece to service the interest on that debt in the long run; it is simply unsustainable.

And that's why the markets believe that a default at some point or restructuring is going to be inevitable. And it's also inevitable that Greece will need help from her friends and neighbors.

Press TV: Do you think that defaulting on the part of Greece is going to be more it's interests than what it's already facing because of the recession; because of the debts and now further debts still to come?

Sean O'Grady: It may be in Greece's interests; it may be inevitable in the long run that that's what they have to do in order to make their economy work and make the sums add up, that is perfectly true.

For Europe and for the world economy there's a much more difficult choice here - it is very expensive to bailout Greece year after year. It's annoying because we're propping up and subsidizing private bond holders and banks and people who are taking a bet on these securities the Greek government has issued, which get huge yields on them and seemingly have no risk. Greece is too big to fail in that sense.

If we let her go though, it would be even more expensive. It would cause a huge financial meltdown across Europe - it could be a Lehmann's style moment. As we've heard, the American institutions would be dragged into this; the IMF would be dragged into it and sooner or later Greece would need rescuing in one way or another in any case even if she left the Euro; even if she defaulted on her debts she'd need to borrow money in future and so on.

So that's the difficult choice. There's never been an easy way out of this crisis; if there was we would have taken it about a year and a half ago when it started. The kicking the can down the road method may well postpone things albeit unsatisfactory, but it does buy us time and would probably be cheaper than triggering a meltdown.

That is the lesson we have with Lehmann Brothers when the US authorities allowed Lehmann's to fail. And we saw what happened after that - the world economy melted in the autumn of 2008; markets went down; consumer competence failed; simultaneously across the world from Brazil to Japan everything melted down and economy activity fell off a cliff. We cannot afford to have that happen again in Europe, difficult and expensive though another bailout is in Greece.