Restructuring Greece's sovereign debt would pose potentially incalculable risks to the overall euro zone and will not solve the country's fiscal crisis, a senior European Central Bank official said on Friday.
Speaking in the German city of Aachen, ECB Executive Board member Juergen Stark warned that market speculation over a debt restructuring was based on the false assumption that Greece was insolvent.
I would warn against underestimating the massive harmful effects a debt restructuring would cause for the country involved and for the euro zone as a whole, he said, adding the risks would be far reaching and effectively incalculable.
Debt sustainability would be hurt since companies would postpone their investments out of uncertainty, throttling growth and increasing its obligations as a proportion of the economy's size.
Additionally the domestic banking sector would be brought to the edge of insolvency, forcing the government deeper into the hole as it bailouts lenders.
Moreover it is very well conceivable that the risks for financial market stability could spread to other European countries, he said.
The idea that one could then solve a fiscal crisis through a simple debt reduction (resulting from a restructuring) is consequently an illusion, Stark continued.
Instead he said the solitary alternative for a lasting solution to the crisis was for Greece and other indebted euro zone countries to continue on their path of painful austerity measures and comprehensive structural reforms.
Any debt restructuring would have the opposite effect, and weaken the incentives for a government to push through unpopular reforms and harsh budget cuts.
In the case of Ireland and Portugal there is broad support and accountability. I expect this will soon be the case in Greece as well, Stark added.
While he expected the euro zone to eventually increase in its membership from the current 17 EU states participating, he added that none of the remaining 10 currently could withstand the rigorous convergency criteria needed to adopt the euro.
He was addressing an event held ahead of Aachen's prestigious Charlemagne Prize on June 2 that will be awarded to ECB President Jean-Claude Trichet.
A hard-liner when it comes to price stability, Stark left little doubt once again that further ECB rate hikes were on the agenda to keep inflation expectations well anchored.
We never said that we would raise rates every month or every two to three months, we said we would raise them gradually, he said on Friday. The Frankfurt-based central bank hiked lending rates for the first time in almost three years last month after headline euro zone inflation surged past the threshold it uses to define price stability, which is below but close to 2 percent.
The market currently is pricing in two further hikes before the end of the year, with the next one generally expected to come in July.
(Reporting by Matthias Inverardi in Aachen and Christiaan Hetzner in Frankfurt; Editing by Chizu Nomiyama)