Greece's tortuous negotiations over a debt swap with private creditors honed in on Thursday on demands that the European Central Bank contribute to a deal to bring Athens' messy finances back on track.
Talks between Athens, which needs a deal quickly to avert a chaotic default when a major bond redemption comes due in March, and representatives for private creditors resume Thursday evening with the aim of sealing an agreement within a few days.
After weeks of wrangling over the coupon, or interest rate, Greece must pay on new bonds it will swap for existing debt, attention has shifted to whether the ECB and other public creditors will follow private bondholders in swallowing losses.
A day after International Monetary Fund chief Christine Lagarde said the ECB may need to accept losses on its Greek holdings, the European Union's top economic official also warned more public money will be needed to make up a shortfall in the country's second bailout.
EU Economic and Monetary Affairs Commissioner Olli Rehn told Reuters there is likely to be some increased need of official sector funding, but not anything dramatic. It was the first time a top EU official had confirmed more public money than a 130 billion euro package would be required to rescue Greece.
Private bondholders want others who bought bonds, and in particular the ECB which is Athens' single biggest creditor, to take part in the swap -- known as the Private Sector Involvement -- that will make them write down the value of their holdings by 50 percent nominally, with real losses that are far higher.
It would be outrageous if the ECB doesn't take part in the PSI as keeping their Greek bonds to maturity would allow them to make a profit, while everybody else is taking 70 percent (losses) or even more, one source close to the talks said.
The ECB had ruled out taking voluntary losses on its Greek bond holdings but is now debating how it would handle any forced losses and whether to explore legal options to avoid such a hit, central bank sources told Reuters on Wednesday.
The ECB, which owns roughly 40 billion euros worth of Greek bonds, is no closer to agreeing on whether or not it will take losses on the Greek bonds it owns after a late night Wednesday meeting, euro zone central bank sources told Reuters.
Either way, at the very latest a debt deal must be clinched a month before 14.5 billion euros (11.5 billion pounds) of bond redemptions fall due on March 20, the source said, i.e., in just over three weeks.
If a deal is not reached by then, Greece could sink into an uncontrolled default that would trigger a banking crisis spreading contagion through the euro zone, though the ECB's creation of nearly half a trillion euros of three-year money for the banks in December has tempered that fear.
High debtor Italy saw its government bond yields and the cost of insuring against a default fall on Thursday, helped by solid demand for short-term debt at an auction.
So far the interest rate, or coupon, on the new bonds had been the main stumbling block in the negotiations.
On Monday, euro zone ministers rejected the creditors' offer of a 4 percent coupon on new bonds after Greece and its EU/IMF lenders held out for a 3.5 percent interest rate. They want to ensure the country's debt falls to a target of 120 percent of GDP by 2020, from around 160 percent now.
A second source familiar with the negotiations said the coupon is parked for current time until we can get closer on detail of the overall package. Asked if that would include the ECB, the source said: We would expect it to, still to be determined though.
Greek bankers and government officials said they had not heard of any new proposal from creditors, after local media reported they were willing to improve their final offer of a 4 percent interest rate on the new bonds to about 3.75 percent.
One Greek daily, Kerdos, said participation of public sector creditors including the ECB in the swap deal was a pre-condition for that offer.
Until last week, we knew that the steering committee was authorised to concede up to 3.8 percent for the average coupon, one senior Greek banker told Reuters.
But things are once again up in the air. You have to deal with politicians and 15 different governments asking for different things.
Charles Dallara, chief of the Institute of International Finance that leads negotiations on behalf of private creditors, is due to meet Prime Minister Lucas Papademos at 1800 GMT. Dallara left Athens over the weekend after the last round of talks proved inconclusive.
The IIF has said Thursday's discussions will be informal and aim to sort out legal and technical issues quickly. German Chancellor Angela Merkel said the debt swap talks were on a good path.
Senior EU, IMF and ECB officials are holding talks with the Greek government in parallel with the debt swap talks, to flesh out a new 130-billion euro bailout for Greece. They have warned they need the debt swap to cut Greece's debt substantially in order to go ahead with the new loans.
Talks with the troika inspectors on the new bailout programme are expected to go well into next week.
Germany does not expect the troika of foreign lenders to deliver a report on Greece's progress before a summit of European Union leaders on Monday, a senior German official said on Thursday, adding that this meant that Greece would not play a major role at the EU leaders summit.
Greece has made little progress on reforms as it stumbles through its worst post-World War II economic crisis. The task facing the country has been made harder with anger against austerity measures and squabbling politicians running high.
A poll on Thursday showed Greece's conservatives had widened their lead over socialist coalition partners ahead of elections expected in April, but they would not win an absolute majority if elections were held now.
(Additional reporting by Sarah White and Sophie Sassard in London, Paul Taylor and Axel Threlfall in Davos, Harry Papachristou and Tatiana Fragou in Athens, Eva Kuehnen, Marc Jones and Andreas Framke in Frankfurt,; Writing by Deepa Babington. Editing by Jeremy Gaunt.)