The European Central Bank said on Thursday it opposed forcing private creditors to take part in debt relief for Greece, pushing back against Germany, which has demanded a bond swap to lengthen Greek debt maturities.
ECB President Jean-Claude Trichet signaled the hard line at the bank's monthly news conference, as new figures from Athens showed the Greek economy shrank by 5.5 percent in the first quarter of the year, a far sharper rate than expected.
The data cast fresh doubt on Greece's ability to meet targets for cutting its budget deficit, part of a 110 billion euro bailout agreed with the European Union and the International Monetary Fund in May last year.
The EU is now considering another aid package for Athens, and euro zone sources told Reuters on Thursday the new deal would total about 120 billion euros, with the EU and IMF providing up to half of that sum and the rest coming from Greek privatization revenues and private creditors.
How to involve the private sector is hotly contested within the single currency bloc.
German Finance Minister Wolfgang Schaeuble wrote to Trichet, the IMF and his euro zone partners earlier this week and proposed a swap in which private debt holders would trade in their Greek government bonds for new ones, giving Greece an extra seven years to work through its debt.
But ratings agencies said on Thursday that it might be impossible to conduct such a swap on a voluntary basis, while Moody's Investors Service warned a Greek default could impact the ratings of Ireland and Portugal, the two other euro zone countries that have required bailouts.
The ECB, the European Commission and countries including France have warned against any Greek debt restructuring that involves coercion of investors, for fear that it could alarm markets and spread contagion to bigger members of the euro zone such as Spain.
We exclude all concepts which would not be purely voluntary, without any elements of compulsion, Trichet said. We call for avoiding any credit event and selective default. And of course, default.
French official sources told Reuters they could support a private sector rollover of Greek debt but only if a voluntary formula could be found that would prevent wider damage to euro zone markets.
Greek, Irish and Portuguese bonds all came under pressure after the Moody's warning, and the cost of insuring Greek sovereign debt against default rose.
Although Germany may struggle to win support for its debt swap proposal, the fact that euro zone officials are including a 30 billion euro contribution from the private sector in their assumptions about a new Greek bailout suggests some form of investor involvement is likely.
Several banks, including French heavyweight Credit Agricole, have expressed willingness to participate in recent days. Many of the German banks that hold Greek sovereign debt on their books are part-owned by the government, meaning Berlin would have significant influence over their stance.
German Chancellor Angela Merkel and Schaeuble briefed lawmakers on their Greek aid plans on Wednesday evening and received strong backing for the debt swap idea.
They are worried about a backlash from angry taxpayers and a possible rebellion in parliament if the banks that lent Greece money in better times remain untouched, as they did under the Greek, Irish and Portuguese bailouts sealed over the past year.
A group of German academics filed a legal challenge to the rescues a year ago, and Germany's top court is to hold a hearing on their suit on July 5.
Germany's drive to involve private creditors is supported by several of its euro zone partners, including the Netherlands and Finland.
But a euro zone source said the ECB had come out strongly against Schaeuble's proposal during a Wednesday conference call involving euro zone finance ministers and the central bank.
The central bank has warned that it would refuse to accept Greek debt as collateral in the event of a restructuring, a step that could further destabilize the Greek banking system.
CALL THE BLUFF
The source said, however, that it would ultimately be up to governments to decide how to proceed, and that it was possible other euro zone states could end up going along with the German plan, essentially calling the ECB's bluff.
It could solve the problem if it was highly successful with a clear majority of the bond holders participating, the source said. So this is very ambitious but also very risky.
Greece's debt burden stands close to 340 billion euros, or roughly 150 percent of its gross domestic product -- a level that many economists believe makes a substantial restructuring, involving so-called haircuts or forced bond losses, inevitable at some stage.
The softer options being considered by Europe would not reduce Greece's debt burden but would buy it more time to get its economy back in gear and restore confidence in its fiscal situation through privatizations.
EU leaders aim to agree on the new aid package for Greece at a June 23-24 summit in Brussels.
(Writing by Noah Barkin, editing by Andrew Torchia)