Greece piles on austerity, seeks EU safety net

The European Union praised Greece's third savings package in as many months and said the country can count on European solidarity.

But German Chancellor Angela Merkel, whose backing for any European safety net for Greek borrowing would be vital, stopped short of any commitment to financial support.

The government said the public sector pay cuts, pensions freeze and tax increases would save the equivalent of 2 percent of gross domestic product on top of existing plans to reduce this year's budget deficit to 8.7 percent of GDP from 12.7 percent in 2009.

Prime Minister George Papandreou said the deep cuts, which drew howls of protest from trade unions, were essential to save the country and the ball was now in Europe's court.

We are now justifiably expecting EU solidarity, which is the other side of this agreement, he said in a televised conversation with President Karolos Papoulias. Europe's responsibility is historic.

But Merkel cold-shouldered Greek and market expectations of tangible assistance, saying she would not offer aid when she meets Papandreou in Berlin on Friday.

I want to say clearly that it is not about aid measures for Greece on Friday but about good relations between Germany and Greece, Merkel said, adding there was no alternative to Greece doing its own homework.

Finance Minister George Papaconstantinou said Greece had reached the limits of austerity and could not rule out going to the International Monetary Fund if EU help was not forthcoming. The IMF welcomed the fiscal plan as substantial.

The measures, divided equally between spending cuts and tax hikes, include raising value added tax (VAT) by 2 percentage points to 21 percent, cutting public sector salary bonuses by 30 percent and freezing state pensions.

There will also be higher rates of tax for those earning over 100,000 euros ($136,500) a year, for owners of big properties such as the church and for those splashing out on yachts, expensive cars and jewels.

The euro rose on foreign exchange markets on the news and Greece's borrowing costs fell further, with the risk premium on Greek 10-year bonds over benchmark German bunds narrowing at one point to 279 basis points, the lowest since mid-February.

CREDIBILITY

Speaking to members of his PASOK party on Tuesday, Papandreou said all of Europe would be threatened if Greece failed to take brave decisions to cut a 300 billion euro debt mountain, equivalent to 125 percent of its annual output.

Credit ratings agencies Moody's and Fitch said the new measures lent credibility to Greece's fiscal adjustment plan.

Two of the three major debt watchdogs, Standard & Poor's and Fitch, have downgraded Greece's public debt to below A grade. If Moody's follows suit, Greek government bonds would no longer be eligible as collateral for European Central Bank lending from the end of this year.

Moody's said maintaining its A2 rating was contingent on Greece executing its deficit-cutting plan. Signs that deficit reductions will fall short of what has been promised would likely lead to downgrades, it warned.

Fitch welcomed the measures but said they were not expected to change Greece's BBB+ rating or outlook.

(They) will presumably encourage the markets to be more willing to lend, Fitch analyst Chris Pryce told Reuters.

Opinion polls show that just over half of voters back the government's austerity measures so far but Papandreou still has to contend with strikes and unrest and Greece's biggest public sector union warned of a social explosion.

People will start going hungry soon, its general secretary, Ilias Iliopoulos, told Reuters.

Greece needs to borrow or refinance some 53 billion euros this year, including 20 billion between April 20 and end May.

European government sources have said Germany and France are working on contingency plans under which state-owned financial institutions would directly purchase billions of euros in Greek bonds or offer guarantees to commercial banks that bought them.

In his speech on Tuesday, Papandreou said Greeks should not be lulled into thinking a government default was a remote nightmare scenario, saying new holes in the budget deficit were appearing on a daily basis.

Although market pressure on Greece has eased in recent days, a Reuters poll of economists showed on Tuesday that skepticism about the government's ability to meet a goal to slash its deficit by four percentage points this year still runs deep.

Only 18 of 47 respondents said they believed Athens would meet that target.