Why Greece needs a 100% hair cut
UBS’ Stephane Deo comes up with amazing analysis where he says that 50% hair cut being proposed by Euro leaders wont work and it would effectively amount to just 22% hair cut. According to Deo, Greece would need 100% hair cut which would then be effectively equal to 50%.
Here is how he proves his point:
Why a 50% haircut does not work at the time of writing, Greece has total debts of €346.4bn. About a third of this debt is in public hands (34.8% is attributable to the IMF, ECB and European governments), roughly another third is in Greek hands (28.8%, essentially for banks) with the remainder (36.4%) held by non-Greek private investors.
The problem with the above is that some of the debt cannot be included in a haircut. This is almost certainly true in the case of the IMF debt. It has been suggested that the IMF debt could actually be included in the restructuring, but this would be unprecedented and we attach a very low probability to such a decision. Similarly, the bilateral loans are de jure pari passu, but we think it is nevertheless difficult to envisage a haircut on that part of the debt.
More debatable is the ECB case: the ECB has not been party to public-sector involvement (PSI), as it was a “voluntary” exercise and the ECB did not volunteer. However, in the case of a coercive default, it would be legally difficult for the ECB not to participate. Hence, in Chart 6 below, we provide two simulations: one with ECB participation and the other without ECB participation. In the case of ECB participation, if we assume the ECB holds €55bn in Greek bonds, and has purchased these bonds at an average of around €¢70, it would mean that a 50% haircut would leave the ECB with a loss of about €11bn.
Last, while the Greek banks would naturally be subjected to any haircut, the difficulty is that they are undercapitalized. According to our equity analysts, Greek banks currently have a core tier 1 ratio of around 8% (Marfin Popular Bank – 8.6%, National Bank of Greece – 8.5%, Alpha Bank – 8%, EFG Eurobank Ergasias – 6.4% and Piraeus Bank – 7.2%). This means that any haircut affecting their debt portfolio would push their capital lower and trigger the need for a recapitalization. Consequently, every euro saved by the government on its debt via the haircut would be injected into the Greek banks. This is equivalent to having the Greek debt in Greek banks excluded from the haircut.
Hence, Greece would need a hair cut of complete 100% for actual reduction of 50% of debt. I doubt leaders would be even thinking of 100% hair cut but if we want to get out of the Greek Debt problem then it might be needed.