S&P Says Bank Plan Opens Door to Default

By STEPHEN FIDLER in Brussels and COSTAS PARIS and NEELABH CHATURVEDI in London

European efforts to encourage private investors to contribute to a new international bailout for Greece hit new problems Monday when the Standard & Poor's rating company said the leading proposal under consideration would likely bring the country into default.

The comments from S&P are the first reaction from a rating company to a preliminary plan that emerged last week from French banks—the biggest foreign holders of Greek debt. The plan aims to encourage holders of Greek government bonds maturing between now and 2014 to roll over as much as €30 billion ($44 billion) into new Greek bonds. That would lessen the amount of new money that other euro-zone governments and the International Monetary Fund would need to lend to stave off a new Greek payments crisis.

The S&P assessment was that the French plan would leave participating bondholders worse off, and therefore would probably lead to Greece being declared in "selective default," indicating that the default applies to only some of an issuer's bonds.

The assessment will send euro-zone financial planners back to the drawing board to find a formula for private-sector participation that doesn't trigger default—or force them to find ways of coping with any fallout from a default call. As recently as Saturday, euro-zone finance ministers said in a statement that any new plan for private-sector involvement must avoid selective default.

Despite this, some European officials have admitted privately that they have been discussing ways of handling the impact of a default declaration. Chief of their concerns is the reaction of the European Central Bank. ECB officials have repeatedly warned they won't accept Greek government bonds as collateral for loans under a default or selective default, a scenario that could lead to a collapse of the Greek banking system. The ECB declined to comment on S&P's statement Monday, referring to its earlier statements on the matter.

Amadeu Altafaj Tardio, spokesman for European Commissioner for Economic Affairs Olli Rehn, said euro-zone governments remain committed to avoiding a selective default. The spokesman said "significant progress" had been made in talks with private creditors and that there will be "clarity" on the main outlines of a second package after a July 11 meeting of euro-zone finance ministers in Brussels.

But in a sign that a plan involving the private sector may still be elusive, one senior euro-zone official familiar with the talks with private creditors said there is "minimum willingness" by banks and insurance companies to roll over bonds. Banks weren't attracted by the incentives under the proposals made so far. "There are problems with guarantees and the coupon," he said.

There's also a debate about how serious it would be if Greece is called into selective default. Historically, such defaults tend to be short-lived: S&P has assigned the selective default for between one day and six months. In a note last month, S&P said that behind the fear of default often rests a common misconception. "There can be life after default. Most of the sovereigns that have defaulted in the last two decades have regained access to the capital markets," it said.

"We would assign a new issuer credit rating to Greece after a short time reflecting our forward-looking view of Greece's sovereign credit risk," S&P said Monday.

The ECB has bent its collateral rules before to help Greece, suspending minimum rating requirements for Greek bonds last year after Athens agreed to the first EU-IMF austerity package. The ECB's internal rules don't envision a scenario in which a member defaults on its bonds, but the rules nonetheless make it virtually impossible to credibly accept Greek bonds under any form of default.

Banks must post "adequate" collateral for loans, ECB rules say, and the central bank can lend only to "financially sound" institutions. Each of those criteria would be thrown in doubt under a default.

In an interview with the French newspaper Le Figaro at the weekend, Bank of France Gov. Christian Noyer, who is also an ECB council member, welcomed the French proposal. "This solution has the advantage of being voluntary, since it is the banks themselves who have proposed it—and is attractive for all financial players," he said. On Saturday evening, euro-zone finance ministers gave themselves until mid-September to come up with a new bailout plan as they agreed the fifth payment from last year's €110 billion bailout package to Greece. Without a second package in place, the IMF could refuse to make available another payment in the fall, renewing fears of a default.

Corrections & Amplifications

The French banks' plan aims to encourage holders of Greek government bonds maturing between now and 2014 to roll over as much as €30 billion into new Greek bonds. An earlier version of this article incorrectly said the plan affected bonds maturing between now and 2013