More talks on euro zone crisis as Merkel backs private investor help

German Chancellor Angela Merkel has called for private investors to make a major contribution to bailing out Greece as pressure increases for radical action to cut the country's debt burden.

Officials have proposed a range of schemes for Europe's bailout fund, the European Financial Stability Facility, to finance a buy back or a swap in which private owners of Greek government bonds, that is banks, insurers and other investors, would accept cuts in the face value of their holdings.

European Central Bank Executive Board member Lorenzo Bini Smaghi suggested the EFSF be allowed to provide funds for a buy back of bonds from the market, where prices have in some cases fallen 50% from levels at which the debt was issued.

‘This would allow the private sector to sell bonds at market prices, which are currently below nominal value. At the same time, the public sector could benefit monetarily,’ Bini Smaghi told Sunday's To Vima newspaper in an interview.

Wolfgang Franz, head of Germany's economic advisers to the government, said the huge size of Greece's €340 billion euro debt pile meant it was ‘inevitable and justified’ for the private sector to accept losses.

‘One possibility would be that the current EFSF euro rescue mechanism swaps, at a significant discount, Greek bonds into bonds it issues and guarantees,’ Franz was quoted as telling Focus magazine at the weekend.

Alarmed by the spread of market jitters over Greece to Italy and Spain, where bond yields have surged in the past 10 days, European governments are struggling to put together a second bailout of Greece that would supplement a €110 billion rescue launched in May last year.

Germany is insisting private investors be involved in the second bailout, and Merkel indicated that if they did not voluntarily agree to a major contribution now, they might eventually be forced into a more costly solution to the crisis.

‘The more we can involve private creditors now on a voluntary basis, the less likely it is that we will have to take next steps,’ Merkel told public broadcaster ARD without elaborating on what those steps might be.

Three weeks of talks between European officials and the private sector have failed to reach a deal on the second bailout of Greece, but the lobby group representing commercial banks said on Sunday that some progress had been made.

‘Progress has been made and the discussions are continuing,’ the Institute of International Finance said in a brief statement. It said the talks were focussing on ‘several options’ related to Greece's financing needs and longer term debt sustainability.

Last week, European Council President Herman Van Rompuy announced that euro zone leaders would hold a summit in Brussels on Thursday this week to discuss the rescue of Greece.

But Merkel, while describing the summit as ‘urgently necessary’, said she would only attend if lower ranking officials had already prepared a clear rescue plan. ‘I will only go there if there is a result,’ she said.

Other options on the table include an extension of the maturities of Greek bonds. Legal and technical obstacles may lie in the way of any step to involve the private sector in helping Greece. Bini Smaghi acknowledged, for example, that current EFSF rules did not provide for it to buy bonds from the secondary market; changing the rules might require approval by national parliaments.

Another potential obstacle is the ECB, since the central bank's president Jean-Claude Trichet has opposed any measure that would cause credit rating agencies to declare Greece in default, even on a limited basis.

A deal on a private sector contribution to Greece would probably not by itself come close to solving the problem; officials and private economists estimate the country's debt would have to be cut by about half, to 80% of gross domestic product, to make it manageable in the long term.

As part of the second bailout, officials are also looking at other measures to help Greece including up to €60 billion of additional emergency loans from European governments and the International Monetary Fund, steps to recapitalise Greek and European banks, and ways to stimulate economic growth in Greece.