PARIS (MNI) – The following is the second part of the new debt
sustainability report published Friday by Greece’s official lenders and
reprinted in UK daily The Telegraph.

“Permanent growth and interest rates shocks can lead to
unsustainable debt dynamics:

– Growth. Results can be very sensitive to growth outcomes. Fixing
the primary balance, permanently lower growth (-1 percentage point each
year) would render debt clearly unsustainable, while higher growth (+1
percentage point each year) would lead debt to fall to just under 130
percent of GDP by 2020. Allowing fiscal feedbacks — with higher growth
making it easier to sustain a higher fiscal adjustment and lower growth
making it easier to fall permanently short of targeted adjustment levels
— would reinforce these outcomes. There is also a second endogeneity at
play, whereby strong growth will be very hard to achieve unless Greece’s
high debt overhang is decisively tackled. Overall, the scenario
emphasizes the crucial importance of frontloading growth-enhancing
structural reforms for debt sustainability.

– Spreads and Bund rates. If new market access would take place at
slightly different levels, this would not have a large impact on the
debt level. For example, if return to markets is at 150 bps higher than
the baseline but primary balances are unchanged, debt-to-GDP levels
would be only slightly different by 2030. Essentially, Greece is not in
the market in this scenario until late the second decade, limiting the
need for new market financing, and thus the impact of interest rates.
However, higher Bund rates, which would affect the rates for the heavy
volume of official borrowing, would limit the debt decline in the second
decade once potential growth starts to slow down and result in debt
stabilizing at a very high level (about 150 percent of GDP).

– A combined shock – to represent a scenario of strong internal
devaluation enforced by a much deeper recessionwould sharply raise debt
in the near term.

To model this it is assumed that through much deeper recession and
deflation the competitiveness gap is unwound by 2017, instead of during
the next decade. The headwinds from the deeper recession are assumed to
delay the achievement of fiscal and privatization policy targets by
three years. As the economy rapidly shrinks, debt would reach extremely
high levels in the short run at 208 percent of GDP. If Greece could
weather the shock to confidence this could create, the eventual more
rapid recovery of the economy would help bring debt back down towards
the revised baseline path, but it would remain at a very high level in
2020 (173 percent of GDP).. Market access would not likely be restored
until 2027 (under the assumptions on access used, in particular the 150
percent of GDP debt threshold). Cumulative additional financing needs
(including rollover of existing official debt) could approach E450
billion.

5. Making Greek debt sustainable requires an appropriate
combination of new official support on generous terms and additional
debt relief from private creditors:

– Large, long-term, and sufficiently generous official support will
be necessary for Greece to remain current on its debt service payments
and to facilitate a declining debt trajectory. The commitments given at
the July 21 Summit that euro area partners would continue to support
countries under adjustment programs, like Greece, for as long as it
takes to regain market access (provided the program is implemented) –
represent an important breakthrough, and the credibility of this
commitment is critical to a sustainable Greek debt position. The revised
baseline does indeed rely on additional official support beyond the
amounts tabled during the July 21 Summit, to give the Greek government
time to adjust until market access is successfully restored. As noted,
the precise timing of market re-access is inherently uncertain. Under
the assumptions used, the time required to get back to market could be
significant, generating a potential need for additional official
financing ranging up to E440 billion (i.e. under the worst case of the
scenarios studied here, the faster macro adjustment shock).

– Deeper PSI, which is now being contemplated, also has a vital
role in establishing the sustainability of Greece’s debt. To assess the
potential magnitude of improvements in the debt trajectory, and
potential implications for official financing, illustrative scenarios
can be considered using discount bonds with an assumed yield of 6
percent and no collateral. The results show that debt can be brought to
just above 120 percent of GDP by end-2020 if 50 percent discounts are
applied. Given still-delayed market access, large scale additional
official financing requirements would remain, estimated at some E114
billion (under the market access assumptions used). To get the debt down
further would require a larger private sector contribution (for
instance, to reduce debt below 110 percent of GDP by 2020 would require
a face value reduction of at least 60 percent and/or more concessional
official sector financing terms). Additional official financing
requirements could be reduced to an estimated E109 billion in this
instance. Of course, it must be noted that the estimated costs to the
official sector exclude any contagion-related costs.

(Footnote 1: The ECB does not agree with the inclusion of these
illustrative scenarios concerning a deeper PSI in this report.)

Appendix I: Financing and other assumptions of the DSA Exercise

1. The financing and other assumptions underpinning the revised
baseline are as follows:

Financing assumptions. These have been updated, versus the fourth
review, to reflect the agreements reached at the July 21 Summit. Thus,
going forward, EFSF financing is assumed to be provided at 100 bps above
the German 10-year Bund rate (rising from 4 percent in 2012 to 4.7
percent by 2016); PSI is completed on the July 21 parameters, but
participation is assumed to fall short of 90 percent, and almost all of
the debt is assumed to be exchanged for par bonds (involving about E35
billion in collateral financed by the EFSF). Some E33 billion of
post-2020 bonds are assumed bought back (using E20 billion in financing
provided by the EFSF). IMF exposure remains under SBA terms with E30
billion in total access. Greece is assumed to return to the market at
spreads falling from 500 bps to 250 bps by 2020 (with the spread
contained by much lower rollover requirements over the medium-term, and
by the potential availability of additional EFSF financing, consistent
with euro-zone leaders pledge to support Greece for as long as it takes
for Greece to return to markets).

Other Policy assumptions

– Bank recapitalization/HFSF funding. Total additional banking
sector support needs are preliminary calculated to amount to E20
billion, bringing total HFSF needs to some E30 billion. The additional
financing is needed to provision for losses on banks’ private loan
portfolios and on their government bond holdings.

– Arrears clearance. This is assumed to apply to end-2010 arrears
for an amount of E4.5 billion (compared with E5.1 billion in end-March
arrears used for the 4th Review). Arrears clearance has been frontloaded
compared to the 4th Review assumptions: state budget arrears are assumed
cleared by Q1 2012, while hospital, legal entity, social security fund
and local government arrears are paid down in 2012.

– Deposit accumulation. The size of the cash deposit buffer of the
government remains at E11 billion, but this sum is now built up by
end-2012 (versus mid-2014 in the 4th review). The deposit buffer
represents one quarter worth of payments. It can also stand in for
shortfalls in the ambitious program privatization targets.

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