Friday, September 02, 2011

Understanding the Second Greek Bailout and the Effect of Finland’s Cash Demand

The Australian: Fresh Fears of Greek Default as Finns Hold Out in Collateral Dispute
Bloomberg: Finland is Negotiating Greek Collateral Model, Demands Remain ‘Absolute’
Ekathimerini: Barroso Sees Progress Over Collateral Deal Row
FT: Greco-Finnish Deal Reopens Bail-Out Debate
Helsinki Times: Finland’s Demands for Greek Collateral Cause Fear and Confusion
WSJ: Rescue Fund Hits Snags in Germany and Finland

In May of 2010, the International Monetary Fund (IMF) and several members of the European Union (EU) provided Greece with approximately €110 billion ($150 billion) to prevent Greece from defaulting on its debt. This first bailout was intended to satisfy Greece’s financial obligations while the country implemented measures to reduce the country’s debt and improve the country’s long-term financial stability. Unfortunately, the first bailout failed to solve the country’s debt problems, forcing EU countries and the IMF to provide Greece with another €109 billion bailout.

Finland is among the countries providing funds for the second Greek bailout. Because of voter backlash against bailouts, Finland demanded that Greece provide it with cash as collateral for any funds it contributes to the bailout. The collateral would serve to offset Finland’s potential losses if Greece fails to repay the bailout money. To satisfy Finland’s demands, the two countries reached an agreement under which Greece will provide Finland approximately €500 million ($680 million.) cash as collateral. In return, Finland will contribute approximately €1.5 billion ($2.05 billion) to the bailout.

Greece’s agreement with Finland has spurred criticism from other EU countries. Austria and the Netherlands (which, like Finland, have AAA credit ratings—the highest possible) are now demanding collateral before they will supply additional bailout funds to Greece. Other EU countries are concerned that these collateral demands will force Greece to use large portions of its bailout money as collateral instead of using the funds to address its debt. The idea that some, but not all, EU countries could demand collateral is also counter to the basic EU principle of equal treatment of member nations.

The IMF also opposes Finland’s collateral demand. The IMF currently enjoys status of preferred creditor, which ensures that borrowing countries will repay IMF loans before paying other creditors. If Greece were to default on its loans, the collateral Finland holds would allow it to recoup its losses before the IMF.

Despite the small uproar, Finnish Prime Minister Jyrki Katainen is adamant that Finland will not drop its demand for collateral and believes the other countries will approve the deal soon, a sentiment the president of the European Commission (the executive body of the EU) shares. If other EU countries do not approve of the deal, Finland may refuse to participate in a bailout, jeopardizing the entire Greek rescue effort. With no bailout, Greece may have no other choice than to default on its debt, which could have disastrous effects on the entire global economy.

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