• Merkel and Sarkozy stepped in to calm the markets today and reinforced the commitment to save Greece. We expect a solution to be reached over the coming weeks, at the very latest in mid-July.
  • A new package will include more EU funds financed via the EFSF – a minimum of EUR30bn, but it could be up to EUR80bn depending on the length of the package. Private investor participation via a Vienna rollover of Greek debt is also on the cards.
  • It remains crucial that the confidence vote on the new Greek government is passed (expected on Sunday or Tuesday). The awaited austerity package will have to be endorsed before we enter July.
  • Greek PM Papandreou has managed to find someone to take the job of Finance Minister: the previous Defence Minister, Evangelos Venizelos.
  • On Sunday the Eurogroup will meet to start discussions on a new package for Greece. Discussions will continue throughout the week as we also have the European Council meeting on Thursday/Friday (see timeline)

Political commitment remains intact

Merkel and Sarkozy stepped in to calm the markets today and reinforced the commitment to save Greece. We expect a solution to be reached over the coming weeks and at the very latest in mid-July, as hinted by Olli Rehn today. It will involve:

  1. More EU funds financed via the EFSF, a minimum of EUR30bn but it could be up to EUR80bn depending on the length of the package. EUR30bn would buy Greece a year, and a “big” package could give it another 1-2 years.
  2. Private investor participation via a Vienna rollover of Greek debt. This is expected to yield around EUR30bn. (It is crucial that it will not trigger CDS contracts.)

It remains essential that the confidence vote on the new Greek government is passed (expected on Sunday or Tuesday). The awaited austerity package will have to be endorsed before we enter July.

EU summits in coming week

On Sunday the Eurogroup will meet to initiate discussions on a new package for Greece. According to German Finance Minister Schaeuble, an agreement will be reached on Sunday.

However, disagreements internally in Greece and between the ECB and Germany remain a serious threat. Nevertheless, an agreement could be reached at the Eurogroup meeting on Sunday/Monday, or the European Council meeting on Thursday/ Friday. However, a mid-July package cannot be ruled out – as recently indicated by Olli Rehn. However, on our understanding approval of the austerity measures by the Greek parliament is still a necessary condition for the disbursement of EU and IMF aid in early July. Hence, the most imminent hurdles appear to be the confidence vote next week and approval of the austerity measures by the Greek parliament before the end of June.

Government reshuffle in place

Greek PM Papandreou has managed to find someone to take the job of Finance Minister, and yesterday he announced a cabinet reshuffle and asked for a vote of confidence from his parliamentary group. The government crisis is caused by political pressure from both inside and outside the ruling PASOK party, as the continued fiscal tightening has grown increasingly unpopular.

The new Finance Minister will be the previous Defence Minister, Evangelos Venizelos. He will now have to find backing for crucial tax rises, spending cuts and sell-offs of public assets, as required for the EU and IMF to release the fifth tranche (see Reuters).

Short-term (next month) financing in place

The IMF seems willing to release a fifth EU/IMF tranche, despite no solution being reached. Olli Rehn stated today that it might take longer to reach agreement on a second package for Greece. This also shows that the EU/IMF is willing to buy more time if needed.

Market reaction

There was some relief ahead of Merkel and Sarkozy’s press meeting. German yields moved higher across the curve. Money-market curves are still extremely flat though, and we see plenty of room for steepening (in 2012 maturities) if there is further relief on the Greek story. In FX markets EUR/USD advanced by one big figure to around 1.427 following the press meeting.