Secretive committee rules Greek bailout deal is not a default
The financial world has spent the morning intently watching and debating about an obscure and secretive committee that voted on how to categorizeGreece’sbailout plan.
The question facing the committee was whether to define the current plan to exchange bonds as an act of default by Greece on its bonds. But the committee, run by the International Swaps and Derivatives Assn., voted 15 to 0 Thursday morning that the plan was not a default.
The answer is significant because if Greece does default on its bonds, it will trigger the complex financial instruments known as credit default swaps, which are designed to allow investors to bet on Greek defaulting on its bonds. To understand why this matters so much, it is only necessary to think back to the 2008 financial crisis when credit default swap bets helped bring down American International Group.
At its most basic, a bond default happens when a borrower like Greece misses an interest payment to bondholders. Under the Greek plan cooked up by European financial leaders, Greece will not miss a payment, but will instead take in old bonds from borrowers and give them new bonds worth much less. This plan will allow Greece to lower its total debt, hopefully making an economic recovery more possible. But is it default?
There were fears that whatever the vote it could wreak havoc on the international financial system. If the committee voted yes, people who had sold credit default swaps might have to pay out billions, potentially destabilizing financial institutions. This outcome has grown less frightening in recent days as it has become clear that bets for and against Greece were quite evenly matched, and as a result no enormous payments would be necessary.
But a no vote had also been feared. If Greece paying out only part of what it owes on bonds does not trigger credit default swaps, then what are the swaps worth?
Bill Gross, the co-founder of investment giant PIMCO, said Thursday morning on CNBC that the vote sets a dangerous precedent.
So far, though, the no vote has not spurred any big movements in the markets. The bloggers over at MarketBeat say that is partly because the committee could still vote that some future action by Greece would trigger the credit default swaps.
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