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Markets roiled on fears Greece's 'bushfire' will spread

A Greek riot policeman sprays tear gas during clashes in the center of Athens on Wednesday.


The €110-billion containment wall erected around Greece is crumbling, allowing the debt contagion to gush through the Mediterranean at alarming speed.

Portugal was Wednesday's biggest victim as investors took the view that Greece may have to restructure its debt in spite of the bailout to be delivered shortly by the European Union and the International Monetary Fund. Investors fear that if Greek debt cannot hold its par value, there is little hope that the debt of other struggling euro zone countries, notably Portugal and Spain, can either.

The sentiment was reinforced by the announcement that Moody's had placed Portugal's debt under review for possible downgrade, and the death of three people in a firebombed Athens bank during protests against the government's austerity measures. The violence delivered another jolt to the credit markets, which are losing confidence in Greece's ability see through its planned spending cuts and tax hikes.

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As the sovereign-debt crisis showed no signs of losing momentum, leaders in the euro zone - the 16 EU countries that share the euro - ramped up their efforts to stem the damage to other countries. "It's absolutely essential to contain the bushfire in Greece so that it will not become a forest fire and a threat to financial stability for the European Union and its economy as a whole," EU monetary affairs commissioner Olli Rehn told a news conference.

In Berlin, German Chancellor Angela Merkel urged lawmakers to pass legislation to deliver Germany's share of the €110-billion ($145.4-billion) Greek bailout before all credibility in the euro is lost.

In one of her most impassioned speeches, she told parliament: "We are at a crossroads. There is no alternative to the planned aid for Greece. We want to secure the financial stability of the euro area. It must come, in order to fend off a chain reaction in the European and international financial system and the risk of contagion of other euro-member states."

It appears that Ms. Merkel will get approval by Friday for Germany's €8.4-billion contribution to this year's portion of the three-year Greek bailout, but it may come at a political price. The emergency loans are unpopular among Germans, who don't want to see tax dollars funnelled to a country that fudged its budget deficit figures for years, tolerated rampant tax evasion and generally lived beyond its means. If her ruling Christian Democratic party loses Sunday's regional election in North Rhine Westphalia, Ms. Merkel's desire to prop up Greece might fade.

In Brussels, Prime Minister Stephen Harper joined in the efforts to calm investors. "In terms of the Greek situation, I think our European friends have taken all the action that is necessary," he told reporters Wednesday after a Canada-EU summit. "We expect to see more positive reaction on markets as they reflect on these things, but they have tackled this, taken the necessary actions."

The debt turmoil sent markets swooning again, after a punishing trading day Tuesday, when the Spanish government was forced to deny rumours that it was next in line for a bailout. The euro fell as much as 1.4 per cent against the dollar, at one point reaching $1.28 (U.S.), its lowest level in 14 months. Equity markets across Europe fell 1 per cent to 4 per cent.

Portuguese bonds were slaughtered. The country's short-term borrowing costs surged, taking the yield on six-month bonds to 2.95 per cent, or four times more than its last sale, in March. The yields on Greek, Spanish and Italian bonds continued to rise. The yield premium demanded by investors to buy 10-year Greek bonds over comparable German debt reached almost seven percentage points, up a full point.

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As yields climbed in euro zone countries, economists said the possibility of a wider crisis could only rise. "While the selloff on foreign bond markets so far remains gradual and discriminating, the risk that it might suddenly mutate into irrational panic can no longer be ignored," said UniCredit Group chief economist Marco Annunziata.

"Greece has taught us that unless policy makers manage to get ahead of the markets, even courageous measures can arrive too late to have any effect."

Some economists think Greece will have no choice but to restructure its debt as its overall public debt climbs and austerity measures push the country deeper into recession. In a research paper, UBS strategist Achim Peijan said that the average "recovery rate" on sovereign bonds that went into default between 1983 and 2009 was 50 per cent.

"Greece on the other hand, might be willing to offer relatively high recovery values to rebuild some political capital that was lost when the international community was misled by wrong debt statistics for years," he said.

But Greece could offer less value on restructured bonds. According to Moody's, the average debt-to-GDP ratio of countries that defaulted is 70 per cent. Last year, Greece's debt ratio was a hefty 115 per cent.

With files from reporter Bill Curry in Brussels

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About the Author
European Columnist

Eric Reguly is the European columnist for The Globe and Mail and is based in Rome. Since 2007, when he moved to Europe, he has primarily covered economic and financial stories, ranging from the euro zone crisis and the bank bailouts to the rise and fall of Russia's oligarchs and the merger of Fiat and Chrysler. More

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