Cause and Effect in European Politics and Law

The Permanent Euro Area Rescue Mechanism Could Be Activated from 2012

Ralitsa Kovacheva, September 28, 2011

The German government is considering the option of launching the permanent rescue fund for the euro area (the European Stability Mechanism (ESM)), a year earlier than planned - in 2012 instead of mid-2013. The news has been reported by the German news magazine Der Spiegel that cited sources of its own. As euinside predicted a year ago, when the ESM was created, given the speed of the spreading of the debt crisis 2013 seems too far away.

The main advantage of an early activation of the mechanism, according to Der Spiegel, would be solving the problem with Finland's request for collateral in return for its participation in the second Greek loan. As euinside wrote in details, the ESM capital of 80 billion euros paid up-front, money that the fund could use as collateral. Finland could get its security but only if it pays its share in the ESM capital, amounting to almost 1.5 billion euros in one go, instead of five equal instalments as provided, the magazine writes.

According to the ESM Treaty, signed by the eurozone leaders in July, the initial maximum lending volume of the ESM will be 500 billion euros. If the mechanism is launched in 2012 this will solve the issue with the requests for further increases of the current temporary fund (EFSF). It has 440 billion euro lending capacity but it can effectively use only around 250 billion euro, because of the need to keep cash reserves to maintain its AAA credit rating. Another option for increasing the capacity of the temporary fund, proposed by the Director of CEPS, Daniel Gros, and the chief economist of Deutsche Bank (London), Thomas Mayer, is the EFSF to be registered as a bank so that it can be refinanced by the ECB.

Formally, if the ratification process of the ESM is concluded by the end of the year it could be operational from early next year. Another advantage of this would be that the mechanism provides for private sector participation in each potential case for lending. To that end, “standardised and identical collective action clauses (CACs) will be included, in such a way as to preserve market liquidity, in the terms and conditions of all new euro area government bonds starting in June 2013.” The aim is this to be the legal basis for changing the terms of payment (standstill, extension of the maturity, interest-rate cut and/or haircut) in the event that the debtor is unable to pay.

So in case of future loans it will be possible to avoid difficult negotiations with still unknown outcome, as those with the Greek private creditors to restructure part of its external debt. Although there was a consent for the deal with the private sector, it is not yet known exactly how many financial institutions will participate and what will be the real benefit from it, as forecasts have already appeared to claim that debt reduction would be insignificant and will not be reduced to sustainable level. However, European leaders and the Greek authorities are still arguing that a default is unthinkable and the decisions of 21 July must be implemented.

Part of these is widening the scope of the temporary rescue fund so it can buy debt on secondary markets (only after an ECB analysis, in exceptional market circumstances and following a unanimous decision of the member states), and to recapitalise banks through government loans, including in non-programme countries. It is expected by mid-October the changes to be approved by the national parliaments of the eurozone countries and to take effect. Five countries have already approved the changes (France, Italy, Belgium, Spain and Luxembourg). This week there are three key votes to take place – in Slovenia, Finland and Germany.