Negotiators for banks and governments are working to complete a promised debt restructuring for Greece that will slice in half what the nation owes its private bondholders.
But the deal sets up other governments in the euro zone to bear any additional burden if—many analysts say when—Greece needs more help to get out of its deep fiscal rut.
The concerns about additional costs have made some European capitals wary of consummating the deal, said people familiar with the talks, and are among the reasons they have dragged on for months.
In brief, the problem is this: European officials realize they likely have only one clean shot at exacting losses from Greece's private creditors. Once that is done, the euro-zone governments will face the unpleasant task of financing Greece until it is able to borrow again from debt markets, an event that even optimists concede is years away.
In October, euro-zone leaders and Greece's main creditors agreed to the 50% cut in private debt. (Greece also owes more than €100 billion [$127.3 billion] to the International Monetary Fund, other euro-zone governments and the European Central Bank. None of that will be touched.)
But as bad news mounts about Greece's economy, its ability to close its budget gap and its ability to raise money from privatizing state assets, the likelihood diminishes that the 50% cut is enough to make the debt burden bearable. That raises the risk that governments will have to step in again to ease it.
Extra aid to Greece is politically toxic in northern euro-zone countries, whose parliaments have expressed exasperation over the spiraling cost. It is stretching the patience of the IMF, which has so far been a stalwart partner lending to Greece. Greece's original bailout in 2010 was €110 billion; in October, the EU agreed on a further €130 billion in support.
Even that may not be enough. Thanks to economic deterioration that has further undermined the country's budget finances, "we should be missing some money," a EU official said.
EU leaders will have to figure out where it will come from, and this person said that will be up for discussion at a European summit on Jan. 30.
For now, the restructuring plan is a "voluntary" bond exchange. Private creditors would turn in their bonds and get new ones that have half the face value and mature many years in the future.
The head of the Institute of International Finance, which represents creditors, will be in Athens this week for talks. The creditors and the governments are haggling over details of the exchange—most importantly the vital issue of how much interest will be paid on the new bonds. That affects how much cash the governments have to lend Greece so that it can pay it.
An IIF spokesman said that for the benefit of Greece, and for wider market sentiment, "it's important to conclude this as soon as possible."
Officials said they hope for an announcement of the structure of the deal by next week, with a formal exchange offer to follow.
By doing the swap, however, Greece loses a chunk of future leverage. The new bonds will be issued under English law, which provides creditors with substantially more protection. Right now, a majority of Greek bonds are issued under Greek law, which can be changed by the Greek Parliament.
A person familiar with the matter said Greece intends to take advantage of that by retroactively inserting into its existing bonds so-called collective-action clauses that reduce the ability of uncooperative bondholders to block a deal. There is another issue: If the plan goes through, at the end of 2014, Greece will have around €435 billion in debt, of which two-thirds will be held by public entities—largely euro-zone governments.
"It's going to be very hard to force new losses on private creditors," said Mitu Gulati, a law professor at Duke University and an authority on sovereign-debt restructuring. "There won't be enough private creditors next time around—the official creditors will also have to take a hit."
Time is short. On March 20, Greece must repay a €14.5 billion bond. That is money it doesn't have. Without additional cash from the other European governments that have been propping Greece up, a restructuring that delays or reduces that repayment is the only way to avoid a messy default. Officials say a restructuring plan, even if agreed, would take several weeks to execute.
There are many potential pitfalls, each, in a way, leading to another pitfall-strewn path.
Governments could blanch at proceeding with the voluntary deal if it appears they will have to put in more money than planned.
But then they have to be ready to bear any trauma that a forced restructuring imposes on the banking system.
Or, a deal could be reached but without enough creditors actually participating in the swap. Holders of the March 20 bond, for instance, have a strong incentive to resist and hope the process drags out past their repayment date. In that case, Greece would have to decide whether to repay or to declare a moratorium.
That, in turn, raises the thorny issue of what to do about Greek bonds held by the ECB—which has steadfastly insisted it won't take losses on the estimated €40 billion it holds.
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