Nowotny Signals ECB May Compromise on Greece

Governing Council Member Ewald Nowotny. Photographer: Dieter Nagl/Bloomberg

European Central Bank council member Ewald Nowotny suggested the bank may compromise and allow a temporary Greek default as officials scramble to fix a sovereign debt crisis that’s spreading to Italy and Spain before a leaders’ summit in two days.

As Spanish financing costs surged at a 4.45 billion euro ($6.31 billion) treasury bill auction today, policy makers are trying to ease a split that’s pushed interest rates on Spanish and Italian 10-year debt above 6 percent for the first time since the euro debuted 12 years ago. The ECB has until now argued that any Greek default could spark a new financial crisis, derailing a German push to make investors help foot the bill for a second bailout of the country.

“Nowotny is well known as someone who talks a lot,” said Nick Kounis, head of macroeconomic research at ABN Amro Bank NV in Amsterdam. “He might be revealing that there’s a little bit more flexibility than what was perhaps assumed. On the other hand, we have to be a bit careful with Nowotny. I’d be cautious.”

Nowotny, who heads Austria’s central bank, said there’s “a full range of options and definitions, from a clear-cut default, selective default, credit event and so on.”

“This has to be studied in a very serious way,” he told CNBC in an interview broadcast today. “There are some proposals that deal with a very short-lived selective default situation that will not have major negative consequences.”

Eurobond Fix

The comments come as some finance ministers start to zero in on Eurobonds as part of the fix for a crisis that has ricocheted through the euro region for more than 18 months and is now threatening to engulf two of its biggest members. While jointly issuing bonds with Germany may help debt-laden nations tap markets at lower interest rates, it could also raise borrowing costs for Europe’s largest economy.

The euro rose today on speculation Europe will move closer to resolving the crisis. The currency shared by 17 nations traded at $1.4197 at 12:20 p.m. in Frankfurt, up from $1.4028 yesterday. Yields on Spanish and Italian 10-year bonds retreated from euro-era highs as stock markets rallied.

European Union leaders are meeting on July 21 to hammer out a solution to the Greek debt crisis, which has already spread to Ireland and Portugal. While Germany wants private investors to participate in a second bailout package for Greece, ECB President Jean-Claude Trichet says the central bank won’t accept Greek government bonds as collateral for loans in the event of a default or “credit event.”

‘Case for Independence’

By contrast, Nowotny said it’s up to the Frankfurt-based central bank to decide what collateral it accepts and it “should not be totally dependent on rating agencies.”

“It is our own responsibility, our own decision,” he told CNBC. “We have proved this in the case of Ireland, Greece and Portugal, with regard to what kind of collateral we accept. So there is a certain case for independence. But of course, not with regard to rating agencies but with regard to our own statutes, there are limitations.”

Spanish 10-year yields fell 15 basis points to 6.17 percent as of 10:09 a.m. in London, narrowing the spread over German bunds to 346 basis points. Greek two-year yields surged 113 basis points to 35.5 percent while Italy’s 10-year bond yield dropped 23 basis points to 5.74 percent.

Summit Delays

EU President Herman van Rompuy asked leaders to meet in Brussels to discuss “the financial stability of the euro area as a whole and the future financing of the Greek program.” Yesterday, stocks declined around the world, the euro fell and the cost of insuring European sovereign debt rose to records amid concern the euro region isn’t any closer to solving the crisis a year after Greece’s initial rescue.

A summit was originally mulled for last week before being postponed amid German fears it would backfire without a pact on private-sector involvement. Germany’s government says no extra aid is possible without bondholders staying exposed to Greek debt.

“I don’t expect European leaders to reach a decision this week,” said David Kohl, deputy chief economist at Julius Baer Group in Frankfurt. “They’ll continue to fight over whether to include bondholders or not. Still, a Greek debt restructuring wouldn’t be a solution to the problem.”

The euro-region recovery is losing momentum as leaders struggle to contain the crisis. In Germany, Europe’s largest economy, investor confidence dropped to the lowest in 2 1/2 years in July, the ZEW Center for European Economic Research in Mannheim said today. European economic confidence dropped in June and manufacturing growth slowed.

Nowotny said a full Greek default must be avoided. “That would have very grave consequences, especially with regard to the ECB and the ability of the ECB to accept Greek collateral,” he said.

To contact the reporters on this story: Jana Randow in Frankfurt at jrandow@bloomberg.net; Simone Meier in Zurich at smeier@bloomberg.net

To contact the editor responsible for this story: Craig Stirling at cstirling1@bloomberg.net