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Brussels - Eurozone leaders struck a deal with private banks and insurers on Thursday for them to accept a 50% loss on holdings of Greek government bonds as part of a plan to lower Greece's debt burden and try to contain the two-year-old eurozone crisis.
In an agreement reached after more than eight hours of sometimes harsh negotiations, the private sector said it would voluntarily accept a nominal 50% cut in its investments to reduce Greece's debt burden by €100bn, cutting its debts to 120% of gross domestic product (GDP) by 2020, from 160% now.
At the same time, the eurozone will offer "credit enhancements" or sweeteners to the private sector totalling €30bn. The aim is to complete negotiations on the package by the end of the year so that Greece has a full, second financial aid programme in place before 2012.
The value of that package, EU sources said, would be €130bn - up from €109bn when a deal was last struck in July, an agreement that subsequently unravelled.
"The summit allowed us to adopt the components of a global response, of an ambitious response, of a credible response to the crisis that is sweeping across the eurozone," French President Nicolas Sarkozy told reporters afterwards.
As well as the deal on deeper private sector participation in Greece - which emerged after Sarkozy and German Chancellor Angela Merkel personally engaged in the negotiations with bankers - eurozone leaders also agreed to scale up the European Financial Stability Facility (EFSF), their €440bn bailout fund set up last year.
The fund has already been used to provide help to Ireland, Portugal and Greece, leaving about €290bn available.
Around €250bn of that will be leveraged four to five times, producing a headline figure of around €1.0 trillion, which will be deployed in a variety of ways.
Leaders hope that will be enough to stave off any worsening of the debt problems in Italy and Spain, the region's third and fourth largest economies respectively.
The EFSF will be leveraged in two ways, either by offering insurance - or first-loss guarantees - to purchasers of eurozone debt in the primary market, or via a special purpose investment vehicle that will be set up in the coming weeks and which is aimed at attracting investment from China and Brazil.
The methods could be combined, giving the EFSF greater flexibility, the eurozone leaders said.
"The leverage could be up to €1 trillion under certain assumptions about market conditions and investors' responsiveness in view of economic policies," said Herman Van Rompuy, the president of the European Council.
"There is nothing secret in all this; it is not easy to explain but we are going to (do) more with our available money, it is not that spectacular. Banks have been doing this for centuries - it has been their core business, with certain limits."
Proof of the pudding with markets
As with the July 21 agreement, which quickly broke down when it became difficult to secure sufficient private sector involvement and market conditions rapidly worsened, the concern is that Thursday's deal will work only if the fine print can be promptly agreed with the private sector, represented by the Institute of International Finance (IIF).
Charles Dallara, the managing director of the IIF, said those he represented were committed to making the deal work.
"On behalf of the private investor community, the IIF agrees to work with Greece, euro area authorities and the IMF to develop a concrete voluntary agreement on the firm basis of a nominal discount of 50% on notional Greek debt held by private investors with the support of a €30bn official... package," he said in a statement.
"The specific terms and conditions of the voluntary PSI (private sector involvement) will be agreed by all relevant parties in the coming period and implemented with immediacy and force. The structure of the new Greek claims will need to be based on terms and conditions that ensure (net present value) loss for investors fully consistent with a voluntary agreement."
Eurozone leaders will be hoping the agreement, which will also be accompanied by a recapitalisation of the European banking sector by around €106bn, will finally draw a line under a crisis that has roiled financial markets and threatened to tear apart the euro single currency project.
As with previous deals that have come unstuck, the test will be how financial markets respond once they have digested the details and picked apart the seams of the agreement.
"This is broadly what the market was expecting and I do not see any downside surprise here. Still, we have to wait and see more details," said Dan Dorrow, director of research at Faros Trading in Stamford, Connecticut, speaking before the final deal was reached but after some details had emerged.
"They have good intentions and are going in the right direction. This represents a few steps away from the cliff. However, we have to wait for more concrete details but this obviously does not disappoint."
Jose Manuel Barroso, the president of the European Commission, said the final details on the Greek package, which follows a programme of €110bn of loans granted to the country last year, would only be worked out by year-end.
And EU finance ministers are not expected to agree on the nitty-gritty elements of how the scaled-up EFSF will work until some time in November, with the exact date not fixed.
As part of efforts to attract investors into the special purpose vehicle attached to the EFSF, Sarkozy said he would talk to Chinese President Hu Jintao in the coming days. Beijing has so far been a big buyer of bonds issued by the EFSF, which is triple-A rated by credit agencies.
Earlier, US stocks rallied after news emerged of the intention to boost the power of the EFSF fund, while the euro fell as investors awaited details that are unlikely to be forthcoming until next month.
Italian intent
As well as the three-way package to strengthen their crisis fighting powers and try to resolve the situation in Greece, eurozone leaders called on Italy to take more rapid action on pension reforms and other structural measures to try to avoid the economy heading the same way as Greece.
Prime Minister Silvio Berlusconi has promised to raise the retirement age to 67 by 2026 and pursue other adjustments to the country's economic model, steps the EU praised but said would only be positive if they were implemented.
"The key is implementation. This is the key. It is not enough to make commitments, it is necessary now to check if they are really implementing," said Barroso.
Leaving the summit venue at 04:30, Jean-Claude Trichet, the outgoing head of the European Central Bank, said he was cautiously optimistic that the deal could help stabilise the unrest in European financial markets and economies.
"What I heard in this European Council was the expression of the will of the heads. That is in my opinion extremely important," he told reporters.
"What is backing this orientation is the will, the collegial will, if I may, of the heads of state and government that are behind it. But again no complacency - very hard work, very hard work."
