Markets pounded Greek bonds and banking stocks on Thursday, driving the debt-stricken euro zone member's borrowing costs to new highs and pushing it closer to tapping a last resort EU/IMF safety net.
The government has failed to reassure investors it can handle the crisis this week, and a dearth of details surrounding the international lifeline has piled pressure on a country already struggling to cover its wide fiscal deficit.
The situation worsened on Thursday, with the premium investors demand to buy Greek rather than benchmark German government bonds surging to a record high since Greece joined the euro for the third day in a row.
"Spread levels today are insane, they are not levels for a euro zone country," said Panagiotis Dimitropoulos, treasurer at Millennium Bank in Greece. "It seems Greece is being pushed toward the aid mechanism."
Greece has insisted it prefers to borrow from markets and will use the European Union/International Monetary Fund safety net agreed last month only as a last resort.
It aims to cut its public finance deficit by almost one third to 8.7 percent of gross domestic product this year, and Finance Minister George Papaconstantinou said its fiscal consolidation was proceeding as planned.
But on Thursday, the 10-year Greek/German government bond yield spread spiked almost half a percentage point to 456 basis points. The two-year Greek government bond yield surged more than 100 bps to almost 8 percent.
Both are levels far above the 7 or so percent that the government says is sustainable.
"I want to repeat, with emphasis, that the country continues and will continue to borrow normally," Finance Minister George Papaconstantinou told the parliament's economic affairs committee. "The country has a program, a plan, and the budget is being executed normally and is within targets."
Germany, too, held firm on its position that Athens could tap a financial safety net deal only as a last resort, with a spokesman saying that despite the jump in borrowing costs: "The government's position remains unchanged."
Greece's woes drove the euro close to its 2009 low against the dollar on Thursday. It slipped 0.2 percent to $1.3308 at 1011 GMT, just off its 2010 low of $1.3267.
MARKETS SHUDDER
The next main challenge Greece faces is to borrow 11 billion euros by the end of May. Three bonds worth 18 billion euros have performed badly this year in the secondary market, and analysts say a dollar bond planned for April and May may struggle to draw demand if markets do not reverse.
Banks, which have requested to tap 17 billion euros remaining in a crisis support package, saw shares tumble more than 7 percent. They are down 50 percent since worries over the country's debt level started to rattle investors in mid-October, wiping out about 24 billion euros ($32 billion) in market capitalization.
A banking source who wished not to be named said the country's four largest banks — National Bank of Greece (NBGr.AT), Eurobank (EFGr.AT), Alpha Bank (ACBr.AT), and Piraeus Bank (BOPr.AT) — had requested to access the support package's remaining funds last week.
"The markets are waiting for a response from the European institutions, other euro zone countries and/or the IMF," said Citigroup analyst Giada Giani. "The EU support mechanism will actually have to kick in even though at the moment the EU seems to lack agreement over its exact conditions."
Along with worsening portfolio performance due to the deterioration of the state bonds which the banks hold and a rise in non-performing loans, another issue is new rules expected on Thursday from the European Central Bank on extending easier lending terms for holders of Greek government bonds into 2011.
The rules will remove the danger of Greek debt falling off the list of what banks can swap for ECB loans next year if it faces more ratings downgrades.
But they will also introduce a sliding risk premium scale, or "haircuts" on the bonds, which are used widely by Greek banks to tap ECB credit. That could create funding problems for them by effectively cutting the value of assets that are not rated at the highest level of AAA.
"Markets don't know the haircuts that will be needed, depending on the banks' rating. But the preponderant reason is that markets are very nervous and CDS are widening, and that hurts banks," said Tania Gold, banking analyst at UniCredit.
