Athens heads towards first-ever stumble in eurozone’s history

Greece yesterday headed towards the first default in the eurozone’s history after a summit meeting struck a grand bargain with banks to save the single currency from an epic debt crisis.

Eurozone leaders convinced banks to share the costs of a second Greek bailout, with governments and the IMF shelling out €109 billion and private bondholders contributing another €50 billion.

Particpating banks estimate that the total long-term cost to them will be much higher. Leaders became resigned to taking the risk of a Greek default as part of sweeping measures agreed at an emergency summit late on Thursday to protect and strengthen the eurozone after weeks of market pressure for them to contain the debt drama.

The eurozone, which hopes the default will last just a few days, took steps to protect two other bailed out nations, Portugal and Ireland, by also extending to them longer loan repayment periods and lower rates.

The markets greeted the deal with relief as European stocks rose further yesterday, but investors gave it a cautious thumbs up as they warned of lingering uncertainties, one year after a first €110 billion bailout failed to put Athens back on its feet. “Our country has achieved historic decisions, and Europe took a huge step forward,” Greek Prime Minister George Papandreou told his ministers.

The Greek debt has debts of about €350 billion, or 160 per cent of gross national product. The deal agreed on Thursday will reduce it by €26 billion, equal to 12 per cent of GDP. A deal emerged after weeks of fractious debate as Germany, Europe’s paymaster, the Netherlands and Finland insisted on bank participation even at the risk of default. France and the European Central Bank had opposed such a drastic scenario but a compromise was reached at an 11th-hour meeting between French President Nikolas Sarkozy, German Chancellor Angela Merkel and ECB chief Jean-Claude Trichet.

The ECB secured a key demand for the 17-nation eurozone’s crisis fund to buy bad debt from struggling nations, a role the Frankfurt central bank had taken on alone until now.

Mr Sarkozy said this amounted to “the initiation of a European monetary fund.”

In what IMF chief Christine Lagarde called “game-changing decisions,” the eurozone also agreed to extend loan repayments and lower interest rates for Greece, Ireland and Portugal.

“All eurozone nations put aside their national selfishness and stated the principle that eurozone states cannot go into bankruptcy,” said Italian Prime Minister Silvio Berlusconi. Portugal and Ireland welcomed the new loan terms, with Portuguese Finance Minister Vitor Gaspar saying they “undeniably improved the conditions under which Portugal can develop.”

The deal “went beyond market expectations,” BNP Paribas said in a research note, calling the agreement “a major step towards stabilising the markets and a resolution of the debt crisis.”

ING bank said in a research not that the new Greek aid package “is a positive development for the Euro area and it’s a first step through the creation of a common fiscal and economic policy.”

With pressure to address long-standing weaknesses, Mr Sarkozy and Mrs Merkel said they would propose in the coming weeks an overhaul of economic governance in the eurozone – a step towards deeper integration demanded by markets.

The single currency area was born in 1999, but without a common budgetary policy, other than debt and deficit rules, to prevent wayward spending as each state wanted to guard its fiscal sovereignty.