BRUSSELS -- European finance ministers edged toward an agreement on recapitalizing the region's banks Saturday but fell short of a final plan as they continued to debate options to boost the region's debt bailout fund to stem the spreading debt crisis.
The latest plan for boosting the firepower of the bailout fund was to set up a special purpose vehicle which could draw in commitments from private investors and sovereign wealth funds. That was said to be one of two final options that French President Nicolas Sarkozy and German Chancellor Angela Merkel were set to discuss in a meeting late Saturday.
Reuters
German Chancellor Angela Merkel speaks with France's President Nicolas Sarkozy in the hallway of the European Council building in Brussels Oct. 22, 2011.
After a 10-hour meeting on the bank recapitalization plan, some officials appeared optimistic EU leaders would agree on a comprehensive response to the sovereign debt crisis at a summit Sunday or a follow-up meeting Wednesday.
"I believe that the finance ministers have made progress and that we will achieve our ambitious goals by Wednesday," Ms. Merkel told reporters on her way into a dinner sponsored by the European People's Party.
European Commission President Jose Manuel Barroso said that a solution is "within reach" while Mr. Sarkozy said leaders faced several more days of "absolutely crucial meetings."
After the bank plan meeting -- that forced U.K. Finance Minister George Osborne to skip his flight home -- Swedish Finance Minister Anders Borg said there had been "some progress" during Saturday's talks. But Borg admitted they had not sealed agreement on at least one key aspect -- raising the minimum tier one capital ratio banks must hold.
"We have laid the foundation for an agreement on the capital ratio question," he told reporters on his way out of the meeting. "We made some progress on the bank recapitalization side."
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Osborne said the ministers had "come to important decisions on strengthening European banks."
The bank recapitalization plan was expected to be the easiest of the three main items on the ministers' agenda, which also includes the size of private sector writedowns of Greek debt and what to do with the European Financial Stability Facility.
Options on the EFSF were narrowed down to two after a meeting of euro-zone finance ministers Friday. On Saturday, a person familiar with the situation said both options involve insuring investors against losses from purchasing euro-zone bonds, in a sign that a proposal backed by France to turn the EFSF into a bank and give it access to funding from the European Central Bank was off the table.
One option would be to create a special purpose vehicle uniquely devoted to insuring investors against losses. The idea would be to draw in private investors and others, like sovereign wealth funds, to create a "bazooka" fund, the person said.
Despite high expectations that a solution will result from Sunday's summit, European leaders are already dampening hopes and saying that a second summit on Wednesday will be required, WSJ Brussel bureau chief Steven Fidler reports on Markets Hub. Photo: Reuters.
One advantage of this approach is that the fund would have a single, clear goal as opposed to the EFSF which is also supposed to provide money for bailouts and for recapitalizing troubled banks, the person said. The aim would be to draw together enough commitments from the private sector and other sources that the vehicle would have enough firepower to lift demand for the bonds issued by euro-zone governments.
In other words, it would be the kind of financial firewall that euro-zone governments have call led for to drive down the borrowing costs of the likes of Italy and Spain.
The other option is to go back to the idea of using the EFSF directly to insure investors against losses. However there are growing doubts that this plan would deliver the kind of large-scale firewall needed to restore bond market confidence.
Mr. Sarkozy, Ms. Merkel, International Monetary Fund Managing Director Christine Lagarde, top EU officials and ECB President Jean-Claude Trichet were due to discuss the issue Saturday night.
On the banks plan, there was resistance to signing off on raising the minimum tier 1 capital ratio to 9% for the region's banks by mid-2012. EU officials said Spain, Portugal and Italy were reluctant to sign on that plan before there's an agreement on leveraging up the euro zone's bailout fund. Still, Spanish Finish Minister Elena Salgado said a 9% target was "reasonable" but that it depended on the details.
The three issues -- Greece, the EFSF and the bank plan are closely linked. The size of the recapitalization was dependent in part on how big a haircut governments would demand of Greece's private creditors since the bigger the haircut, the greater the losses European banks could suffer. And governments' ability to plug the gap in banks' balance sheets will depend on the firepower of the EFSF.
A senior euro-zone government official said EU governments were more likely to agree on a minimum 50% reduction in the net present value of Greek debt held by private creditors after a report by the European Commission, the IMF and the ECB indicated that Athens would need far more aid than earlier agreed if there is no increase in the private sector writedown on Greek debt.
A debt responsibility report on Greece said if the July deal offering Greece €109 billion in assistance is to stand, private creditors would have to take a 60% haircut on their bondholdings for Greece's debt situation to be sustainable.
"All ministers knew the Greek situation is difficult, but for some the troika report was still a shocker," the euro-zone government official said.
He said the report has increased the odds for a much deeper haircut than the 30% that some euro-zone members had advocated. But the official noted that there had been little preparation and discussion among private holders of Greek debt for such a plan, which they have firmly opposed so far.
Discussions between the banking lobby group, the Institute of International Finance and the euro zone are making "limited" progress, Charles Dallara, IIF Managing Director said in a brief statement late Saturday.
"We remain open to explore options on a voluntary approach built on a realistic outlook for the Greek economy and restoration of Greece's market access," he said.
The euro zone tasked a top official Saturday to reopen negotiations with Greece's private creditors in search of a bigger private sector contribution to Greece's bailout package. Vittorio Grilli will lead those talks as head of the Euro zone Working Group.
Dallara and other IIF officials are in Brussels this week for talks with the euro zone.
