Comment: OSI sees ECB implicitly a bank for EFSF

We have only press reports to rely on at this stage when it comes to the official sector involvement (OSI) with the Greek bailout. But what is important is to keep track of where exactly funds for the OSI will come from.

The way the deal is currently under consideration (and there remains uncertainty) is that the ECB will sell its Greek government bonds holdings to the EFSF, which will in turn return the bonds to Greece. In return the ECB will receive EFSF bonds, while Greece will likely exchange the bonds for new bonds with a face value reduced by €11bn.

It all looks simple, but break down the above flows a different way and what we see is that implicitly the ECB is effectively funding the EFSF. The flow when rearranged looks something like this 1) the ECB provides the EFSF with funds in exchange for EFSF bonds 2) the EFSF uses these funds to buy GGB at a reduced price, saving €11bn and 3) Greece in turn simply swaps old GGB for new GGB with a face value reduction of €11bn.

The key link in the flow chain above is the fact that implicitly the ECB will have effectively financed the EFSF. So that while the EFSF’s lending capacity and leverage issues are being debated, the fact that the ECB is involved implicitly in EFSF funding is a big positive which seems to have slipped under the radar.

Things would have looked a lot different had the ECB simply been given the funds for its GGBs, as opposed to EFSF paper. But the way the yet-to-be-confirmed deal is structured makes the ECB a direct financier of the EFSF, which has implicitly gained access to ECB funding. The risk is that if Germany connects the dots then the idea could potentially be shot down very quickly, leaving us back to the drawing board with regards to OSI.