The reluctance of private sector creditors to accept the latest rescue deal threatens to scupper it just weeks before the country must foot a €14bn bill.

Back to Greece. Two weeks, this time, before the latest ‘rescue’ package started to unwind, which under the circumstances might be considered a success. The problem here is private sector involvement in the deal: not all of Greece’s many and varied private creditors want to write off a great chunk of their loans.

The alternative to the official write-down would be outright default – the Greek government simply walking away from its commitments to pay. With €14bn due in payments on 20 March, the prospect of a so-called ‘disorderly’ default is starting to loom large. Greece’s debt, fundamentally, is unpayable. It is too big to be repaid in any plausible future scenario. After two years of prevarication and denial, that much has at least now been admitted by the bailiffs of the EU/ECB/IMF Troika. The latest package attempts to write off at least some of the burden by swapping it for lower-valued debt, while making sure that Greece meets its (substantial) remaining commitments through emergency funding and worsening austerity. Austerity means privileging payments to creditors over real economic activity: it has been wholly devastating for the Greek economy. But, backed up by Troika funding, it means the payments due to creditors at least turn up.

So it looks as if a Troika-managed write-down, while involving losses for creditors, would be their least worst option. They lose something, but keep a commitment to future repayments. Holding out against the deal, and hastening default, looks short-sighted. Ducking a smaller loss now means taking on a far bigger loss later. Not exactly killing the goose that lays the golden eggs – more like strangling the sickly cow – but myopic all the same.

There’s a twist, though. Over the last few years, Greek debt has been increasingly snapped up by speculators – those in financial markets chasing big risks in the hope of big returns, like hedge funds. They have bought Greek debt at a huge discount from those, like major banks, keen to dispose of high-risk assets. Some have bought in the hope of gaining from the Troika debt-swap deal, betting on the price for debt offered in the deal being higher than whatever they paid. They may hold out in the hopes of getting a better price closer to the deadline.

Some, however, will also have purchased insurance against a Greek default, in the form of Credit Default Swaps (CDS). These are contracts that will pay out in the event of a Greek default being declared. They will pay out the full face value of the debt – not the amount last paid for the debt, but the amount it was originally issued at. A default means these people win.

Hedge funds are notoriously secretive about their activities. Around 20 to 25 per cent of Greek debt is held by ‘unidentified’ creditors, and it’s likely around half of that would be in the hands of the funds. There’s no way to compel any of these holdouts against the deal to accept it. They’re not subject to the same political pressures as major banks. And the consequences of CDS being activated are not well-known. Given the complexity of the tangled contracts and claims and counter-claims, it’s hard to know who holds the ultimate liability for the CDS contracts. The US on some figures has written nearly two-thirds of CDS protection on peripheral Europe. Default would hammer banks inside Europe, who still have substantial exposures to Greek public and private debt. Although the amounts involved are far smaller, CDS triggers could rapidly spread crisis globally – particularly if individual institutions have major exposures. The potential for widespread chaos remains significant. Only breaking the operations of financial markets and institutions, introducing comprehensive capital and exchange controls, will halt it.

From the New Economics Foundation blog