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Greece resumes tortuous negotiations on a debt swap with private creditors in Athens on Thursday, with the European Central Bank thrown into the mix after IMF chief Christine Lagarde said public sector holders of Greek debt may need to take losses too.
Athens, which needs a deal quickly to avert a chaotic default when a major bond redemption comes due in March, hopes the talks can be wrapped up this week.
The top negotiator for the banks and insurers, Charles Dallara, is scheduled to meet Prime Minister Lucas Papademos after experts meet to discuss technical details.
International Monetary Fund Managing Director Christine Lagarde put pressure on the ECB on Wednesday, saying it and other public creditors may need to accept losses if those taken by the private sector are not enough to bring Greece's debt burden down to a sustainable level.
Private bondholders want others who lent money, and in particular the ECB which is Athens' single biggest creditor, to take part in a bond swap deal where existing bonds are exchanged for new paper offering far lower returns.
"We are ready to make an effort if everyone else (including the ECB) makes an effort," a source close to the talks said.
The interest rate on the new bonds has been the main stumbling block in the negotiations, with the IMF, Germany and other euro zone countries insisting it must be low enough to ensure that Greece's debt will fall to a still mighty 120 percent of GDP by 2020, from around 160 now.
One source familiar with the negotiations said the "coupon is parked for current time until we can get closer on detail of the overall package." Asked if that would include the ECB, the source said: "We would expect it to, still to be determined though."
One of the main dangers posed by Greece is that an uncontrolled default would cause a banking crisis spreading contagion through the euro zone.
The ECB's creation of nearly half a trillion euros of three-year money for the banks in December has tempered that fear.
High debtor Italy saw its government bond yields and the cost of insuring against a default fall on Thursday, helped by solid demand for short-term debt at an auction.
Greek bankers and government officials said they had not heard of any new proposal from the creditors' negotiators, after local media reported they were willing to improve their "final offer" of a four percent interest rate on the new bonds to about 3.75 percent.
One Greek daily, Kerdos, said participation of public sector creditors including the ECB in the swap deal was a pre-condition for that offer.
"Until last week, we knew that the steering committee was authorized to concede up to 3.8 percent for the average coupon," one senior Greek banker told Reuters.
"But things are once again up in the air. You have to deal with politicians and 15 different governments asking for different things. We haven't got anything clear from the IIF yet, discussions start today."
Euro zone ministers rejected on Monday the creditors' offer of a 4 percent coupon on new bonds, increasing the chance that Athens would have to enforce losses. Greece and its EU/IMF lenders were holding out for a 3.5 percent interest rate.
The ECB had ruled out taking voluntary losses on its Greek bond holdings but is now debating how it would handle any forced losses and whether to explore legal options to avoid such a hit, central bank sources told Reuters on Wednesday.
One source close to talks among ECB policymakers said that while France, Italy and the ECB board in Frankfurt were against accepting losses, some national central banks, which have expressed reservations over the bond purchases from the start, now accepted that losses may be unavoidable.
"The ECB will not take losses on its Greek bond holdings voluntarily ... but there is a fierce debate within the ECB on how to handle forced losses," the source said.
The best solution might be for ECB to take a haircut on its Greek bonds at the discount they were picked up at by the central bank via its bond-buying program, one senior European banker not involved in talks said.
"Taking any hit beyond that discount (that the bonds were bought at) would unleash a Pandora's Box. It would raise so many issues about the fiscal integration of European debt, as the losses would have to be shared by the central banks. That would effectively be euro bonds," the banker said.
Greek government spokesman Pantelis Kapsis said, however, that the ECB's role would not be the focus of the meeting between Papademos and Dallara on Thursday.
"The ECB is a totally different issue. It is not being discussed right now," Kapsis told Flash radio, when asked what Dallara and Papademos would discuss.
The Institute of International Finance, which Dallara heads, said Thursday's discussions would be "informal" and aim to sort out legal and technical issues quickly. Dallara left Athens over the weekend after the last round of talks proved inconclusive.
The chairman of BNP Paribas, one of the banks on the committee leading talks for creditors, suggested on Wednesday that bondholders would not retreat from their position easily.
Senior EU, IMF and ECB officials are holding talks with the Greek government in parallel with the debt swap talks, to flesh out a new 130-billion euro bailout for Greece. They have warned they need the debt swap to cut Greece's debt substantially in order to go ahead with the new loans.
Germany does not expect the troika of foreign lenders to deliver a report on Greece's progress before a summit of European Union leaders on Monday, a senior German official said on Thursday, adding that this meant that Greece would not play a major role at the EU leaders summit.