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EU Aid Package Will Destroy Greece: Opinion

The following commentary comes from an independent investor or market observer as part of TheStreet's guest contributor program, which is separate from the company's news coverage.

NEW YORK ( TheStreet ) -- Greece is insolvent. No amount of new loans from rich EU governments and the IMF can save Athens from default on sovereign debt, and that poses a clear threat to the global financial stability. Moreover, the solutions being imposed will reduce Greeks into poverty to sustain German prosperity. Welcome to the New Imperialism!

Greece's national debt exceeds 175% of GDP, and investors view its debt so risky that its bonds are deeply discounted in the resale market, pushing up yields to 20% and more. At those rates, Greece simply can't refinance existing bonds as those come due.

>> 5 Reasons Greece Deserves to Default

Either bondholders accept new notes with longer maturities and pay much lower effective yields than the notes they currently hold, or Greece must default on bonds coming due. However, bonds with longer maturities and lower effective yields will be immediately worth less than their face value in the resale market -- this makes such a rollover a soft restructuring or soft default. Bond rating agencies, if they apply established standards, must declare Greece in default in the face of such a maneuver.

This poses a twofold challenge for rich EU states. Their banks are extremely vulnerable and Greece has another way out if Athens has the sense to use it.

French and German banks hold $14 billion and $23 billion, respectively, in Greek sovereign debt, and even greater exposure to Greek private debt.

A soft restructuring on maturing debt should require those banks to recognize losses on their balance sheets, and if the bond rating agencies do their job --declare Greece in default. SWAP contracts guaranteeing the entire Greek sovereign debt, which exceeds $500 billion, will trigger. In addition, contracts on the debt of some European banks could trigger, and U.S. banks have considerable exposure to EU banks.

The global economy could easily replay the tragedy that followed the 2008 failure of Lehman Brothers and then AIG (AIG), which wrote SWAP contracts it could not honor, and threw the global financial system into chaos.
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