Greece's Hercules plan for bad loans falls short of the mark

A proposal put together by Greece to slash billions of euros of bad loans held by banks, dubbed the Hercules plan, is not enough to adequately deal with the problems faced by the country's financial system. It fails to tackle the crucial issue of deferred tax credits (DTCs) held by banks, raising concerns among investors, at home and abroad, about the capital strength of lenders.

The Hercules plan, prepared by the Hellenic Financial Stability Fund (HFSF), is in the final stages of approval by European authorities. It is a decisive step in the significant reduction of non-performing expοsures (NPEs) held by banks but it does not provide any definite answers to investors on the thorny issue of DTCs. This is a serious concern for investors as its activation leads to the automatic reduction of stakes held by private shareholders and at the same time, increases the Greek government's position in lenders.

The DTCs were an unusual tool provided to banks to offset a large part of losses stemming from the PSI, the writing down of Greek government debt in 2012, by exempting them from paying taxes on future profits.

With DTCs being backed by the Greek state, the European Central Bank (ECB ) recognized the measure as amounting to capital for banks, offering breathing space to lenders under very difficult conditions. However, DTCs make up a large part of capital held by lenders. This has many analysts and investors questioning the capital health of Greece's financial institutions amidst difficulties shown by them to churn a profit and make use of the DTCs.

By recognizing their weakness shown to produce profits and the risk of lenders being taken over by the government, the Bank of Greece, the country's central bank, put together a complete plan to handle DTCs. This proposal was unveiled last year and was accepted by the ECB and other central banks and mainly from the markets but not from the Greek government. The reason being the negative stance of the previous Syriza government towards Bank of Greece governor Yannis Stournaras.

Despite this, Greece's then Finance Minister Euclid Tsakalotos came under pressure from the country's international creditors and set up a joint committee with the Bank of Greece to finalize its plan and submit it to European authorities. This, however, was never done.

With the change of government in July's national elections, expectations rose that the Bank of Greece plan would move ahead but they were shortlived. The new deputy finance minister, George Zavvos (who oversees the country's financial system) did not look favorably upon the plan. Zavvos has said that two bank plans cannot be promoted at the same time to the European Commission and pushed ahead with the HFSF proposal as the one having the most chances of being approved.

Despite a reluctance by the recently elected government to promote the Bank of Greece plan, current market conditions are forcing Greece to find a solution on DTCs. Large investors have informed the Greek government, including the prime minister, of the need to address the issue and the risk of private shareholders seeing their stakes being reduced. Alternatives to the original Bank of Greece proposal have been prepared and submitted to authorities. It appears that the government, and Zavvos, have decided to reevaluate the facts and the Bank of Greece proposal.

YIANNIS PAPADOGIANNIS