Greece's creditor banks broke off talks after failing to agreewith the government about how much money investors will lose byswapping their bonds, increasing the risk of the euro-area's firstsovereign default.

Proposals put forward by a committee representing financialfirms have “not produced a constructive consolidated response byall parties,” the Washington-based Institute of InternationalFinance said in a statement today. “Discussions with Greece and theofficial sector are paused for reflection on the benefits of avoluntary approach.” The government said the two sides willreconvene discussions in five days.

Greek officials and the nation's creditors agreed in October toimplement a 50 percent cut in the face value of Greek debt, with agoal of reducing Greece's borrowings to 120 percent of grossdomestic product by 2020. More than two months after the accord wasannounced, the two sides still need to agree on the coupon andmaturity of the new bonds to determine the total losses forinvestors.

“The current rescue program doesn't work and requires a rethinkthat needs to be done very quickly to keep Greece from defaulting,”said Christian Schulz, a senior economist in London at BerenbergBank. “The risk is high and the stakes are high: that Greece willbe let go from the euro.”

The talks were halted today after the two sides failed to agreeon the coupon for the new bonds, said a person with directknowledge of the negotiations. European governments have beenpushing for the Greek debt to carry a coupon of 4 percent, theperson said. Private bondholders said they would accept those termsfor a period of time if they were able to get a bigger payout lateras Greece's economy recovered, the person said.

Talks between Prime Minister Lucas Papademos, Finance MinisterEvangelos Venizelos and Charles Dallara, the managing director ofthe IIF, will resume on Jan. 18 as more work is needed aftertoday's second day of consultations, according to a Greek FinanceMinistry official who declined to be identified.

The Greek bond due October 2022 rose, pushing the yield sixbasis points lower to 34.36 percent at 5:20 p.m. London time. Theprice climbed to about 20.5 percent of face value.

“This is bad news because they've been negotiating for months toovercome differences,” said Matthias Engelmayer, a Frankfurt-basedanalyst at Independent Research GmbH. “In the end, they'll need toreach an agreement because no one is interested in a disorderlydefault for Greece.”

Collective Action

The committee had offered a 50 percent nominal reduction ofGreece's sovereign bonds in private investors' hands and as much as100 billion ($127 billion) of debt forgiveness, the IIF said.

Greece hasn't yet decided whether to submit legislation thatcould force holders of the nation's debt to take part in a bondswap, according to a government spokesman who said his earlierremarks on the matter were misinterpreted.

A report in Ta Nea newspaper today said Venizelos may submitlegislation on so-called collective action clauses by Jan. 16.

The legislation, which was discussed and approved at a meetingof European Union officials in Brussels yesterday, would requirebondholders to participate in a debt swap that would cut the facevalue of their securities if a deal is reached with a majority ofGreek debt holders, Ta Nea reported, without citing anyone.

“There is no decision on if and when,” Pantelis Kapsis said bytelephone today.

Some analysts have said hedge funds holding Greek bonds mayresist the deal, seeking to reap greater profit by triggeringpayouts from credit-default swaps.

“The various parties are testing how far they can push theiragenda,” Engelmayer said. “I think they'll have to reach a dealbecause there's so much pressure.”

Greece is aiming to reach the framework for a deal next week,when talks on terms for a second financing deal with European Unionand International Monetary Fund officials start in Athens. Thedeliberations on the debt swap need to end by March 20, when Greecemust make a 14.5 billion-euro bond payment. Dallara said inNovember the IIF aims to implement the Greek debt swap inJanuary.

German Chancellor Angela Merkel, who met with French PresidentNicolas Sarkozy earlier this week, said at the time the debtrestructuring needs to be completed soon to enable Greece toreceive its next tranche of aid.

“The second Greek program, including the debt restructuring, hasto be carried out quickly now because otherwise it won't bepossible to pay out the next tranche for Greece,” Merkel said onJan. 9. Greece “really has to implement the commitments made to thetroika” of the IMF, the European Commission and the EuropeanCentral Bank, she said.

The IMF had sought a lower coupon than the range offered byinvestors to ensure Greece meets the deficit targets amid aworsening economy. Failure to complete the voluntary swap threatensto further undermine confidence in the EU's leadership during thecrisis, as well as deter investors from Asia and the U.S. frombuying Europe's debt.

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