No heroes in a Greek war

Greece's caretaker prime minister, Lucas Papademos, is facing a brutal battle on two fronts in the next few days as he tries to keep the debt-strapped country from lurching into bankruptcy.

His first battle is with the troika – representatives from the International Monetary Fund, the European Union and the European Central Bank – over the country's second €130 billion bailout ($US168 billion) which was agreed late last October.

It's now become clear that bailout isn't big enough to solve Greece's crippling financial woes. The Greek economy looks set for another dismal year, after contracting by more than 6 per cent last year. Athens has failed to deliver on its earlier promises to boost its tax revenues by clamping down on tax evasion. And the country's program for selling off state-owned assets has fallen badly behind schedule.

One possibility would be to boost the size of the bailout, but there's little sympathy for this position. France has already warned that the eurozone will not be contributing any more funds to the Greek bailout. The IMF is looking to raise an extra $US500 billion to help it fight the eurozone's debt crisis, but Washington and London have shown a clear reluctance to dig into their pockets.

As a result, the troika is tightening the screws on Papademos, pushing him to agree to even tougher austerity and reform measures, despite the battered state of the Greek economy.

But there's a growing Greek resistance to further belt-tightening, and politicians are responding. Recently, senior members of Greece's main centre-right party, New Democracy, have criticised the troika's demands for further austerity.

The second battle that Papademos faces is with private bondholders – such as banks, insurance companies and pension funds. Three months ago, bondholders agreed to take a 50 per cent haircut on their loans to Greece, which would cut €100 billion off the country's €360 billion mountain of debt.

After tortuous negotiations conducted at his home, Papademos was close to getting bondholders to agree to a debt restructuring which would see them take a loss of 60 per cent on their loans. Bondholders would swap their old bonds for new bonds, on which they would be paid an average interest rate of 4 per cent.

But then the talks hit a snag. The troika expressed concerns that this interest rate was too high, and would leave Greece with too heavy a debt burden. Instead, they insisted that bondholders should agree to cut the average interest rate to 3.5 per cent, which would leave bondholders nursing even heavier losses.

The troika's last-minute demand caused negotiations between Athens and the private bondholders to stall over the weekend. Papademos is now hoping to reach a deal with private bondholders by late January, in time for the next European summit.

But time is running out for Papademos. Athens must have its new bailout package in place by March 20, when it faces a €14.4 billion debt repayment. But the bailout money can only start flowing when Athens reaches agreement with its private creditors.

Even if Papademos wins both battles – persuading his fellow Greeks to swallow further tough austerity measures, and persuading bondholders to take heftier losses on their loans – it's unlikely to be a permanent victory. After the debt restructuring, Greece will be left with a crushing debt burden.

At some point, the country will likely be tempted to quit the eurozone and devalue its currency, rather than continuing in an endless austerity-induced depression.