Editor's note: This post continues TPPi's series of Yanis Varoufakis guest op-eds, originally published on his blog, yanisvaroufakis.eu.

This is how it worked: Bank X would lend money to… itself. It would do this by issuing a bond which it did not intend to sell. So, why issue such a phantom bond? Why write an IOU and give it to one’s self? The answer is: In order to hand this phantom bond over to the European Central Bank as collateral in exchange for a cash loan. Normally, of course, the ECB would never accept such a phantom bond as collateral. Accepting it would have been to accept a loan it gave to Bank X as collateral for the said loan. It would have been an assault on the meaning of collateral and a gross violation of the ECB’s rulebook. So, bank X, knowing this, took its phantom bond first to the Greek government and had it guarantee it. With the government’s guarantee stamped on it, the ECB then accepted Bank X’s phantom bond and handed over the cash. Why? Because the Greek taxpayer had, in the meantime, unknowingly provided the collateral for Bank X’s loan.
 
How extensive was this ‘practice’? Since 2008, European governments have been guaranteeing private bank bond issues to assist them in their desperate quest for ‘liquidity’. The Greek government was no different.[1] Such guarantees were discussed in Parliament and were widely acknowledged as an emergency measure. However, what is startling is what happened in 2013: The heavily indebted Greek government borrowed €41 billion from European taxpayers (secured from the EFSF as part of Greece’s 2012 Second Bailout Agreement) in order to hand it over to Greece’s private banks as a capital infusion that would, in theory, plug their ‘black holes’ once and for all.
 
Athens, Brussels, Frankfurt and Berlin have been waxing lyrical about the success of this ‘recapitalisation’, proclaiming it as the end of Greece’s banking crisis. Alas, they skillfully neglected to inform us that, during the very same period (and continuing to this day), a second, hidden, rolling (and thus potentially never-ending) bailout (based on government guarantees of fresh phantom bonds) is being extended to the same Greek banks! (See Landon Thomas Jr’s recent article in the New York Times.)
 
So far, since early 2013, this hidden, second bank bailout has amounted exactly the same value (€41 billion again) as the official, approved by European Parliaments, bailout. This means that, between January 2013 and February 2014, the insolvent Greek state had to add to its liabilities, on behalf of the Greek banks, an astounding €82 billion or 45,6% of GDP![2] Remarkably, this second, hidden bailout was never authorised by any Parliament, nor discussed in any public forum.
The above practice raises two concerns; and the reader can decide which of the two is the most worrying.

First, in an open society, whenever the public assumes responsibility for private debts, it should be properly informed. In a democracy this means that Parliament (or Congress) should debate the assumption of such additional responsibilities. It would appear that in the Eurozone such an important principle has been sacrificed on the altar of the bankers’ interests. Is it thus odd to hear that Europe-wide voters no longer trust European institutions?

Second, the above show that the Greek debt is continuing to rise, not fall. With indebtedness being what it is, who can honestly speak of the Greek economy coming out of its black hole? Rather, it seems that this hole is getting deeper and all this to benefit a small section of society which has already received highly preferential treatment.

For more details and background briefing on the above, read on…
 
Here is a detailed account of how the Unauthorised Bailout was engineered, via the ECB and with the Greek government’s backing:
§  Step 1: Banks issued private bonds which they did not intend to sell to anyone
§  Step 2: Banks got (under a veil of ignorance and a conspiracy of silence) the Greek state to guarantee these bonds – without seeking parliamentary approval, without the troika’s official approval, without even informing the electorates in Greece or in Germany or anywhere else of this massive increase in the Greek state’s effective liabilities
§  Step 3: Banks then posted these bonds with the ECB in exchange of instant cash
 
Evidence that I have now seen shows that:

  • Fact 1: Greek banks have, only in the past year (2013/14), issued €41 billion of these government-guaranteed bonds (see first note below for previous years)
  • Fact 2: The bonds issued by the banks are, undoubtedly, phantom bonds – in the sense that the banks issued them with the intention never to sell them to investors: the bonds were to remain the ownership of the banks that issued them, and the coupons to be ‘paid’ by the banks to… themselves. The only rationale for these bond issues was, thus, to use the phantom, un-traded, bonds as collateral for loans from the ECB with the explicit guarantee of the Greek taxpayer
  • Fact 3: The announced interest rate of these bond issues has been rising fast during the past year, reaching a ridiculous 12% per annum, even while the interest rate on Greek government bonds was falling toward 5% – a true paradox that can be explained by no market logic and which, for some, points in the direction of political manipulation – see the Appendix on this matter.
  •  Fact 4: The ECB has declared publically that, as of March 2015, it will no longer accept such phantom bonds as collateral
  •  Fact 5: The ECB has refused to comment on this wall of new debt (€40 billion) issued by the Greek banks and guaranteed by the insolvent Greek government
  • Fact 6: The Greek government, hiding behind some legal loophole, has not acknowledged this new debt (i.e. it did not add €40 billion to Greece’s public debt), even though its liabilities were increased by €40 billion. Apparently, the Athens government is at liberty to call such debt ‘contingent liabilities’ and, therefore, to choose not to add it to government debt – even though it is clear that, especially given the ill health of the Greek banks (see various reports on non-performing loans by Blackrock, the ECB and the IMF), these ‘contingent liabilities’ weigh heavily on the Greek and, by extension, on the European, taxpayer.

 
Simple, dispassionate logic leads to the following predictions:

  • Prediction 1: The banks will need to roll over these bonds once they mature next year, seeking new government guarantees and, indeed, going against the ECB’s proclamation that it will not be accepting them after March 2015 as collateral (see Fact 4 above). Indeed, if the ECB insists in its refusal to accept phantom bonds after March 2015, either the banks will have to find upward of €30 billion in cash to repay the ECB, or the Greek government must. Since Greek banks and the Greek state are both as insolvent as one another, the ECB will be forced to bend its own rules, possibly by allowing the Greek Central Bank to accept new government-guaranteed bonds via the Greek Central Bank’s ELA.
  • Prediction 2: Assuming that Prediction 1 is confirmed (as I am convinced it must), the Greek government’s liabilities (as a result of this hidden and rolling bank bailout) are bound to grow further and further, with the banks rolling over these bonds into the future.

 
The Greek government will, no doubt, retort that it had no choice. That given the state of the Greek banks, not guaranteeing this additional €41 billion of bank debt would cause serious liquidity problems for the banking sector. “We did what we had to safeguard the access of Greek savers to their deposits”, they will say. Be that as it may, the Samaras-Venizelos-Stournaras government need urgently to answer three questions:

  • Question 1: If the banks are in such dire straits that they needed an additional bailout of €41 biilions, on top of the €41 official loans that the Greek taxpayer shouldered on their behalf, is the government not misleading citizens and markets when making such a song and dance about the Greek banks ‘spectacular recovery’?
  • Question 2: If the banks required an additional €41 billion of public loans (and in secret), what right did the government have to proceed with the fire sale of its own banking assets (see here for a woeful example)? Why not wait until the banks returned to health before selling of the government’s shares in them at a better price?
  • Question 3: What gives the right to the government to increase the state’s liabilities, without debating this in Parliament and while keeping Greek and European citizens in complete darkness about these ‘operations’?

 
Lastly, a question for the German government, the European Central Bank and the European Commission: Will you be surprised if the peoples of Europe lose whatever morsels of trust they have got left in European institutions when they find out about these shady deals?
 
Epilogue
And so, dear reader, this is how the Greek banks have managed to secure another €40 billion of cash (minus the ECB’s haircut) that you – along with Greek and European citizens – know nothing about. A New, Hidden Bailout with the unsolicited, undeclared and unauthorised backing of the Greek taxpayer. And since the Greek taxpayer owes so much already to fellow European taxpayers that a haircut will soon be exacted upon the latter, this ‘small’ matter ought to be a major issue in the forthcoming European Parliament elections. The fact that it will, in all probability, be hushed up is another sad sign of the decline of European democracy.
 
APPENDIX: On the paradoxical increase in the phantom bond yields
In 2010, when the money markets would rather perish than lend to Greek banks, or to the Greek state, the Greek banks were issuing phantom bonds at interest rates of Euribor +5%. In the last year, when (supposedly) Greece and its banks have seen their creditworthiness rise, the Greek banks have been issuing phantom bonds at interest rates of Euribor +12%. What explains this rise? Duke University’s Mitu Gulati asks this question (in a fascinating new paper) but provides no definitive answer, other than to imply ‘political manipulation’. My view on the matter is more straightforward, I dare say.
 
Here it is:
If a Greek bank cannot repay the ECB for the loans that it took using one such phantom-bond as collateral, there are three possibilities:

  1. The ECB will allow the bank to roll the phantom bonds over – i.e. issue new phantom-bonds, post them as collateral with the ECB and use the new loans to take back the original phantom-bond in order to tear it up. Another similar option is that the ECB will not accept these phantom-bonds but will turn a blind eye to the Bank of Greece accepting them as part of the Greek ELA. In either of these cases, the interest rate of the original phantom-bond is immaterial.
  2. The bank cannot repay its loan to the ECB but the Greek government uses its unused loans from the EFSF and steps in to save the banker’s bacon. Again the interest rate of the original phantom-bond is immaterial – as it will be torn up once it is returned to the bank. (The only complication here is that the government will have to take the matter to Parliament…)
  3. The bank cannot repay and a new Greek government (e.g. a Syriza administration) refuses to pay the ECB on the bank’s behalf (e.g. because the guarantees were never approved by Parliament). Then, the phantom-bond stays with the ECB, it matures, and gives the ECB a legal right to demand from the Greek government to repay the principal plus the huge interest as mentioned in the phantom-bond’s contract.

Of the three cases above, 1 and 2 render the phantom bond’s interest rate irrelevant. But not case 3. In case 3, the higher the interest rate in the phantom-bond’s contract the more money the ECB can claim from a recalcitrant, or utterly broke, Greek government. Thus, the increasing ‘yields’ of these phantom bonds may serve the purpose of softening the ECB’s resistance to the idea of accepting the phantom bonds as collateral, in view of a possible change in government in Athens (or a catastrophic collapse of sorts).
 
NOTEs

[1]                             
 Year             Gvt-backed bank bonds          ‘interest rates’
2009               €46                                                       2.58%
2010               €33 billion 48 million                      5.81%
2011               €40 billion 208 million                    12.45%
2012               €16 billion 362 million                    13.21%
2013/4           €41 billion 90 million                      12.6%

[2] The latest figure I have seen concerns a phantom bond issued on 6th February 2014 by the Bank of Pireus with a face value of €1750 million and a whopping interest rate of 12.6% (Euribor rate + 12%).