Two months after forcing through the biggest-ever sovereign bondrestructuring, Greece once again faces the prospect of becoming thefirst developed nation to default on its debt.

The government taking office after this weekend's election has30 days to decide whether to make today's interest payment on 20billion yen ($250 million) of 4.5 percent notes maturing in 2016,or default. Then, by May 15, officials must decide if they're goingto repay the 436 million euros ($555 million) due on afloating-rate note issued a decade ago.

These are among about 7 billion euros of bonds whose holderstook advantage of being governed by foreign rather than Greek lawto sidestep losses suffered under the private-sector involvementrescheduling, or PSI. Paying the holdouts in full would arouse theire of Greek taxpayers, as well as investors who cooperated withPSI. A failure to pay would signal Europe's debt crisis isworsening.

“This poses a real challenge to the Greek government,” saidMario Blejer, vice chairman of Banco Hipotecario SA in BuenosAires, who ran Argentina's central bank in the aftermath of hiscountry's default. “If they pay, the new emerging government willbe fiercely criticized for paying the foreigners in full afterimposing huge losses on small domestic savers. If they don't pay,they can expect much litigation, as we have experienced here inArgentina.”

Political leaders struggled to find the support needed to form acoalition government after Greek voters flocked to anti-bailoutparties on May 6, calling into question the country's ability toimpose the measures needed to guarantee its future in the euro.Greece's financing costs rose for the first time this year today ata 1.3 billion-euro auction of treasury bills.

Petros Christodoulou, the head of the Greek Debt ManagementAgency in Athens, didn't reply to an e-mail seeking comment aboutthe bond payments. He previously said Greece only has funds for PSIpayments and “no bondholder will get better economics than thePSI.”

Greece agreed in March to exchange more than 200 billion eurosof bonds for notes with longer maturities and lower interest ratesunder PSI, cajoling private investors to forgive more than 100billion euros and opening the way for the nation's internationalbailout. The restructuring left about 7 billion euros of holdouts,international bonds issued or guaranteed by the government, datacompiled by Bloomberg show.

'It's Too Late'

“It's default or pay up,” said Gabriel Sterne, an economist atExotix Holdings Ltd. in London and a former International MonetaryFund official. “There are no other options. It's too late.”

The 2023 government bonds Greece issued in the exchange arepriced at 20.7 cents on the euro to yield 23.1 percent. Thecontrast with 10-year German bunds, whose yield fell to a record1.552 percent yesterday, suggests investors expect a second Greekrestructuring.

Greece has borne the brunt of the euro-region sovereign debtcrisis, with unemployment rising to 21 percent, the economyshrinking more than 13 percent during the past three years and thestock market losing more than 70 percent of its value since theprevious election in October 2009.

It's not suffering alone. Spain, with the region's highestjobless rate at 24 percent, is the latest focus of Europeannations' efforts to control their budget deficits. Its 10-yearyield spread versus German bunds has widened to 4.21 percentagepoints, from 3 percentage points at the beginning of March. TheItalian-German spread increased to 3.84 percentage points from 3.09percentage points.

Greece's foreign-law bonds whose investors are holding outtypically have so-called cross-default clauses, according toBloomberg data. A failure to pay principal or interest on one ofthose securities allows other note holders to demand immediaterepayment. Dealers don't quote prices on Greece's outstandingforeign-law bonds because they don't trade.

ABN Amro Group NV, which was nationalized by the Netherlands in2008, holds about 1.3 billion euros of Greek government-guaranteednotes, according to spokesman Jeroen van Maarschalkerweerd. Hedeclined to comment on what action the Amsterdam-based bank willtake in the event of a payment default on the notes maturing May15.

Foreign Investment

A failure to pay may compromise swaps and bilateral investmenttreaties with Greece, according to Andreas Koutras, an analyst atITC Markets in London.

“How can anyone be expected to do business in Greece or investthere when the state has declared a moratorium on some of its bondpayments?” Koutras said. “It's also true that if they pay up, theheadlines won't look good.”

A payment default might make it harder for Greece to attract theforeign investment it needs to revive the economy, said Luis Costa,an emerging markets strategist at Citigroup Inc. in London. Greeceplans to raise 50 billion euros by 2017 by selling or rentingassets, including water utilities, ports, gas companies, regionalairports and postal services.

“Default impacts flows of foreign direct investment because itraises the question of a government's ability to honor itslong-term commitments,” Costa said. “A default also makes it verydifficult for the borrower to return to international capitalmarkets anytime soon.”

A decision to pay the holdout foreign-law bond investors mayhave to involve the so-called troika of the European Commission,European Central Bank and IMF, which are supervising the country'sbailout.

“If they decide to pay, Germany and the troika have to come upwith the money,” said ITC's Koutras. If Greece doesn't pay, theforeign parties “will have to approve it,” he said.

Amadeu Altafaj, a spokesman at the European Commission inBrussels, said in an e-mail that a decision on whether to payholdouts “is a decision of Greece and only of Greece.” An ECBspokesman in Frankfurt declined to comment and an IMF spokeswomanin Washington didn't respond to an e-mail.

As Greece struggles to restructure its economy and stay in theeuro region, politics may trump longer-term considerations such ascontinued access to capital markets. Along with a decision on thebonds, the new government will be under pressure to implement 3billion euros of cuts immediately, followed by another 12 billioneuros in 2013 to 2014, according to UBS AG analysts led by StephaneDeo in London.

PSI Accord

Greece achieved a high participation rate in the PSI debtexchange because almost all of its debt was governed by domesticlaw. Parliament legislated to insert so-called collective actionclauses, or CACs, into terms of the notes retroactively, allowing aqualified majority of bondholders to agree on a loss that holdoutswould also be legally obliged to accept.

Bonds governed by foreign law aren't susceptible to suchtreatment by the Greek Parliament, meaning that any decision todefault may land a new government in a foreign court where it wouldhave to defend its actions.

“So far, everything has been done legally in Greece,” saidAthanasios Vamvakidis, the head European currency strategist atBank of America Corp. in London. “Failure to pay would be clearlyillegal. They will lose in court, and it will cost Greece and theeuro zone more in the end.”

Argentina, which has faced a series of legal actions by holdersof its bonds, hasn't raised money in the international marketssince its $95 billion default in 2001, Bloomberg data show. Theholdouts have so far received nothing, according to Blejer, theformer central bank governor, who said that their attempts to getpayment have been “very annoying.”

Another Greek pressure point is that a failure to settlebondholders' claims threatens to breach the IMF's rules on notadding debt when a nation is in one of its programs.

“It would be possibly unprecedented for the IMF to sanction abuild-up in arrears without there being a funding gap because thereisn't any excuse not to pay,” said Sterne at Exotix.

At the same time, “payment would hit the headlines, wouldn't beseen as fair by some,” he said. “It's all been seat-of-the-pants,ad-hoc decisions that have killed domestic law bondholders. None ofit is fair.”

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