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

The government taking office after this weekend's election has 30 days to decide whether to make today's interest payment on 20 billion yen ($250 million) of 4.5 percent notes maturing in 2016, or default. Then, by May 15, officials must decide if they're going to repay the 436 million euros ($555 million) due on a floating-rate note issued a decade ago.

These are among about 7 billion euros of bonds whose holders took advantage of being governed by foreign rather than Greek law to sidestep losses suffered under the private-sector involvement rescheduling, or PSI. Paying the holdouts in full would arouse the ire of Greek taxpayers, as well as investors who cooperated with PSI. A failure to pay would signal Europe's debt crisis is worsening.

“This poses a real challenge to the Greek government,” said Mario Blejer, vice chairman of Banco Hipotecario SA in Buenos Aires, who ran Argentina's central bank in the aftermath of his country's default. “If they pay, the new emerging government will be fiercely criticized for paying the foreigners in full after imposing huge losses on small domestic savers. If they don't pay, they can expect much litigation, as we have experienced here in Argentina.”

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

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

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

'It's Too Late'

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

The 2023 government bonds Greece issued in the exchange are priced at 20.7 cents on the euro to yield 23.1 percent. The contrast with 10-year German bunds, whose yield fell to a record 1.552 percent yesterday, suggests investors expect a second Greek restructuring.

Greece has borne the brunt of the euro-region sovereign debt crisis, with unemployment rising to 21 percent, the economy shrinking more than 13 percent during the past three years and the stock market losing more than 70 percent of its value since the previous election in October 2009.

It's not suffering alone. Spain, with the region's highest jobless rate at 24 percent, is the latest focus of European nations' efforts to control their budget deficits. Its 10-year yield spread versus German bunds has widened to 4.21 percentage points, from 3 percentage points at the beginning of March. The Italian-German spread increased to 3.84 percentage points from 3.09 percentage points.

Greece's foreign-law bonds whose investors are holding out typically have so-called cross-default clauses, according to Bloomberg data. A failure to pay principal or interest on one of those securities allows other note holders to demand immediate repayment. Dealers don't quote prices on Greece's outstanding foreign-law bonds because they don't trade.

ABN Amro Group NV, which was nationalized by the Netherlands in 2008, holds about 1.3 billion euros of Greek government-guaranteed notes, according to spokesman Jeroen van Maarschalkerweerd. He declined to comment on what action the Amsterdam-based bank will take in the event of a payment default on the notes maturing May 15.

Foreign Investment

A failure to pay may compromise swaps and bilateral investment treaties with Greece, according to Andreas Koutras, an analyst at ITC Markets in London.

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

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

“Default impacts flows of foreign direct investment because it raises the question of a government's ability to honor its long-term commitments,” Costa said. “A default also makes it very difficult for the borrower to return to international capital markets anytime soon.”

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

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

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

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

PSI Accord

Greece achieved a high participation rate in the PSI debt exchange because almost all of its debt was governed by domestic law. Parliament legislated to insert so-called collective action clauses, or CACs, into terms of the notes retroactively, allowing a qualified majority of bondholders to agree on a loss that holdouts would also be legally obliged to accept.

Bonds governed by foreign law aren't susceptible to such treatment by the Greek Parliament, meaning that any decision to default may land a new government in a foreign court where it would have to defend its actions.

“So far, everything has been done legally in Greece,” said Athanasios Vamvakidis, the head European currency strategist at Bank of America Corp. in London. “Failure to pay would be clearly illegal. They will lose in court, and it will cost Greece and the euro zone more in the end.”

Argentina, which has faced a series of legal actions by holders of its bonds, hasn't raised money in the international markets since its $95 billion default in 2001, Bloomberg data show. The holdouts have so far received nothing, according to Blejer, the former central bank governor, who said that their attempts to get payment have been “very annoying.”

Another Greek pressure point is that a failure to settle bondholders' claims threatens to breach the IMF's rules on not adding debt when a nation is in one of its programs.

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

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

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Greek Default Risk Returns

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