Greeks fail to agree on debt measures amid aid threat

Greece's Prime Minister George Papandreou gestures during his meeting with President Karolos Papoulias in Athens May, May 25, 2011.

ATHENS/BRUSSELS (Reuters) - Greece's prime minister failed to convince opposition leaders on Friday to support tougher austerity measures to free up EU/IMF aid needed to avert a debt default.

The European Union is demanding that Greek politicians reach a national consensus on long-term economic and fiscal reforms before it will provide more funding for the indebted euro zone state, but Brussels is also urging the IMF to be more flexible.

"We don't agree with a policy that kills the economy and destroys society," the leader of Greece's main conservative opposition party said after five-hour emergency talks with Socialist Prime Minister George Papandreou.

"There is only one way out for Greece, the renegotiation of the bailout deal," New Democracy leader Antonis Samaras said.

New Democracy has rejected proposed tax increases to help reduce the budget deficit, arguing instead for tax cuts to revive economic growth.

Papandreou said he believed there was still common ground. "I continue to believe that essentially there are several issues on which we can agree," he said, adding he would do whatever it takes to deal with the crisis even without wider consensus.

The Athens stock exchange reversed gains on news of the failure to reach a deal and was trading 2 percent lower on the day by 1400 GMT.

Financial markets were spooked on Thursday when Jean-Claude Juncker, who chairs meetings of euro zone finance ministers, warned that the International Monetary Fund could withhold its contribution to a 12 billion euro aid tranche Greece needs next month to pay its bills and service its massive debt.

EU Economic and Monetary Affairs Commissioner Olli Rehn said time was running out for Greek politicians to reach agreement.

"An agreement has to be found soon. Time is running out," he said in an emailed statement.

"It is essential for the recovery of the Greek economy that all Greek parties, including the opposition parties, adopt a constructive attitude and support the EU-IMF program and its implementation," Rehn said.

The IMF has said it cannot release the money unless European partners guarantee they will meet Greece' funding needs for the next 12 months, something Germany and other north European creditors are unwilling to do without major Greek concessions.

A senior EU official, speaking on condition of anonymity, said the EU was trying to reconcile conflicting demands and hoped the IMF will show "pragmatic flexibility" in disbursing the June tranche without cast-iron European guarantees.

"There is a delicate balancing game going on because there are several players involved who have some very strong red lines," the official told Reuters. "If you put all the red lines together, there is no solution yet."

INVESTORS UNFAZED

But the spread between Greek 10-year bonds and German benchmarks edged back below the 14 percent mark on Friday, suggesting investors expect a compromise can be sealed.

Analysts say if debt markets were pricing in a Greek default, they would react considerably more violently.

"This is not a done deal but we can see a scenario in which the stars align," Jacques Cailloux, a European economist at RBS in London, said.

Domenico Lombardi, a former member of the IMF's executive board now at the Brookings Institution think-tank in Washington, said that in the absence of strong political leadership from its former head, Dominique Strauss-Kahn, the IMF was taking a more cautious, rule-bound approach to supporting Greece.

"If there were a strong political leader in place, this person might be able to steer the course and bridge the gap. But we see the institution has become more conservative and is playing things by the book and becoming risk-averse," he told Reuters in a telephone interview.

Papandreou's Socialists enjoy a comfortable majority in parliament but EU policymakers want to see broader backing for new debt-cutting measures if they are to provide extra cash to plug a 27 billion euro funding gap next year.

Papandreou faces resistance from some members of his own party and from powerful unions.

Without a credible political consensus, EU aid guarantees for next year are unlikely. But unless Europe commits itself to meet Greece's 2012 funding needs, the IMF is resisting payout of its 3.3 billion euro slice of the June tranche.

Greece's finance minister has warned that without the new funds, the country -- which faces a 13.4 billion euros funding crunch soon -- would be unable to meet its obligations and would default.

BRINKMANSHIP?

U.S. President Barack Obama told European counterparts at a G8 summit in France that he backed efforts to tackle the crisis and underlined Washington's interest in officials successfully dealing with the problems.

Juncker on Thursday warned European countries could not be counted on to step up and fill the gap left by the IMF if it decided against releasing its portion of the June aid tranche.

"That won't work because in certain parliaments -- Germany, Finland and the Netherlands and others, too -- there is no preparedness to do so," he said.

Some analysts saw Juncker's comments as brinkmanship to press Greek political leaders to united behind austerity measures, revenue increases and privatizations designed to get the country's 2010 bailout program back on track.

But they also appeared to reflect a tug-of-war between the global lender and major EU creditors, led by Germany, over a further multibillion-euro aid package for Athens.

"There is enormous pressure on Greece to resolve this," European Central Bank Governing Council member Nout Wellink was quoted as saying by news agency Bloomberg.

"It is difficult. I'm fully confident that in the end, Greece will meet the conditions, meaning that only then the IMF and Europe can say "yes'."

A mission from the so-called troika -- European Commission, the ECB and IMF -- is currently in Greece assessing how sustainable its debts are.

At roughly 330 billion euros, or 150 percent of gross domestic product (GDP), many economists believe the country's debt will inevitably have to be restructured eventually.

Acting IMF Managing-Director John Lipsky said the EU/IMF bailout plan did not envisage any restructuring.

"We have a program under way with the Greek authorities, supported by ourselves and with our European partners, and that program does not contemplate any debt restructuring or re-profiling or anything," he told CNBC television from France.

European policymakers have promised that they will not consider a coercive restructuring that hits private holders of the debt before 2013 and appetite for a "voluntary" maturity extension before then appears to be fading.

All three major ratings agencies have said adjusting debt maturities would be considered a default-like "credit event," triggering a chain reaction of consequences for Greece's credit rating, Greek commercial banks and companies, and potentially other euro zone sovereigns.

(Writing by Noah Barkin and Paul Taylor; Editing by Mike Peacock and Louise Ireland)