March 25, 2011 / 12:25 PM / 7 years ago

Factbox: The euro zone's ESM permanent bailout fund

BRUSSELS (Reuters) - European Union leaders agreed on the setup of the European Stability Mechanism -- the permanent euro zone bailout fund -- broadly accepting on Friday a deal reached by finance ministers on March 21.

Following are their decisions put together in a “term sheet” on the ESM, which is to replace the existing fund -- the European Financial Stability Facility (EFSF) -- in mid-2013.

The term sheet now has to be prepared as a legal text of an amendment to the European Union treaty. Leaders want to sign the amended treaty by the end of June.

Before then, finance ministers will need to sort out some remaining technical details of the agreement and the overall deal will need parliamentary approval in several countries, including Germany and Finland.

LEGAL BASE

The ESM will be established by a treaty among euro zone countries as an intergovernmental organization under public international law, based in Luxembourg.

PURPOSE

The ESM, with an effective lending capacity of 500 billion euros ($709 billion), will raise funding and provide loans under strict conditions to euro zone states threatened by severe financing problems, to safeguard the stability of the euro zone.

GOVERNANCE

Euro zone finance ministers will be the board of governors of the ESM. The board will also include the Economic and Monetary Affairs Commissioner and the president of the European Central Bank (ECB) as observers.

The ministers will decide on granting financial assistance, its terms and conditions, the lending capacity of the ESM and its instruments.

Decisions will be taken by qualified majority, with voting weights according to the subscriptions to ESM capital. Qualified majority is defined as 80 percent of the votes.

CAPITAL STRUCTURE

The ESM will have a total subscribed capital of 700 billion euros, in order to secure a triple-A credit rating.

Of this amount, 80 billion euros will be paid-in capital. EU leaders agreed that the capital will be paid from 2013 over five years in five equal installments.

This was a change, in response to German demands, to the initial deal by finance ministers, who had agreed that half of the capital would be paid in by July 2013 and the other half over the next three years.

The ESM will also have a combination of committed callable capital and guarantees from euro zone countries totaling 620 billion euros. The division between the callable capital and guarantees still needs to be sorted out.

The callable capital can be called in by euro zone finance ministers by a simple majority, when the paid-in capital has been reduced by the absorption of losses on loans made.

CONTRIBUTION KEY

Euro zone countries will contribute capital to the ESM on the basis of the ECB paid-in capital key. But countries with a GDP per capita of less than 75 percent of the EU average will pay less for 12 years after joining the euro zone.

Those countries will pay according to the following formula: ESM share = ECB key share - 0.75*(ECB key share-GNI share).

PERCENTAGE CONTRIBUTION AGREED FOR ESM

Austria - 2.783

Belgium - 3.477

Cyprus - 0.196

Estonia - 0.186

Finland - 1.797

France - 20.386

Germany - 27.146

Greece - 2.817

Ireland - 1.592

Italy - 17.914

Luxembourg - 0.250

Malta - 0.073

Netherlands - 5.717

Portugal - 2.509

Slovakia - 0.824

Slovenia - 0.428

Spain - 11.904

INSTRUMENTS

The ESM will provide assistance to sovereigns in trouble via loans. The length of the programme and maturity of the loans will depend on the nature of the imbalances and the prospects of the beneficiary regaining access to markets.

As an exception, it may intervene in primary debt markets on the basis of a macroeconomic adjustment programme with strict conditionality, when agreed by euro zone ministers.

The objective of bond buying on the primary market will be to maximize the cost efficiency of the support for the sovereign. Euro zone finance ministers may decide to make changes to the instruments available to them.

INTERNATIONAL MONETARY FUND

The ESM will cooperate very closely with the IMF.

ACTIVATION OF BAILOUT

Financial help from the ESM will be activated on request of a country. Euro zone finance ministers will then ask the European Commission to assess, together with the ECB and the IMF, the debt sustainability of the applicant.

The Commission, ECB and IMF will then assess how much money the applicant country needs and what the involvement of the private sector should be.

Euro zone ministers will then ask the Commission, IMF and ECB to negotiate a memorandum of understanding with the applicant country.

Once it is signed and financial aid has been approved by euro zone ministers, the Commission, ECB and IMF will monitor compliance with the agreement and loan tranches will be disbursed on the basis of their reports.

PRICING OF LOANS

Up to three years: ESM funding costs + 200 bps

Longer than three years: ESM funding costs + 200 bps + surcharge of 100 bps on loan amounts outstanding after three years.

PRIVATE SECTOR INVOLVEMENT

“An adequate and proportionate form of private sector involvement will be expected in all cases where financial assistance is received by the beneficiary state,” the ESM term sheet said.

The nature and extent of this involvement is to be set on a case-by-case basis and will depend on the outcome of the debt sustainability analysis, in line with IMF practice, and on the potential implications for euro area financial stability.

IMF practice means that debt is sustainable when a borrower is expected to be able to continue servicing its debt without an unrealistically large correction to its income and expenditure.

-- If debt can “realistically” be restored to a sustainable path, the sovereign will encourage private investors to maintain their exposure.

-- If debt cannot realistically be restored to the sustainable path, the sovereign will be asked to start talks with creditors on restoring debt sustainability. Aid from the ESM will depend on sufficient private sector involvement.

In talks with creditors, the sovereign should:

-- Make sure the solutions are proportionate to the debt sustainability problem.

-- The dialogue with creditors is open and the government shares relevant information with investors.

-- Investors are consulted on the design of any rescheduling or restructuring of debt. “Measures reducing the net present value of the debt will be considered only when other options are unlikely to deliver the expected results,” the document said.

-- The sovereign will take into account what contagion and spill-over effects the measures involving private investors could have on other euro zone countries.

CACs

Collective Action Clauses, which prevent the blocking of a debt restructuring deal by one bondholder at the expense of others, will be included in all new euro zone government securities from July 2013.

ESM AS PREFERRED CREDITOR

The ESM will have preferred creditor status, but will be junior to the IMF. This shall be effective from July 1, 2013.

EFSF-ESM TRANSITION

Undisbursed and unfunded portions of existing loan programmes of the EFSF will be transferred to the ESM. EFSF and ESM consolidated lending shall not exceed 500 billion euros.

NON-EURO ZONE PARTICIPATION

Non-euro zone countries from the European Union can participate as lenders in ESM bailout programmes on an ad hoc basis. The ESM does not provide loans for non-euro zone countries, which have their own balance of payments facility for emergencies, run by the European Commission.

Reporting by Jan Strupczewski, editing by Rex Merrifield and Catherine Evans

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