By Todd Buell and Brian Blackstone
FRANKFURT--The European Central Bank warned in a report Thursday
that the Greek debt crisis could spread to other at-risk eurozone
countries if Athens fails to reach a financing deal with its
international creditors quickly, underscoring the high stakes
involved in the country's negotiations with its lenders.
Still, in a news conference ECB Vice President Vitor Constancio
played down concerns in financial markets that Greece may
ultimately be forced out of the euro if it fails to pay its debts
to the International Monetary Fund and other creditors.
A Greek default wouldn't automatically mean that its banks are
insolvent, he said, although the ECB would have to include the
implications of such an event in its analysis of the financial
health of the country's financial institutions that rely heavily on
ECB loans for funding.
"Financial market reactions to the developments in Greece have
been muted to date, but in the absence of a quick agreement on
structural implementation needs, the risk of an upward adjustment
of the risk premia demanded on vulnerable euro-area sovereigns
could materialize," said the ECB in its Financial Stability Review,
which is published every six months.
"Default risk expectations have increased sharply in Greece amid
heightened political uncertainty," the report said.
However, "there is no automatic connection between a default of
the Greek government and the solvency of the Greek banks," Mr.
Constancio said, stressing the word "automatic." He noted that the
share of Greek government bonds in total bank capital is quite
small. Such an occurrence may influence the ECB's impairment
analysis of the exposure of Greek banks to the state, he added.
Mr. Constancio said he was convinced that Greece won't exit the
euro.
"It is difficult to build up a narrative where that extreme case
can happen," he said. A country cannot legally be expelled from the
currency bloc, he noted, adding that a rising share of Greek
citizens have said they want to stay in the euro.
The struggling Mediterranean state is currently in protracted
negotiations with its eurozone creditors over the future of its
bailout deal. While recently, Greek leaders have said that an
agreement is near, other eurozone leaders, such as German Finance
Minister Wolfgang Schäuble, have shed doubt on such claims.
"We always hear positive news coming out of Greece, which is
good. However, we haven't gotten much further in substance in the
negotiations between the three institutions and the Greek
government," Mr. Schaeuble said on German public broadcaster ARD on
Wednesday.
Meanwhile, Greek banks are heavily dependent on ECB loans for
funding amid a steady decline in bank deposits there. Mr.
Constancio pegged the total amount of support--through regular ECB
loans and emergency liquidity via the Greek central bank--at EUR114
billion.
The ECB also said in its financial stability report that "the
prospect of an environment of low nominal growth remains the major
factor underlying current challenges for financial stability in the
euro area."
The ECB again stressed the need for structural changes in
Europe, saying that while monetary policy "can support the
conditions for economic growth," other policies, such as structural
reforms "are needed to underpin sustainable economic growth in the
euro area."
"The financial stability situation in Europe has improved," Mr.
Constancio said. "One can say that our policies are working."
In March, the ECB started a broad-based asset-buying program,
known as quantitative easing, where it will buy EUR60 billion
($65.64 billion) a month of mostly government bonds until the end
of September 2016 in an effort to prop up inflation.
Mr. Constancio said he doesn't see evidence of generalized
overvaluation in asset markets, but flagged this as a risk.
"The main risk is the possibility of a reversal of asset
valuations...that would induce capital losses and disturb the
recovery if it would happen," he said.
Andrea Thomas
contributed to this article.
Write to Todd Buell at todd.buell@wsj.com and Brian Blackstone
at brian.blackstone@wsj.com