Greek referendum plan threatens eurozone

Greek Prime Minister George Papandreou's shock decision to hold a referendum on his country's latest European Union bail-out has caused turmoil on the markets and thrown into doubt the long-awaited eurozone rescue package – which only last week was heralded by leaders as the beginning of the end of the debt crisis.

Last week EU leaders agreed on a deal which would see private creditors take a 50 per cent haircut on their holdings of Greek debt, and a further €130bn of financial assistance pumped into the country. The package also included leveraging the eurozone bail-out fund to €1tn and recapitalising Europe's banks to the tune of €106bn. But last night Papandreou said it would be up to the Greek people to decide whether the plan would go ahead, leaving the country teetering on the brink of all-out default.

The Socialist prime minister, whose majority in parliament was cut to two today when one of his MPs resigned in protest, told party deputies last night: "Citizens are the source of our strength and citizens will be called on to say yes or no to the agreement. It is not for others to decide but the Greek people to decide." He added that he had "faith in the people. We believe in democratic participation. We are not afraid of it." Tying the referendum to a vote of confidence he said it would "be a foundation stone on which we build a new structure, a new Greece".

Markets on both sides of the Atlantic tanked on the news, with bank shares hit hardest. On Wall Street the Dow Jones closed down 2.26 per cent last night – but the real damage came as markets across Europe opened today. In Italy the FTSE MIB index dropped 4.1 per cent, in France the CAC40 was down 3.4 per cent and in Germany the DAX fell 3.8 per cent. Meanwhile the FTSE100 index in London dropped 2.4 per cent. The euro lost nearly two cents against the dollar this morning. And in Athens, the main stock market dropped 7 per cent on opening, with Hellenic Postbank and Eurobank losing 25 and 21 per cent of their share value respectively. It came on the day betting on European sovereign debt forced broker-dealer MF Global to file for bankruptcy in New York.

Greek finance minister Evangelos Venizelos outlined the choice Greeks would be given. "Do Greeks want to remain in Europe, with the euro, in a country that belongs to the developed world, or do they want to return to the 60s? Do they think it is good to owe €100bn to the banks or do they not think it is good to live with such debt?" The BBC's Gavin Hewitt suggested that the finance ministry had not been made aware of the decision before its announcement. Meanwhile polls taken when the eurozone deal was agreed showed that about 60 per cent of Greeks thought it was bad for the country – though a majority said they wanted to stay in the euro.

A yes vote would see Papandreou strengthened but the decision provoked fury from the conservative New Democracy party. "Mr Papandreou is dangerous; he tosses Greece's EU membership like a coin in the air. He cannot govern, and instead of withdrawing honourably, he dynamites everything," a spokesman said. There is speculation that New Democracy MPs might resign en masse to force early elections. The move also surprised politicians across the EU; Sweden's foreign minister Carl Bildt said on Twitter: "I truly fail to understand what Greece intends to have a referendum about. Are there any real options?"

According to Reuters, Rainer Bruederle, the parliamentary floor leader of Germany's Free Democrats, a member party of Chancellor Angela Merkel's coalition, said he was "irritated" by the move. "This sounds to me like someone is trying to wriggle out of what was agreed – a strange thing to do. One can only do one thing: make the preparations for the eventuality that there is a state insolvency in Greece and if it doesn't fulfil the agreements, then the point will have been reached where the money is turned off."

It was not clear what the wording of the referendum question would be or when it would be held, though government officials suggested January as most likely. Quoted by the Guardian newspaper, Raoul Ruparel, head of economic research at the think-tank Open Europe, said: "If the Greek public vote no in the referendum Greece could be left with no funds and no government, teetering on the edge of a disorderly default and a disorderly exit from the eurozone. It is only fair that the Greek people have their say, but the eurozone must begin preparing for a no vote and specifically how to handle a rudderless and broke Greece."

Holding a vote "dramatically raises the stakes for Greece and the eurozone as a whole," the rating agency Fitch said, because it increased the risk of a "forced and disorderly default". It explained in a statement: "In light of the prolonged and difficult negotiations between the Greek government and the troika of the IMF, European Commission and European Central Bank, securing agreement on a new package could prove unobtainable. Given the heavy debt repayment schedule in the first quarter of 2012, without continuing external financial support, a coercive and potentially disorderly sovereign default could follow."

British Conservative MEP Martin Callanan said the plan to hold a referendum showed that Greece would eventually be forced to abandon the single currency. "Democracy and the eurozone are becoming antonymous," he said. "The Greek people should be entitled to set their own economic policy, but the cost of the retention of their democracy must be their exit from the euro. German taxpayers are also sick of the Greeks constantly looking a gift horse in the mouth. Something has to give."

And UK Independence Party leader Nigel Farage MEP said he hoped it would lead to a popular vote being held in his own country. "This could become catching, the offer of democracy to the Greek people will cause the majority of the British people to ask, why cannot we have one of those Mr Cameron?" Conservative Prime Minister David Cameron last week blocked a motion put by members of his own party to hold a referendum on Britain's EU membership but has promised to repatriate some powers from Brussels.

In a statement ahead of this week's G20 meeting in Cannes, President of the European Commission José Manuel Barroso and President of the European Council Herman Van Rompuy said: "We take note of the intention of the Greek authorities to hold a referendum. We are convinced that this agreement is the best for Greece. We fully trust that Greece will honour the commitments undertaken in relation to the euro area and the international community." They said they would continue to hold talks with eurozone leaders in the margins of the G20 summit.

As the crisis deepened markets continued to circle Italy, which is desperately trying to avoid becoming the next eurozone country to follow Greece, Portugal and Ireland in requiring international financial assistance. Its 10-year bond yields rose to 6.23 per cent today, and it has been reported that the ECB is again buying up Italian debt in a bid to bring down the government's borrowing costs. Mario Draghi, formerly Italy's central banker, took over as head of the ECB today, taking over from Frenchman Jean-Claude Trichet.

There was more bad news for the European economy as rating agency Standard & Poor's warned that results for retailers would "take a turn for the worse in the second half". Having so far "offset anaemic consumer spending through a mix of cost efficiency and disciplined capital expenditure" they were now running out of room for manoeuvre to "counterbalance the slump" – said credit analyst Michael Seewald. Not even food sales are expected to bounce back as customers trim their spending.