Euro zone leaders received a cautious stamp of approval from financial markets on Friday for their agreement to create a safety net with the International Monetary Fund to help debt-ridden Greece.

Under an accord announced late on Thursday, Athens would receive coordinated bilateral loans from other countries that use the euro and IMF if it faced severe difficulties.

The euro rose against the dollar on Friday, recovering from an earlier 10-month low. It fell late on Thursday as investors took the view that IMF involvement showed the 16-country euro zone could not handle its problems alone.

Concern that Greece could default was expected to ease after the deal, welcomed by Athens which must borrow some 16 billion euros between April 20 and May 23 alone to refinance maturing debt.

“The market is quickly pricing out any probability of default risk,” Petros Christodoulou, the head of Greece’s debt agency, told Reuters.

German Chancellor Angela Merkel said Europe had proven its ability to act in concert, as she arrived for the second day of an EU summit, expected to focus on climate change and how to improve economic competitiveness.

“It is important in the long term that the currency — which has been such a success for freedom and cooperation — stays stable. That is why yesterday was a very important day for the euro,” she said.

The premium investors charge for holding Greek bonds rather than benchmark German Bunds narrowed but remained much higher than the spread charged on fellow euro zone weaklings Ireland, Portugal and Spain. Athens is still saddled with borrowing costs more than double those of Germany.

“Given the short-term risk of any default is now out of the way, they should be able get over this May funding problem,” said a bond trader in London.

The deal on Greece offers a safety net which European leaders hope will revive investor confidence even though they hope never to use it.

“I am extraordinarily happy that the government of the euro area found a workable solution,” European Central Bank President Jean-Claude Trichet told reporters in Brussels after the euro area leaders approved a draft agreement reached in talks between France and Germany.

“I am confident that the mechanism decided today will normally not need to be activated and that Greece will progressively regain the confidence of the market,” he said.

Trichet had previously warned against getting the IMF to solve the euro zone’s problems.

Graphic on euro zone debt crisis http://r.reuters.com/fyw72j

Graphic on Greece and Portugal http://r.reuters.com/far94j

QUESTIONS REMAIN

Thursday’s agreement, which would apply to other euro zone countries that hit trouble, left a number of questions unanswered, including how the Washington-based IMF and the euro zone would work together in practice.

A statement by euro zone leaders included no numbers, but a senior European Commission source said the support package would be worth 20-22 billion euros ($27-29 billion) if required in an emergency.

French President Nicolas Sarkozy said the euro zone would put up two-thirds of the money, and the IMF the rest.

But euro zone leaders did not indicate there was anything to prevent Greece going unilaterally to the IMF.

Tough terms imposed by Merkel mean the mechanism could be activated only under strict conditions and would require the unanimous approval of the euro zone, giving Berlin a veto.

Merkel had long resisted offered aid to Greece because of public opposition in Germany and concerns that any deal could face a legal challenge at home. She also faces a tough state election in May that she can ill afford to lose.

Bowing to demands by Berlin, euro zone leaders called for proposals by the end of the year to tighten the bloc’s budget discipline rules, which failed to prevent Greece running up huge deficits and public debt.

CRACKS IN EU UNITY

Without a fallback mechanism, EU leaders feared Greece’s debt problems could spread to other countries in the euro zone including Portugal, Spain or Italy.

But differences over Greece have widened divisions in the 27-country EU, which represents 500 million people.

EU diplomats said Britain and Poland, two powerful countries outside the euro zone, were concerned that the euro area was taking decisions on issues beyond their remit, especially on economic governance, or policy coordination.

Eurosceptic British media portrayed this as an attempt by the EU to increase its powers over the British economy.

“I am in favour of increased budget discipline but I would like such decisions to be worked out by the entire Council (of 27 EU leaders) not just the (16-country) Eurogroup and this argument was accepted,” said Polish Prime Minister Donald Tusk.
Timothy Heritage