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France Loses AAA as Greek Talks Break Down

France was stripped of its top credit rating by Standard & Poor’s and banks suspended talks with Greece over debt restructuring, the first blows this year to efforts aimed at stemming Europe’s fiscal turmoil.

France’s AAA rating will fall by one level at S&P, Finance Minister Francois Baroin told France 2 television today. Slovakia, Italy and Austria are among other countries to be downgraded, European officials said. Germany will keep its top rating, a person familiar with the matter said. S&P may release its report at about 9 p.m. Brussels time.

The decisions came at the end of a week in which signs grew that Europe’s woes may be cresting as borrowing costs fell, evidence of economic resilience emerged and the European Central Bank said it had quelled a credit crunch at banks. The immediate impact on French and Italian borrowing costs was limited, with the yield on 10-year government bonds rising 3 basis points and 1 basis point, respectively.

“It’s a reduction of one level, it’s the same level as the U.S.,” Baroin said. “It’s not a catastrophe.”

The euro today fell to its weakest in 16 months against the dollar, declining to $1.2665. The yield on Germany’s benchmark 10-year bund slipped 7 basis points to 1.759 percent and earlier touched a record low.

“We’ve had a few calmer weeks with sentiment improving, but the situation was vulnerable to re-escalation,” said Nick Kounis, head of macro research at ABN Amro Bank NV in Amsterdam. “There are enough challenges ahead which could be fresh triggers for the crisis.”

Third Year

European leaders are struggling to tame a crisis now in its third year and convince investors they can restore budget order. Greece’s creditors today announced they had failed to agree with its authorities about how much money investors will lose by swapping the nation’s bonds, increasing the risk of the euro- area’s first sovereign default.

While confirmation that Germany, Europe’s biggest economy, retains its top rating could lessen fallout, the French and Austrian downgrades threaten the potency of the region’s main bailout fund, which currently has 440 billion euros ($558 billion) to spend.

The European Financial Stability Facility, which is funding rescue packages for Greece, Ireland and Portugal partially with bond sales, owes its AAA rating to guarantees from the region’s top-rated nations.

The French downgrade and refusal by governments to provide more credit enhancements would reduce the fund’s lending capacity by around a third to 293 billion euros, Trevor Cullinan, S&P’s director of sovereign ratings, said last month.

EFSF Power

“It will be interesting to see what the strategy will be regarding the EFSF,” said David Schnautz, a fixed-income strategist at Commerzbank AG in London. Downgrades could “limit the volume of AAA rated EFSF paper that could be issued, or the EFSF could begin to issue non-AAA.”

Downgrades sometimes lack bite. The yield on the benchmark U.S. government bond fell to a record 1.6714 percent on Sept. 23, seven weeks after S&P withdrew its AAA rating for the first time, citing the nation’s political process and a failure to tackle a record budget deficit.

Today’s impasse in Greece comes three months since officials and creditors agreed to implement a 50 percent cut in the face value of the country’s debt, with a goal of paring Greek’s borrowings to 120 percent of gross domestic product by 2020. Unresolved is the coupon and maturity of the new bonds to determine the total losses for investors.

Greek Impasse

Proposals put forward by a committee representing financial firms have “not produced a constructive consolidated response by all parties,” the Washington-based Institute of International Finance said in a statement today. “Discussions with Greece and the official sector are paused for reflection on the benefits of a voluntary approach.”

The government said the two sides will reconvene discussions in five days. European governments have been pushing for the Greek debt to carry a coupon of 4 percent, a person with direct knowledge of the negotiations said this week. Private bondholders said they would accept those terms for a period of time if they were able to get a bigger payout later as Greece’s economy recovered, the person said.

The Greek bond due October 2022 rose, pushing the yield six basis points lower to 34.36 percent at 5:20 p.m. London time. The price climbed to about 20.5 percent of face value.

To contact the reporter on this story: Simon Kennedy in London at skennedy4@bloomberg.net Patrick Donahue in Kiel, Germany at pdonahue1@bloomberg.net

To contact the editor responsible for this story: Alan Crawford at acrawford6@bloomberg.net

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