European leaders agreed early Thursday that private creditors have to accept a 50 percent cut in the value of the Greek government debt they hold, and the bailout fund would be increased to 1 trillion euros (1.37 trillion U.S. dollars).
"We have reached a sustainable solution for Greece," said Herman Van Rompuy, the European Council president, at a press conference held after a prolonged eurozone summit which dragged from Wednesday evening to Thursday morning.
To reduce Greece's public debt to 120 percent of its GDP in 2020, a voluntary contribution by private holders of Greek debt is needed, and they have agreed to take a nominal discount of 50 percent on notional Greek debt, Van Rompuy told reporters.
The EU leader also hailed a "sufficient firewall against contagion, thanks to an agreement to multiply by fourfold the firepower of the European Financial Stability Facility (EFSF) rescue fund" to increase it to 1 trillion euros.
To bolster the firepower of the EFSF, the eurozone has identified two approaches, including giving credit enhancement to sovereign bonds issued by eurozone member states and creating Special Purpose Vehicles (SPV) to provide finance to EFSF's operations.
Either of the approaches could lead to leverage of 4 or 5 times, and the two can be used simultaneously, so as to increase the robustness of the financing strategy, said Van Rompuy.
The announcement came hours after EU countries agreed to raise the core capital ratio of the European banks to 9 percent by June 30, 2012 during a preceding EU summit.
By approving a co-ordinated scheme to recapitalize banks across Europe, "We foster confidence in the European banking sector," and this will enable the banks to withstand shocks in the current exceptional circumstances, said Van Rompuy.
Under the recapitalization plan, banks should first use private sources of capital, including through restructuring and conversion of debt to equity instruments. If banks are unable to raise enough fund themselves, national governments should provide support, according to a statement issued after the EU summit.
"When the national support is not available, recapitalization should be funded via a loan from the EFSF," said the statement.