NICOSIA (Reuters) - NICOSIA, Dec 5 (Reuters) - It was a "terrible mistake" to ask private holders of Greek government debt to forgo half of their investment, European Central Bank Governing Council member Athanasios Orphanides said on Monday.
Sources told Reuters at the weekend that Germany was prepared to soften language in the euro zone's permanent rescue fund that compels bondholders to accept losses in exchange for much stricter budget rules.
Orphanides told Cypriot lawmakers that the decision to write down Greek debt was wrong and a "tragic" mistake which led to spikes in bond yields of sovereign debt throughout the euro zone.
"It was a terrible mistake," Orphanides, who is also the governor of the Central bank of Cyprus, told parliament's Finance Committee.
"By forcing the impairment of any state bond we have triggered concern internationally of all state bonds in the euro zone and that's one of the key reasons we have a problem," he said.
"It is because of this tragic mistake in the euro zone that the yields of so many bonds are so high," Orphanides added.
Cypriot banks have considerable holdings in Greek debt. Last week they announced considerable losses on the Greek writedown.
Under a now-defunct deal in July, private bondholders planned to swap existing bonds for new, longer-maturing paper worth 21 percent less to help Greece as it stumbled under debt currently equivalent to 162 percent of GDP.
It soon became apparent, however, that the 'haircut' was insufficient and last month the Institute of International Finance (IIF) agreed with Greece and EU leaders to take a 50 percent loss to put the country on a more sustainable path back to solvency.
Orphanides said he expected euro zone leaders to address the problem effectively at a meeting on Friday.
"This is a challenge which must be dealt with in a decisive manner very soon," he told journalists.
"I consider the meeting of Euro zone heads of state on Friday is very important. I hope their decisions will assist in a better governance framework in the euro zone and help solve the problem we are facing at the moment."
Reporting By Michele Kambas; writing by Eva Kuehnen