* S&P comment on Greece adds pressure on ECB to take losses
* Credit conditions worsening in Italy, France despite ECB
* Southern Europe unemployment adds to risk of euro breakup
By Walter Brandimarte and Daniel Bases
NEW YORK, Feb 8 (Reuters) - Greece will likely fail to achieve sustainable debt levels if it only resorts to a 70 percent reduction in the value of bonds held by private creditors, Standard & Poor's warned on Wednesday, putting pressure on the ECB to also take losses.
Private-sector bond holders currently account for only a small part of Greece's creditors since most of the country's debt has migrated to the hands of the European Central Bank and other official institutions, S&P analyst Frank Gill said in a webcast with clients.
Though pressure on the ECB to take losses on its holdings is rising, policymakers remain divided on what contribution the bank could make to the debt restructuring, two euro zone monetary policy sources said.
If Greece had negotiated losses of 50 percent to 70 percent with private creditors two years ago, then it would have been able to put its public debt in a "far more sustainable level," Gill argued.
"But because only a small subcomponent of investors are actually taking the haircut and the official sector is not, or only partially, then the reduction... is probably not sufficient to make the debt sustainable, given the outlook for GDP itself."
The deal with private sector bond holders is part of a reform package Athens needs to forge in return for a new international rescue to avoid a chaotic default.
The future of Greece and of the euro zone remains at stake as Greek party leaders discuss a reform deal in return for the new EU/IMF rescue. Worries that such a deal is taking too long started to again weigh on financial markets on Wednesday.
S&P, which currently rates Greece at CC with a negative outlook, said it intends to downgrade the country to "selective default," but just temporarily, while the government concludes its debt swap.
Shortly after that, Greece's ratings should be upgraded to a "still low level," which will depend on whether the country's public debt is reduced to a sustainable position, Gill said.
ITALY, FRANCE DETERIORATING
S&P also warned that credit conditions continue to deteriorate in Italy and France after it downgraded both countries last month, despite extraordinary steps by the ECB to boost liquidity in the market.
The ECB's long-term refinancing operations that provided cheap money for the banking system are buying some time for policymakers, but will not replace the necessary "structural surgery" in the euro zone, Gill said.
"We still see credit conditions deteriorating in places like Italy, places like France, and that is going to weaken domestic demand," he said. "That makes it very difficult to project what the fiscal outcome is going to be this year in those countries."
S&P joined other ratings agencies in criticizing euro zone policymakers for focusing too much on austerity measures and not enough on policies to stimulate growth.
"There comes a point when a country can run out of fiscal space. And at that point there is no substitute for some degree of fiscal consolidation," Gill said. "However, there has been perhaps a one-sided focus on fiscal austerity rather than on some sort of growth model for the euro zone, as a whole."
Although S&P assumes the euro zone will not break up as a result of its debt problems, it acknowledges that rising unemployment in Southern Europe represents a growing risk to the region's monetary union.
"That could start to lay the foundations for tail risks for, I don't know, populist (policies), or some pressures to reconsider the monetary policy," Gill said, warning that the exit of a single country of the euro zone would have "unpredictable" consequences to the region.
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