One of the new French President's first statements on the European sovereign debt crisis was to declare his enthusiastic support for the introduction of a "joint and several" euro bond. The appeal is easy to see. If Spain or Italy could issue euro bonds instead of a Spanish or Italian government bond denominated in euros, the debt markets would not penalize them to the extent that they have been doing, or so at least the theory goes.
A bond backed by a number of countries is clearly a better bet for investors than a bond backed by just one country, particularly if that one country is already stretched to breaking point. This much everyone can see.
Thus far, euro bonds have looked like a great idea to many beleaguered EU peripheral members. However, it only takes a modicum of thought to see that any joint and several guarantee is only as good as the participants standing behind it. Having troubled peripheral states such as Ireland and Portugal standing as co-guarantors of a Spanish bond would do very little, one imagines, for investor confidence. The source of real confidence in any euro bond has to come from the fact that instead of Spain standing behind a Spanish bond auction, Germany, Europe's strongest economy, would now be in there shoulder to shoulder with the likes of France and the Netherlands, both of which have a good deal more financial credibility than Spain or Italy.
However, those who think euro bonds are the EU's "get out of jail free" card, have a problem. The German Chancellor, Angela Merkel lost no opportunity in the run up to the meeting of the heads of Europe on 28th-29th June, to rule out any idea of euro bonds before there is proper fiscal consolidation and harmonisation across Europe. Since such fiscal harmonization remains a long way of, with no clarity at all as to a roadmap to integration, Merkel's "nein" would seem to be the end of euro bonds as a solution. However, Merkel has become famous over the last year or two for drawing lines in the sand only to find herself dragged across those lines willy nilly as the markets compelled her to compromise. With her, and with German ministers generally, it has almost become a case of "never say never", since they no sooner adopt a position than they are forced to reverse it.
What they are coming up against is that you can't buck the bond markets. If governments need to borrow, and they always do, then they can only borrow at realistic rates of interest - which means rates that won't cripple their economies for years to come - if the markets have confidence that the government can stand behind its debt. Right now the markets have very little confidence that Europe's political class have any solution to the current mess other than, well, eurobonds and fiscal integration. This being the case, it really doesn't matter, in the medium term, how much the Chancellor of Germany or her finance minister dislike the idea of writing blank cheques for Europe. The idea won't go away because it is the only game in town, as far as the markets are concerned. Already the, arguably, only "pure" ratings agency in the game, Egan Jones, has further downgraded Germany based on the belief that whether it wants to or no, Germany will have to spend more bailing out the euro and therefore the debt burdens on Germany can go in only one direction. This being so, it makes sense Egan Jones argues, to cut Germany’s rating to sing A-plus. Egan Jones is the only one of the US ratings agencies to have removed Germany’s coveted Triple-A rating and this further downgrade underscores the agency’s concerns over Germany’s rising debt to GDP ratio.
Germany is not alone in refusing to sanction euro bonds. Netherlands, Austria and Finland are also vehemently opposed to the idea of issuing joint and several guarantees. However, without agreement on something very like this - and what could be like it without being it? – the upcoming EU Summit is in grave danger of closing empty handed, at which point the markets are likely to accelerate downwards at speed...
Further reading on the EU crisis
- Euro crisis morphs into the sovereign’s subprime, by Ian Fraser
- French German fudge on euro bond issue leaves markets unimpressed, by Anthony Harrington
- The Tragedy of the Euro, by Philipp Bagus
Tags: Angela Merkel , Austria , banking , central banks , ECB , EU , euro bonds , European Central Bank , European Monetary Union , eurozone , financial crisis , Finland , France , Francois Hollande , Germany , Greece , Greek debt , Netherlands , sovereign debt crisis , Spain