(Bloomberg Opinion) — Jean Monnet, one of the fathers of the European Union, said that “Europe will be forged in crises.” So it was in a sense reassuring to learn that in the face of the ever-spreading coronavirus pandemic, EU leaders were discussing one of the most ambitious ways to knit their countries ever closer together — issuing bonds at the bloc’s federal level.
Eurobonds — debt issued under joint and several liability — are the Holy Grail of euro-zone integration. What’s a shame is that, realistically, they would not be particularly helpful at this moment of panic. It will take time to design them, and any issuance would probably be limited. The euro area’s leaders should instead focus on a response that is significant in size and can be executed quickly. Clearly that points to a large-scale coordinated fiscal stimulus that’s accompanied by credible support from the European Central Bank. The ECB’s announcement on Wednesday night that it would launch an extra emergency bond-buying program worth 750 billion euros ($820 billion) is a promising sign.
The discussion on potentially giving a green light to Eurobonds occurred a day earlier, on Tuesday, at a virtual European Council meeting of EU heads of state and government. In the video conference call, Giuseppe Conte, Italy’s prime minister, made the case for “Coronavirus bonds,” according to Bloomberg News. The euro region would issue these debt instruments to deal with the large economic shock from the Covid-19 epidemic. Italy would especially benefit: Rome has launched a 25 billion-euro ($27 billion) fiscal stimulus, and the government deficit is expected to surge as the economy contracts sharply. Italy’s bond yields are soaring, and spreads with German bunds widening. Eurobonds — which would naturally have a lower yield — would be very helpful in reducing borrowing costs.
France was supportive of the idea, saying the European Investment Bank, the EU’s lending arm, should issue these bonds, with the European Stability Mechanism, the euro area’s rescue fund, offering a guarantee. Most interestingly, German Chancellor Angela Merkel seemed to entertain the idea by saying finance ministers should discuss this option. She even added that she would broach it with Olaf Scholz, the German finance minister. Germany has always been staunchly opposed to the idea of debt mutualization, because it fears other countries would be free riding on its fiscal prudence. Hence, any opening is indeed significant.
The case for Eurobonds rests on the idea that to work effectively the euro zone needs a strong centralized budget. At the moment, member states share monetary policy, but they take care of fiscal policy individually. Ideally, there should be some form of federal budget, so the bloc at a whole can support countries as they face an isolated shock. The ESM can do this, but only at times of crisis and in exchange for a program of reforms. Once a centralized budget is in place, it would be natural for the euro-zone treasury to issue its own debt. These bonds would enjoy a very high credit rating and become natural “safe assets” for the banking sector.
The goal is laudable. The euro area should aspire to graduate to a fully-fledged fiscal union. But it’s very hard to see that happening any time soon. National governments would need to agree on a stricter system of budgetary surveillance that would assure member states there is no risk of moral hazard. They would also need to agree on how to fund the shared budget — for example, by giving it specific streams of tax revenue. These are difficult steps, ones which would also require greater political centralization. Little wonder Merkel asked for more “realistic” solutions on Tuesday, according to a Financial Times report.
Even a small issuance of anything resembling a Eurobond would be important symbolically. But the euro zone needs a quicker and more deliverable plan to ensure this health crisis doesn’t turn into a new sovereign debt crisis. As I explained in a column this week, that would involve a large-scale fiscal stimulus, and a safety net from the ECB. This two-part strategy would help contain the incoming economic shock, while ensuring that governments can continue to borrow at reasonable prices.
After a terrible start last week, the ECB has finally begun to play a role in stabilizing markets. After the unscheduled meeting Wednesday night, President Christine Lagarde clearly spelled out the gravity of the situation saying, “Extraordinary times require extraordinary action. There are no limits to our commitment to the euro.” Other measures include a temporary asset purchase program to buy public and private-sector securities worth 750 billion euros that can be used flexibly and be further expanded.
Earlier on Wednesday, Italy’s 10-year bond yields shot up as much as 60 basis points, nearing 3%. The Bank of Italy intervened significantly in the markets, contributing to reducing them sharply. The ECB top brass also confirmed it stands ready to act to prevent financial instability. “The ECB is ready to do everything in its mandate to address market turmoil that will disrupt monetary policy transmission, otherwise monetary policy will not work,” Isabel Schnabel, the German member of the executive board, said in an interview with Die Ziet.
The ECB is going to have many more fights on its hands as the outbreak continues to spread and as government bonds across the euro zone rise. The central bank should stand ready to increase the size of its bond-buying program and to remove its self-imposed limits on bond purchases – basically to be as flexible as needed. All these changes are much easier to achieve than designing Eurobonds. The euro region should remain realistic in its hour of greatest need.
(Adds ECB’s latest moves in second and eighth paragraphs.)
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
Ferdinando Giugliano writes columns on European economics for Bloomberg Opinion. He is also an economics columnist for La Repubblica and was a member of the editorial board of the Financial Times.
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