Monday, June 11, 2012

A Eurobond medicine Ms Merkel could swallow

by John Muellbauer

Financial Times

June 11, 2012

Angela Merkel has doggedly resisted pressure to accept the jointly guaranteed eurozone bonds that many think essential to resolving the sovereign debt crisis. I have a compromise, which may just meet Germany’s valid fears that their taxpayers will have to subsidise the profligate governments of southern Europe.

I call it a euro insurance bond. Not only would it satisfy Germany’s partners and the European Central Bank, it would also end market panic. The idea is straightforward. Think of car insurance: just as bad drivers with accident records pay higher risk premiums, so countries with weak fundamentals would pay a higher interest rate on their euro insurance bond issue into a central insurance fund. For outside investors, however, all such bonds would trade at the same price. A similar scheme was proposed by Wim Boonstra of Rabobank more than 20 years ago.

Insurance companies usually demand an “excess”, with drivers covering the first part of accident costs themselves, to protect against moral hazard. In the same way, countries issuing euro insurance bonds would post collateral with a central insurance fund – a eurozone debt management agency – in the form of gold and foreign exchange reserves, in proportion to their euro insurance bond debt issue. While Greece, Ireland and Portugal remain under full bailout programmes, they would not come under the scheme.

In the event of a future default or debt writedown, the build-up of payments in the insurance fund, plus the collateral, would be available to those countries underwriting the joint euro insurance bond issue. This would negate German fears of a “transfer union”. In the unlikely event of such funds being insufficient, the cost over-run could be added to each country’s share in the collective debt, in proportion to their gross domestic product. Germany would not be singled out for unfair burden-sharing.


No comments: