Coronabonds for Beginners

“The microbe is back!” Jacques Delors told AFP at the end of March. But, the EU godfather wasn’t referring to Coronavirus.

This influenza was different. Fear of debt mutualisation in the eurozone is what Delors was referring to.

The pandemic had inspired member states to take matters into their own hands — socially, politically and economically.

Some of them are already showing positive results. The curve of infection is flattening slowly and the death toll is lessening. But its peak is still not yet reached.

The issue is that it’s not clear what will happen to the European Union’s economy. The EU needs to find the right answer in order to avoid a catastrophe.

On 9 April, the Eurogroup agreed on a €500 billion package to respond to the Coronavirus crisis. The plan includes three points:

First, a guaranteed fund of €25 billion for the European Investment Bank (EIB) to support an estimated €200 billion in financing for companies, with a special focus on SMEs, through national development banks like Germany’s KfW.

Second, a guarantee of €25 billion for the European Commission to provide partial unemployment financing to EU member states.

These two points were widely endorsed.

The third point, on an overall stimulus package, is where things went wrong.

Finance ministers had proposed using the European Stability Mechanism (ESM), with a war chest of more than €420 billion at its disposal, instead of issuing bonds mutually guaranteed upon by member states: the so-called Coronabonds.

Is this really “an important milestone” as German Chancellor Angela Merkel remarked? Probably not.

Germany and Austria were against any kind of common mutualised bonds.

Berlin and Vienna urged agreement on using the European Stability Mechanism (ESM) as a credit line to support domestic financing of direct and indirect healthcare, cure and prevention-related costs due to the Coronavirus crisis.

The Netherlands fiercely opposed using ESM resources without conditions but eventually compromised.

Moreover, the total amount of €500 billion seems very little compared to already implemented packages in EU member states.

Germany, for example, has put in place a €750 billion stimulus package for its economy.

Hence, the deal is nothing more than, as always in the European Union, a compromise to avoid the worst possible outcome.

After debates across Europe over the need to respond properly, together, with a new instrument of debt guaranteed by all member states, the agreed solution makes no mention of Coronabonds.

At the last summit of European heads of state and governments on 26 March, a deep conflict opened as to how to tackle Coronavirus economically.

In preparation for the summit, a letter signed by Italy, Spain, France and others urged the Council to issue mutual bonds.

Coronabonds would combine securities from EU member states, as they could be issued and guaranteed jointly.

The Coronabonds debate is reminiscent of the preceding eurobonds debate, when the euro was impacted by the 2008 financial crisis.

Germany, Austria and the Netherlands similarly opposed attempts to mutualise the debt of eurozone states by issuing commonly guaranteed bonds.

The same is happening now.

German economists who argued against issuing any kind of eurobonds at the time now see that a different approach is needed to counter the Coronavirus crisis.

There is the correct argument that the current crisis hits all member states without exception. And there is the moral argument that the weaker states are harder hit by the Coronavirus crisis than the stronger ones.

Hence, they need a demonstration of solidarity. If not, the future of the European Union is at stake.

Coronabonds could help avoid further financial turmoil and perhaps even a new euro crisis.

Coronabonds could be issued with the guarantee of all eurozone member states.

This would represent a profound change of EU monetary policy, even if the taxpayers of the issuing countries are liable for their share of the bond.

Only in the event of insolvency do the other countries have to assume the liability.

It has to be emphasised that at the moment Italy, Spain and France have no problem getting re-financed by the markets, with low interest rates.

It is a question of the solidarity needed to face instability in the eurozone and to convince the markets that EU member states are committed to sticking together in tough times.

Nevertheless, even in times of low interest rates, weaker EU member states could benefit from the solvency of stronger members.

For example, at the moment, Germany could lend at financial markets with interest rates of minus 0.47%, meaning it gets money back for its obligations.

Calculations have been made that Coronabonds could be issued with an interest rate of 0.2%.

For Germany, this would mean €900 million more in debt interest over 5 years when €500 billion are raised with a Coronabond.

That’s a lot of money, but supportable, in spite of the huge challenges.

At the moment, eurozone members re-finance themselves through higher budget deficits by issuing national bonds.

The European Commission has already provided the flexibility in their budgets by activating the general escape clause of strict Maastricht fiscal rules.

Moreover, national treasuries are being supported by a new temporary asset purchase programme of private and public sector securities, in order to counter the serious risks to the eurozone posed by the outbreak of coronavirus.

This new Pandemic Emergency Purchase Programme (PEPP) will have an overall envelope of €750 billion.

Purchases will be conducted until the end of 2020 and will include all the asset categories eligible under the already existing asset purchase programme (APP).

As a result, the spread between the different debt interest rates in the eurozone has diminished and have been stabilised at a lower level than before. This is of much help to heavily indebted countries like Spain and Italy.

It could be argued, as Germany brought forward, that in the current crisis, the already existing credit lines of the ESM are immediately at their disposal.

This translates to approximately €450 billion guaranteed by more than €80 billion in paid-in capital.

In using these funds, eurozone members will benefit from European Central Bank guarantees and hence lower financing costs as needed when lending at the financial markets.

But there are two major problems.

The first one is the total amount of the European Security Mechanism available. It is not sufficient to face the crisis and will not substantially lower the debt of eurozone countries, especially the most vulnerable ones.

The second issue is even more crucial: the austerity requirements still linked to the ESM. This is especially toxic for countries like Italy and Spain, and even France.

Recognising the political challenge, Olaf Schulz, Germany’s finance minister, announced that Berlin is ready to allow countries to borrow from the European Stability Mechanism (ESM) with no “unnecessary” strings attached.

This was the statement needed to finally secure an agreement. But the entire issue remains explosive. The old devils are all of a sudden reappearing.

It is too simple to argue that the French President Emmanuel Macron initiated this as revenge on Angela Merkel, who refused to team up together when he was arguing in favour of making deep structural reforms to the European Union.

The divide within the EU on the mutualisation of debt is substantial. It haunted the eurozone already heavily after the 2008 financial crisis.

The reopening of the argument comes amid warnings about the dire consequences of the global pandemic.

But stronger economies within the eurozone have always rejected guaranteeing the debt of the weaker ones.

This was, by the way, one of the fundamental conditions for Germany when the euro was first launched.

The longest-serving head of state in the European Union, Merkel remains committed to her ultra-conservative fiscal and monetary orthodoxy.

That’s why it was surprising that she accepted radical change in budgetary discipline and put aside the “black-zero mantra” — the most visible symbol of what many see as Germany’s obsession with balanced budgets.

The question remains whether the solution found will help the 27 European Union member states to break out of their current deadlock.

A successful outcome may even revitalise the Franco-German axis, which remains more essential than ever to the functioning and development of the EU.

Without a common response from its member states, the Coronavirus crisis will reinforce the already visible divisions.

This could take the EU straight towards a two-speed Europe, divided between those who can afford it and those who do not have a chance of recovering.

European solidarity cannot be reduced to the provision of a few unoccupied beds in border hospitals.

The virulence of the debate on Coronabonds illustrates again the significant differences which exist between the European partners.

But “rebuilding European construction“ as the French Minister of Finance Bruno le Maire wishes or “restoring economic and social stability after the crisis” as his German counterpart Peter Altmeier calls it, are two sides of the same coin.

Rebuilding will not happen without stabilising.

Today’s European divisions were able to take root because the debate on Coronabonds was mixed and was confused with that of eurobonds, to manage the financial crisis and the construction of a new European monetary architecture in order to stabilise the euro.

Eurobonds are permanent monetary instruments, while Coronabonds are intended to be a temporary financial instrument, only put in place to deal with the economic and social crises caused by the Coronavirus.

This is an essential difference. This crisis will not be resolved with the instruments resulting from the management of the financial crisis, because this time it is a crisis of the real economy.

Whatever happens, whatever we may think, the gravity of this crisis should not allow us to let the fratricidal debates that have been stirring Europe up for several weeks continue.

The damage is already done. In the worst crisis in EU history, finance ministers should have shown more solidarity and determination. The unpleasant haggling above all shows distrust and stubbornness.

The citizens of countries like Italy and Spain are right to demand that the EU help their already highly indebted governments to finance recovery plans after the pandemic.

If Brussels can only meet these expectations with lowest common denominator compromises, voters will most likely turn more to anti-European parties.

On the other hand, citizens of Germany, the Netherlands and Austria are rightly concerned about the debate on Coronabonds and therefore the mutualisation of debt.

When the Germans gave up their beloved currency, the Deutschmark, for the euro, the government of Helmut Kohl promised them that the monetary union would not lead to a transfer union.

All member states would continue to be responsible for their financial commitments and their debts. Betraying this promise would give Eurosceptics a massive boost in Germany.

Disappointment in the South and distrust in the North could tear the Union apart. Fearing populists, governments in Europe will no longer seek solutions to problems together, but rather act against one another.

The priority is assessing what kind of solidarity is necessary to guarantee the economic and social stability of Europe.

Eurozone members should decide whether they want to put collective interests above selfishness by allowing weak states to benefit from the solvency of stronger ones.

Photograph courtesy of Joel Schalit. All rights reserved.