Despite deadlock at talks between Angela Merkel and Francois Hollande, proposals for Eurobonds continues to rumble on. Mario Monti, Italy’s unelected technocrat Prime Minister, is the most recent amongst Europe’s leaders to voice his support, even claiming Merkel will be won over.
The idea is, at heart, simple. Rather than having different Eurozone countries borrow by issuing their own bonds, a central European authority would issue bonds for Eurozone members. This would, in theory, allow the different countries of the Eurozone to all borrow at the same rate. For much of the euro’s existence, this was not a relevant concern. Bond markets, into which bonds are sold, were happy to assume that a euro-denominated bond was as good (or virtually as good) coming from, say, Greece as they were from Germany. The assumption was that no euro member could ever default on its debt, and so therefore the risks involved in lending were minimal.
That situation has shifted hugely since the debt crisis erupted at the end of 2009. Greece is essentially excluded from the private bond markets, facing astronomical borrowing costs, while Spain, Portugal and Italy have all seen the interest rates demand of them climb steadily upwards. Eurobonds, in theory, would overcome this problem, since markets would be far happier buying bonds from a strong European authority than a weaker Eurozone member.
But this is precisely why Eurobonds will not work in practice. The first barrier is immediate, and driven by domestic political concerns. Spain and the other southern European countries may well see their interest rates fall as a result of switching to Eurobonds. But Germany certainly would not: quite the opposite – the German state has low borrowing costs because it assumed to be a very low risk, certainly relative to other euro members. That advantage disappears if everyone has to take joint responsibility for Eurozone borrowing. The interests rates faced by Germany would almost certainly rise. Angela Merkel’s government will not countenance it.
The second barrier is more fundamental. Governments can borrow enormous sums from private creditors because they have the ability to raise taxes. Lenders – those buying the bonds – know that future taxes will pay for the borrowing, with interest, and so they are prepared to lend. The strength of a bond depends on the strength of a state and the stability of its finances. If a state is perceived as weak by bond markets, or fiscally dubious, the interest rate demanded is pushed up to compensate. This is why the bond markets are so chronically conservative. It is driven by their fear.
The euro has no central authority that can raise taxes and spend revenues. It consists of 17 different states that have agreed to use a single currency. It has no central state. An authority attempting to issue bonds, on behalf of all 17 members, would not be as strong as a central, taxing-and-spending state being able to do so. It would only be as strong as the agreement between the 17 members. If the strength of that agreement is doubted, the Eurobonds cannot function effectively. The strength of this commitment depends ultimately on Europe’s strongest powers – particularly Germany – agreeing to stand behind it. That means Europe’s strongest powers, in the end, agreeing to underwrite the debts of the rest of the Eurozone. But there are no convincing reasons to think that this would hold good in the event of a crisis: would, for example, Germany really agree to underwrite all of Italy’s €1.3tr debt were it to threaten default? It is doubtful it has the capacity to do so, even if it wanted to.
The Eurobond scheme only works effectively if taxation and spending powers are transferred to a central authority – “fiscal union”. But bar a series of truly extraordinary backflips by Europe’s divided rulers, spontaneously agreeing to settle their deep differences, this will not happen. Should anything resembling a “Eurobond” eventually be summoned up, it is liable only to be a feeble stop-gap measure. The underlying causes of Europe’s financial crisis will not have been addressed.
These remain as they have been: the relentless drive to austerity; too many bad debts; too many bust banks. The first steps to ending the crisis are to end austerity, halting and reversing the suicidal programmes of expenditures that have been launched; to write off debts that are now unpayable, whether owed by states (like Greece) or individuals and firms (as in Spain); and to allow the failure of private banks, nationalising and recapitalising them as needed. Tight restrictions on the movement of capital will be necessary to prevent financial panic spreading, and serious, radical efforts must be made to reverse the growing concentrations of wealth in Europe. For countries in the south, most especially Greece, this will not be achievable without abandoning the euro.
For now, expect another cycle of failed summits and half-cocked initiatives from Europe’s great and good, following a pattern grown familiar over the last two years. Breaking the crisis requires a real break with the past. A movement against austerity is rising.
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