Conditional Issuance Of Pan-Eurozone Bonds

Includes: FXE
by: Lok Sang Ho

I just read an article "A Eurobond Medicine Ms Merkel Could Swallow"(Financial Times, June 12 2012).

It addresses some concerns that have so far prevented an accord that would allow the emergence of this life-saving device for the euro.

I call the eurobond a life-saving device because as long as market fears will not abate, any chances for the recession-ridden economies in Europe like Spain and Greece to have a real handle on sovereign debt would vanish. The fears will keep the yields at unserviceable levels. Debt will then continue to pile up, putting more pressure on governments to adopt even harsher austerity measures and the vicious circle will not end until the euro itself collapses.

As John Muellbauer acknowledges, the concerns that, with joint guarantee of eurobonds, taxpayers in well-behaved countries might have to subsidize the profligate governments of southern Europe are legitimate. Muellbauer proposed a "euro insurance bond," which would require countries with weak economic fundamentals to pay a premium over normal interest rates on their bond issues. Readers may refer to his article for other details.

Actually, however, those concerns can be addressed by imposing conditions on bond issues. A eurozone member country may issue its own non-guaranteed sovereign bonds if it wants, but if it is to issue jointly-underwritten bonds, it must meet certain stipulated conditions, to ensure that the bonds are not being used to finance "profligate" expenditures.

The problem right now is that even though the countries concerned are operating within a very tight budget, and citizens have bitten the bullet, still market fears are rendering the bond yields excessively high to be serviceable.

If any issue by any member needs approval by the key finance ministers of eurozone countries, the worries for moral hazard can be put to rest, and then there will be real chances for the relevant countries to pull their economies on the road to economic recovery.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.