Eurobonds: a Real Solution?

Most European politicians are saying that at some point in the future, Eurobonds are the solution to the European Debt Crisis. The question is then what will these bonds look like? Without a central treasury and pan-European parliamentary structure, there is no way to have a solely joint bond solution. Thus, any Eurobonds released in the next few years will probably be part of what is know as a "blue-bond, red-bond" solution. Let us discuss.

In such a scenario, countries would still have their own outstanding sovereign debt but would also receive some pan-European funding. Countries would thus have two types of debt to service, Eurobonds and the sovereign debt. In this scenario, countries would get about 40% of their funding from Eurobonds and the rest from sovereign debt, with the Eurobond funding being split among the countries by weighting of GDP. Thus, the bigger nations would get a larger share of the funding. These bonds would probably trade at some spread over German bunds, however it would represent a significant drop in funding costs for crisis-struck nations such as Spain and Italy. It also may even collapse those nations' sovereign spreads, as the risk of future default lowers.

The real impasse on the road to Eurobonds is the lack of the political and fiscal infrastructure. There is no European Treasury to handle the money and no European Parliament to vote on a European budget. Until this time, Eurobonds seem unlikely. In the near term, stealth Eurobonds may be sold in the form of the European Investment Bank (EIB) increasing its borrowing for infrastructure spending. This would be the first glimpse of a more pro-growth regime in Europe, rather than the current pro-austerity mentality.

In conclusion, don't expect Eurobonds anytime soon. Expect further rhetoric citing that they are a good idea in the future. Any hint of building the necessary infrastructure to handle Eurobonds would be a welcome change, but that remains an unlikely change for Germany and the Bundesbank.