Europe divided over ‘Coronabonds’

Tansy E. Hoskins
Closed for business

When asked about the most tense moment in a week packed with tense, high-level meetings (Ecofin, Eurogroup and the Council, all by video-call), a government official recalled to Investigate Europe the moment when the Dutch minister of Finance, Wopke Hoekstra, made a controversial proposal. It was during a meeting on Monday 23rd March, held between the Economic Affairs Ministers (Ecofin), and on the table was the controversial proposal for the creation of a common European debt solution – Eurobonds or as they are now being called: coronabonds.

Hoekstra asked the Commission to make a report, in the second half of the year, to evaluate why some countries were able to deal with this crisis and others were not.

“This was the most tense moment of the debate. Many countries didn’t understand the need for such a request,” a source at the Council explained to Investigate Europe. In the Dutch newspaper De Volkskrant this moment was described as being as if Hoekstra had shown ‘the middle finger to the South’. Investigate Europe asked the Minister to explain his intentions in requesting the report, that seemed to have Spain and Italy as the targets, but got no answer.

“This was the most tense moment of the debate. Many countries didn’t understand the need for such a request”

A source at the Council to Investigate Europe

The consequences are clear: In Portugal, after the Council meeting of Heads of State, Portuguese Prime Minister António Costa described the Dutch proposal as “repugnant,” “low,” and a “threat to the future of the EU.” Later, in another press conference, the usually calm and diplomatic Costa, was even more clear about coronabonds: “Either the EU will do what it takes, or it will end.”

This feels like déjà vu. In the middle of a crisis, Europe is divided, polarized and showing how difficult it is to take common action when it is most needed. So far, European leaders have only been able to give a very broad mandate to the Eurogroup – to present, in two weeks (despite the money being needed now), a proposal for a credit line of €240bn to be issued by the European Stability Mechanism (ESM).

Meanwhile, in both the Council and the Eurogroup, the division is clear. On one side, countries including The Netherlands, Austria and Finland oppose any kind of common mechanism to prevent an economic and social crisis that could be the hardest ever faced by the EU. Germany is closer to this group of countries, but with nuances. It makes for a revealing story about how Europe has changed since the Euro-debt crisis.

Investigate Europe interviewed dozens of economists, ministers, and European leaders. We asked all of them a simple question: Is there an alternative to common EU debt to solve this crisis?

Our research shows that there is a very wide consensus among member-states (13 out of the 19 Eurogroup members) who want to start issuing common debt. Both schools of economic thinking agree now on this – from the neo-liberals and neo-classicists, to the neo-Keyneseans.

In Germany, for example, economists as diverse as Michael Hüther, the head of the Employers Research Institute, the otherwise strictly market-liberal Institute for Economic Research boss Clemens Fuest and the head of the trade union-oriented Institute for Marcroeconomic Policy, Sebastian Dullien, joined forces with five other prominent colleagues and demanded: ‘the countries of the Euro zone should issue joint bonds to the tune of €1000bn (around 8% of the Euro zone’s gross domestic product) limited to this crisis.’ In Portugal, the founder of the Left Bloc, Francisco Louçã, and the Governor of the Banco de Portugal, Carlos Costa, agree on the same.

Investigate Europe interviewed dozens of economists, ministers, and European leaders. We asked all of them a simple question: Is there an alternative to common EU debt to solve this crisis?

“At this time, not a single economist can predict the final outcome and damage of this crisis,” explains Carsten Brzeski, Chief Economist of ING in Germany. “This crisis is unseen, where literally entire segments of the economy are simply stopped, from 100 to 0. That might give us enough reason for such a drastic measure of monetising the debt.”

Aged 44, Alexander De Croo is the young liberal economist leading the Belgium Government’s Finance Ministry. He uses irony: “In the coming months we will all be Keynesians. We’re all allowing unemployment benefits and are pumping money in the economy.”

For de Croo, this crisis has nothing to do with the past ‘Euro crisis’: “This situation is fundamentally different in that in all previous Eurogroup and Ecofin discussions the concept of moral hazard was always an issue when countries asked for a relaxation or postponement of the Stability and Growth Pact-commitments because they weren’t able to commit,” he says.

“The impact now isn’t due to bad management of government finances or bad policy. Another big difference concerns the countries who are hit: Italy is the third biggest economy, Spain the fourth.”

Sebastian Dullien, head of the German Macroeconomic Policy Institute, asks for coronabonds quickly: “Common bonds are now necessary to distribute the costs of the crisis over many shoulders. In this way, we can help the countries that have been particularly hard hit and prevent them from falling into a solvency crisis through no fault of their own.”

But that is not how the Dutch and German governments see the problem. Although there are visible differences in their policies. For instance, Germany, does not say now – as it did in the past – that they oppose coronabonds. They prefer to say that this is not the time to create them.

“The impact now isn’t due to bad management of government finances or bad policy…”

The German position

For the time being, the German Government does not want to get involved in the demand for coronabonds. Angela Merkel, the German Chancellor, said Berlin prefers to rely on the European Stability Mechanism, the Euro area’s €500bn bailout fund. While some states were examining coronabonds, she said “this is not the view of all member states.”

Federal Finance Minister Olaf Scholz, of the Social Democratic Party, said: “The need to invent such new instruments does not exist at the moment. Solidarity within Europe can be achieved through the existing channels, for example through measures which the European Commission is directly initiating from its budgetary resources. There is also the European Investment Bank and the European Stability Mechanism (ESM).” The Federal Government refers to technical difficulties in the practical implementation, the instrument is not immediately available because complex legislative changes would be necessary, it has said.

But this stalling position fails to recognise the urgency of the situation. It is predictable that, as a result of the forced standstill, the recession will require far more funds than are available through the ESM and the EU budget. If the current situation drags on for three months, the renowned German Institute for Economic Research for example, expects an economic slump of up to twenty per cent of Germany’s gross domestic product. In Portugal, the Central Bank foresees a slump of 37 to 57 per cent in the GDP, which is much more than the two per cent forecast if a credit line is created by the ESM. The situation in other EU countries will not be any better.

Against this backdrop, economists from all over the world have resorted to something they have never done before: they are appealing to EU governments across all traditional ideological camps to abandon the old disputes and immediately launch a joint debt instrument in order to avert the looming economic catastrophe in Europe.

Nor would such a fund obtained by coronabonds in any way bring about the ‘Transfer Union’ so feared by the German and Dutch conservatives, in which the taxpayers of the richer countries finance the over-indebted states of the south.

Rather, the disbursement of the funds could follow the extent of the respective decline in economic performance, and the repayment could be made – spread over up to forty years – as an additional contribution to the EU budget, which is also linked to the respective national economic performance. According to this principle, even rich Germany could be a winner, namely if the economic damage is greater than in France, for example. A scenario that is very likely because of the German economy’s great dependence on exports.

The Portuguese Prime Minister has been describing the German position as moderate and constructive. According to several sources contacted by Investigate Europe, Germany is saying that the bonds could be a “silver bullet” for later. Now, apparently, Berlin thinks that it’s time to measure the necessary effort, without rushing to bonds.

Are bonds off the table? The answer is no.

Bonds remain on the table

After last Thursday’s Council meeting, where it was decided to give two extra weeks to the Eurogroup to find a solution, the question remains: are bonds off the table? The answer is no.

The Eurogroup’s President, Mário Centeno, gave a clear answer to Investigate Europe. “We are not taking options off the table, as we cannot let this health crisis morph into a deep and protracted economic and financial crisis.” This means that the Ministers of Finance will be discussing the subject, even if the agreement seems impossible. That’s probably why Centeno adds that there is “a lot of work to do in these coming weeks”.

The majority of governments read the Council’s statement as an open mandate: “At this stage, we invite the Eurogroup to present proposals to us within two weeks. These proposals should take into account the unprecedented nature of the COVID-19 shock affecting all our countries and our response will be stepped up, as necessary, with further action in an inclusive way, in light of developments, in order to deliver a comprehensive response.”

The pro-coronabonds side of the debate is a force to be reckoned with. France, Italy and Spain are three of the four biggest economies in the EU. Nine countries signed a letter to the Council, last week, demanding the EU “work on a common debt instrument issued by a European institution to raise funds on the market on the same basis, and to the benefits of all member states.”  The letter was signed, initially, by France, Italy, Spain, Portugal, Ireland, Greece, Slovenia, Luxembourg and Belgium. But after the Council, the Portuguese Prime Minister António Costa guaranteed that the“other four countries joined” the request – but declined to name them.

The pro-coronabonds side of the debate is a force to be reckoned with. France, Italy and Spain are three of the four biggest economies in the EU.

This would be enough, even without the necessary unanimous vote in the Eurogroup, for this list of countries, plus the four unnamed countries, to start issuing common bonds under the treaties. The ‘enhanced cooperation’ mechanism allows for nine countries to start a common policy, even if other countries oppose it. Some important common policies, like the Schengen agreement, or the Public Prosecutor, were started this way

But this strategy does not seem to be on the table, according to two Eurogroup Finance Ministers who defend the creation of coronabonds. The reason is the “divisive” nature of such a strategy and the risks it would introduce in the Eurozone.

The new consensus

Two months ago it would be difficult to imagine that two economists with such a different perspective such as Mark Blyth and Guido Tabellini would agree on a state intervention policy like the creation of coronabonds. But now, the anti-austerity and the pro-austerity fields seem to agree on the importance of common debt mechanisms in Europe.

Blyth is one of hundreds of economic scientists that wrote an open letter saying that the EU needs ‘a common debt instrument in order to mutualize the fiscal costs of fighting this crisis. Now is time for action. Now is the time for solidarity. It is time for Eurobonds.’

We interviewed Tabellini, the Intesa Sanpaolo Chair in Political Economics at the Bocconi University in Italy. His argument is exactly the same: “A common bond is the right instrument.”

“The corona virus is a once in a lifetime event with enormous economic and political implications,” Tabellini says. “If the Eurozone cannot achieve further integration now, it probably never will. Many voters will draw the logical consequences of this, and the whole Euro project could unravel.”

The reason why two opposing views can coincide is simple. Eurozone countries have different capacities to borrow the very large amounts that will be needed. “If countries have to finance this shock on their own, the debt burden could leave the weaker member states in a prolonged depression once the health emergency is over,” adds Tabellini.

“The coronavirus is a once in a lifetime event with enormous economic and political implications.”

Grégory Claeys, from the Bruegel institute in Brussels explains the political importance for the EU: “What will happen when the crisis is over and some countries will have a debt to GDP of 150 per cent? Therefore it is understandable that some countries ask for a consolidated solution to the debt problem.”

“The frustrating thing is that the Eurozone as a whole has the capacity to finance this. The debt to GDP of the Eurozone is only 90 per cent, while the US, China and definitely Japan have much higher numbers. So as a bloc we have more than enough room to finance this,” says Karel Lannoo, the CEO of the Center for European Policy Studies. “Member states don’t realise what potential the Eurozone might have with a common debt, not only in terms of financing, but also in terms of setting interest rates on those bonds, in terms of financial market power and in terms of liquidity on those markets.”

Sebastian Dullien is Head of The Macroeconomic Policy Institute: “The Euro countries should open the way to issue common bonds to the volume of 10 per cent of GDP now. By this we can probably compensate up to 75 per cent of the loss in demand and investment. That would be like a reverse insurance,” he says. “The Eurozone can definitely not afford a repetition of the national debt crises in the higher indebted member countries as it happened in the years after 2010. Unfortunately so far the Euro governments are not ready for this, but I hope they will in the end act as flexible as they did then.”

The next steps

Finance Ministers of the Eurozone will have another video call this week, this time with a clear mandate from the Council. The agreement will be, after weeks of hard debate, for an European Stability Mechanism (ESM) credit limit for states of €240bn.

According to Mário Centeno, in his answer to Investigate Europe, “this could be a first step to add a new line of defence.”

But this will only cover up to 2 per cent of the GDP for each country, for health policies and employment policies required to fight the Covid-19 crisis. Uncertainty remains about the conditions states must fulfil to access this credit line. The interest rates should be low, but there’s no agreement yet about the deadline for the repayment. Some countries want it to last a long time – forty years, others prefer for it to be quick.

This is the debate right now, trying to prevent another period of uncertainty about the European Union’s reaction to the economic crisis that will hit several European countries that have been forced to shut down a significant part of their economies in order to stop the corona virus spreading – and to protect their health systems from collapsing due to the unusually high need for intensive care treatments.

More than a strategy to solve the economic problems created by Covid-19, this will be an attempt to dissuade the speculative moves of the markets. For countries needing immediate budgetary support – after spending enormous amounts trying to compensate both companies and workers – more helpful than the ESM credit is probably the European Central Bank’s decision to stop having a limit on buying national bonds. Now, the European Central Bank is saying that ‘our compromise has no limit’ – another way of saying there is no limit for their action.

Investigate Europe was told by two different sources that the existing 33 per cent limit to buy European countries debt is now under revision.  

Investigate Europe was told by two different sources that the existing 33 per cent limit to buy European countries debt is now under revision. This is significant for the markets: the limit is flexible and, in the worst case scenario, the European Central Bank can buy all the debt issued by the countries.

The plan in the EU, is to show that ESM credit complements the European Central Bank strategy. On everyone’s mind is the uncoordinated strategies of the Eurogroup and the European Central Bank during the last crisis in 2011. This time, the idea is that countries will back the Bank’s decisions.

Tansy E. Hoskins
London’s financial district on 22 March 2020

So far, the only important consensus reached in the Ecofin Council was that ‘the Ministers agreed that the conditions for the use of general escape clause of the EU fiscal framework are fulfilled. This will give Member States the opportunity to go further with providing fiscal incentives to their economies.’

The day after the Hoekstra controversy, on Tuesday 24, the Eurogroup met again. No decision was reached on coronabonds, but both the group’s President, Mário Centeno, the Portuguese Finance Minister, and the Commissioner of Economic Affairs, the Italian Paolo Gentiloni confirmed that the option of bonds are still on the table. “We will explore all possibilities to tackle the huge challenges we have ahead of us,” said Centeno.

In a frantic week, packed with informal and restricted, meetings of Finance Ministers, Heads of State and Government, the Council meeting on Thursday seemed to be an anti-climax even though the urgency is clear.

The Covid-19 crisis will take a long time to be solved – only when we have one of two possible outcomes: the majority of the population is immunized against the virus (the famous 70 per cent referred to by Angela Merkel) or when a vaccine is found, tested, approved and produced in sufficient quantity that it is affordable for everybody.

Until then, governments on a global scale, will have to take contradictory measures to assure that, at the same time as preventing the spread of the virus (something that is causing national health systems to collapse, as we are seeing in Italy and Spain,) also ensuring the economy does not stop during lock-down (something that risks massive unemployment and reducing state budgets to a record minimum.)

For now, governments face a serious health problem and a never seen before economic crisis that affects the core of the ‘markets’: the crisis of uncertainty.

From Investigate Europe’s Covid-19 graph (see link below)

Click here for Investigate Europe’s graph based on hourly updated data from Johns Hopkins University. This unique graph has been developed by Investigate Europe in order to aid research and a greater understanding of the situation we face in Europe.