Anoushka Paliwal, SRCC
Sushri Padhi, SRCC
The world is grappling with a deadly microscopic enemy right now, desperately trying to understand how to live with the threat of the virus while most economies are at a standstill and millions of lives are hanging by a thread. No one is immune to this so-called black swan of 2020, not even the world’s most vibrant economies. In Eurozone, as the insidious threat lurks around, governments are doing everything in their power to keep businesses afloat as demand-supply chains everywhere are grievously impacted.
Let's not forget that this generosity of governments requires money and soon they will run out of it. Perforce they will have to resort to borrowing, which in turn has a cost of its own. In the upcoming unknown future, this can create havoc in already debt-stricken countries like Spain and Italy which don't have a financial cushion, unlike the richer countries of European Union (EU), to fall on to. Moreover, unlike the Fed, which has room to cut interest rates in response to Covid-19, the European Central Bank (ECB) doesn’t have that option since the ECB's policy rate has been negative since 2014, further putting pressure on the governments.
To address the economic downturn, several European Union (EU) members have come up with the proposition of Coronabonds. With Coronabonds, 19 members of the EU, i.e. the Eurozone, will jointly raise debt and the money will then be directed to the member(s) who need it. The funds will be mutualised and raised from the European Investment Bank at a low-interest rate.
However, unlike the three altruistic musketeers (France, Italy, and Spain) who help each other no matter what; the Frugal Four (Germany, Netherlands, Austria, and Finland) are not in favor of joint debt as they believe that it is the individual responsibility of EU member states to keep their finances in order. After all, no country, especially from the political point of view, wants their taxpayers footing the bill for some fiscally irresponsible member.
This brings us to the question why not issue bonds individually? Well, while it is manageable for strong economies, like Germany, to raise funds at a low-interest rate but the same cannot be said for the weaker economies of EU as no prudent investor would like to park his money in a bond issued by a highly indebted country, like Italy or Spain, at a low-interest rate as higher the risk, higher the interest rate. Hence, the joint debt idea proposed as Coronabonds will lower the borrowing costs by sharing the debt portfolio between countries having striking differences in their economic outlooks.
No one can blame the Frugal Four, after all, why would they want to be punished for the fiscal mismanagement of other countries which did not save for such rainy days. Of course, there is the solidarity card and the fact that the US Dollar is outperforming all major currencies to root for Coronabonds.
How did the dollar come into all of this? For starters, lack of a united front by the Eurogroup, since the proposition of Coronabonds, has sent investors out of Italian bonds to increase their spread in USD bonds. In fact even before this Corona fiasco, the dollar threat was always lurking around in the bond markets of Europe. In the eyes of investors, the euro was never in the USD's league. Unlike the shared currency, bond markets are not unified in EU. Each country has its bond market bearing different levels of risk. Even if a single country's market is not performing well, all other euro members are affected as the currency becomes very volatile and no investor likes that. For instance, the European Debt Crisis that began in Greece in 2009 was the sole reason why liquidity vanished from Europe and forced the investors to join the other side of the Atlantic – the US market.
There is no doubt that the unification of the bond market in Europe will bring stability and more funds but the biggest obstacle, apart from the logistics for implementation, remains the contradicting beliefs between the North and South European Nations. It goes without saying that if the frugal four continues to oppose the fiscal response then the remaining countries might want them to part ways with the EU; after all if all of them are in the same boat, as the EU proclaims, and an iceberg hits them, then they should all come together with a united European response. The problem does not end here. It does sound unfeasible to launch such extraordinary measures in such short notice as each country will have to make amends in their laws to support and at the same time protect themselves from possible loopholes present in this proposed mechanism.
This situation is like a tangled conundrum and the devil is in the differences. While some countries firmly believe that these bonds are a symbol of cohesion and financial integration for the Eurozone, others find these breaching the very founding principle of the Eurozone - that every country is responsible for its well-being.Now we ask you, reader, would you like to confide your credit card details with someone whose expenses you can’t control, for the possibility of greater good for everyone around you?