Europe’s debate over coronabonds can wait
Europe needs enormous public spending right now — not to deliver stimulus in the usual sense, but to meet the immediate costs of fighting Covid-19, including generous income insurance to the people whose jobs are evaporating. What Europe most certainly does not need is to get bogged down in a debate about the best long-term solutions to an urgent problem.
If the EU were a true fiscal union like the US, it could spend in support of its member governments, borrowing the necessary funds and servicing the resulting debt with the taxes it collects. The EU has its own currency, yet by design it remains a fiscal nonentity, with only a small budget and no tax base.
Yes, Europe should change its constitution to address this state of affairs, but that would require far-reaching and time-consuming deliberations — and there’s no time for that right now. That’s the trouble with the proposal for so-called Coronabonds, the proposed collectively issued EU debt to support spending on the pandemic. This innovation presupposes workable answers to some very hard questions.
Collective borrowing isn’t just a matter of getting governments to agree to emergency outlays and to jointly guarantee the debt, which is difficult enough. Since the EU collects no taxes, the governments would also have to say how the cost of servicing the bonds would be allocated across the member states. That’s even harder.
The design would affect the credibility of the joint guarantee and hence the way the debt was priced in financial markets. Fiscally prudent northern EU countries, led by Germany, would be worried about moving irreversibly toward a “transfer union” that would put their taxpayers on the hook for the spending of fiscally imprudent southerners such as Italy.
Europe will need to have this debate eventually. When it does, the best solution would be a permanent EU-wide spending program — such as a joint unemployment insurance scheme — with an EU-wide tax instrument sufficient to pay for it over the course of the business cycle. But getting to agreement on anything of that kind is out of the question at the moment. Any method of emergency spending that brings this underlying disagreement to the surface risks holding up the spending. Any species of Eurobond, including Coronabonds, falls into the trap.
In the short term, there’s no need for these complications. The crucial thing is for the European Central Bank to stand willing to buy debt issued by the EU’s individual governments — in whatever quantity is required to stop the cost of servicing that debt from rising. Initially, Christine Lagarde, the new head of the central bank, was reluctant to deliver the kind of “whatever it takes” message her predecessor, Mario Draghi, issued after the financial crash. She went so far as to say that spreads were not the bank’s concern. But that’s all changed.
The ECB has not only resumed large-scale quantitative easing but has supplemented it with a new Pandemic Emergency Purchase Program capable of buying 750 billion euros of assets. The PEPP is a first installment of Lagarde’s “whatever it takes.” And contrary to her earlier position, that program’s ability to contain spreads on Italian and other risky debt will be the measure of its success. With this in place, and the readiness to expand it if required, national governments can and should borrow freely to cover the immediate costs of an adequate response to the emergency.
Europe has other options as well — notably lending from the European Stability Mechanism, which could supplement the ECB’s actions, so long as its rules on loan conditionality were relaxed and the stigma of drawing on its funds was neutralized. The European Investment Bank could also scale up its operations, and a limited European Commission scheme (called SURE) to support higher spending on unemployment benefits is under discussion. But an appropriately activist central bank is the vital, irreplaceable and (for now) sufficient ingredient.
There will be objections that allowing the ECB to play this role only delays the debate that Europe will eventually need to have about fiscal capacity. True enough. Some might even call this approach a fraud. Also true, in a way. After all, unconstrained bond-buying is a form of fiscal policy, something the ECB is supposedly forbidden to do.
The longer large-scale asset purchases go on, the more creative the bank will have to be in bending the rules so that it can keep on buying the debts of particular countries, skewing the composition of its assets and raising questions about when, how and even whether these positions will be unwound. So yes, this necessary ECB activism is a kind of cheating that only delays the eventual reckoning. Sooner or later, all this will have to be confronted. For now, later will do.