Often the argument is brought forward that Eurobonds will be expensive for Germany. The bonds would have higher yields than German Bunds given that weaker debtors are aggregated into one issuer. Here are two counterarguments. (A third one, higher liquidity, has been made in abundance already.)
First, credit fundamentals do not suggest that the euroarea as a whole is less solvent than Germany (see table). Debt levels, cyclically adjusted primary balances, and long-term contingent liabilities from pension and health are roughly on level with Germany. If pre-crisis convergence growth would be restored, the euroarea as a whole would grow faster than Germany, although current potential growth estimates suggest that growth paths are roughly at level. And with the US Treasury’s AA+-rated and Japans AA--rated bonds yielding on par or less than Germany’s AAA Bunds, a non-prime rating should no longer sound the death knell for eurobonds.
Euroarea | Germany | |
General government debt (percent of GDP, 2010) | 85.1 | 83.2 |
Cyclically Adjusted Primary Balance (percent of GDP, 2011) | 0.5 | -0.2 |
Growth in public health and pension expenditure (ppt of GDP, 2010-30) | 2.3 | 2.2 |
Historic GDP growth (real, 2005-10) | 2.4 | 2.2 |
Potential GDP growth (real, 2011-16) | 1.3 | 1.6 |
Sources: Eurostat; IMF Fiscal Monitor and WEO.
Second, the counterfactual of yield compression in the eurozone 1995-99 may be overlooked. If yield compression for peripheral issuers rests in part on an implicit guarantee from eurozone membership, so it is likely to be borne by Germany. (I know that substituting whacky monetary policy for Bundesbank policy is another factor.) But partially, if peripheral bond yields declined due to the implicit solvency backstop, German yields must have increased. Isn’t it surprising that Bunds yielded lower than gilts until the onset of the ERM II fixing (see figure)? Also, non-resident holdings, while increasing for all countries, accelerated more for other euroarea countries than Germany (see figure). This supports anecdotal evidence that investment flows after the euro introduction were directed away from Germany towards other euroarea countries, possibly lowering their relative yields. With eurobonds, this demand would be unified into one instrument.
Thus, if the eurozone is saved, and countries brought back from crisis, I don’t see a strong argument why eurobonds would yield those 100-200 basis points higher that are cited by others (e.g., ifo).
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| Source: Bloomberg |
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