Eurobonds are back on the menu especially for the ECB

One of the features of the credit crunch and then the Euro area crisis is that some things never really go away. Like a rubber ball they just keep bouncing. Let me hand you over to Bloomberg.

The European Union is discussing a plan to jointly issue bonds on a potentially massive scale to finance energy and defense spending as the bloc copes with the fallout from Russia’s invasion of Ukraine.

The proposal may be presented after the EU’s leaders hold an informal summit in Versailles, France, that starts Thursday, according to officials familiar with the preparations.

Yes we are back to the concept of Eurobonds which is putting in another of its regular reappearances. Although it seems rather vague at this point.

Officials are still working out the details on how the debt sales would work and how much money they intend to raise, depending on the guidance they receive from leaders in this week’s meeting.

They don’t seem to know very much do they? Still perhaps unwittingly they do tell us who is probably pushing for this.

The spread between 10-year Italian and German yields — a key gauge of risk in the region — tightened 11 basis points to around 150 basis points, on course for its biggest drop since 2020. Yields on EU bonds rose on the prospect of increased supply. The euro rose as much as 0.6% to $1.0922 following the news.

With a benchmark ten-year yield of 1.62% Italy would for obvious reasons much prefer one of 0.16% like Germany. There is an additional kicker provided by the fact that Germany now has a positive bond yield after a long period of being paid to borrow. For other countries it means they have to pay more and I am sure that is a driver behind this. Whilst Spain ( 1.08%) and Portugal ( 0.94%) are seeing much lower yields than Italy they too would make a decent gain from from this. The biggest gainer would be Greece with its 2.29% although of course it is likely to still be upset that it was not allowed to take advantage of Eurobonds in its time of most need.

I would be cautious about saying the news increased yields because they increased in the UK and to a lesser extent the US as well. Also the rally in the Euro has other factors as my subject of Monday the role of the Swiss National Bank seems to have been in play.

EURCHF lifted just above parity 1.0133 after #SNB intervention. Market whispers : won’t last long. ( @Warburg100 )

We do have Eurobonds

The pandemic was seen as an opportunity to get the Eurobond issue started on a grand scale.

The potentially extraordinary move comes just a year after the EU launched a 1.8 trillion-euro ($2 trillion) emergency package backed by joint debt to finance member states’ efforts to deal with the pandemic.

One example of that in practice comes from the European Commission last September below.

To finance NextGenerationEU, the European Commission – on behalf of the EU – will raise from the capital markets  around €800 billion between now and end-2026. €421.1 billion will be available mostly for grants (under the Recovery and Resilience Facility and other EU budget programmes); €385.8 billion for loans. This will translate into borrowing volumes of an average of roughly €150 billion per year.

As you can see most of this was arriving rather too late for the pandemic recovery but it turns out it will be on time for the energy price crisis. Any port in a storm I guess. At the time bonds were being issued at a negative yield ( -0.28% for a 7 year bond) but such times are over for now.

Energy Problems

A six-point plan has been sent to European Commission President von der Leyen by Greece of which the first three are especially relevant to any Eurobond plan.

1. A Price Cap: A cap on title transfer facility (TTF) prices, i.e. referencing the highest historic gas price before the crisis
2. Daily Price Guardrails: A fluctuation band on TTF prices limiting volatility, for example, to +/- 10%
3. Emergency Price Setting: Stress-related TTF fixed-price setting, as an emergency reaction only, to declarations regarding pipeline gas flows from Russia.

This would be very expensive and comes with the usual rhetoric.

These actions only aim to protect the proper functioning of the gas wholesale market,

Actually in many ways it is functioning rather well, maybe too well and is a consequence of past and indeed present policy.

In the mid to long term this can be alleviated by reducing the Union’s reliance on Russian natural gas.

On that subject there has been no change so far.

9-Mar-22: Russia #natgas flows to Europe continue broadly in line with recent days. On Tue, NordStream1 full flow, Ukraine full flow. Noms for Wed same. TurkStream deliveries to EU have eased off slightly in recent days. ( @tmarzecmanser )

Back in the real world there has been so much official intervention ( Net-Zero and the like) we have little or no idea what a proper functioning energy market would be like. But under that smokescreen we get to the real issue.

If we don’t act now it will persist on electricity prices -which are linked with gas prices in the wholesale markets- in the following months of spring and summer putting an enormous burden on households and businesses.

He is afraid of the stagflation I have been warning about for some time. It could create yet another Euro area crisis. What Europe does not need is another recession and of course Greece needs it least of all.

But this would be very expensive as any move that genuinely helps households and businesses has to be. I can give an example of that from the UK as I have received this morning my new charges as I will be paying 7.57 pence per therm for gas rather than 4.14 pence from next month. The UK is outside the EU of course but this is a problem we cannot avoid and such bills will be arriving all over Europe. Some have deferred it like France which put the costs on EdF in the short-term and in a way the plan has similarities in terms of deferral.

So in simple terms the plan is to borrow and create debt on an international scale to avoid consumers paying bills.

Defence

In some ways this is easier as this is easier to present as a joint move. The catch is that some have been spending relatively more in this area ( Greece) and some less ( Germany). So again the devil is in the detail.

Comment

The response these days to any economic shock is to borrow more. This has particular issues in the Euro area because it is not a fiscal union. There is a further issue in that the country most able to borrow which is Germany ( on almost any metric, relative debt,bond yields…) invariably does not want to do so. This is added to by the fact that it is mostly those who can least afford it who end up borrowing. In absolute terms that is usually Italy which has the largest national debt and in relative terms Greece. This continues with Germany usually saying “nein” but ending up singing along with The Eagles.

They stab it with their steely knives,
But they just can’t kill the beast

Slowly we see the trend moving towards Eurobonds and this week is another example of that. But the next issue is that whilst other central banks are moving away from monetary easing these will be yet more bonds for the ECB to buy which creates its own problems. Or as The Eagles pointed out.

Last thing I remember, I was
Running for the door
I had to find the passage back
To the place I was before
‘Relax, ‘ said the night man,
‘We are programmed to receive.
You can check-out any time you like,
But you can never leave!’