A few weeks ago, when writing about the Irish debt crisis, I finished a post saying:
Eventually, people may come around to [The Telegraph's Ambrose] Evans-Pritchard’s view: the only way out of this is via the ECB printing money and monetizing the periphery’s debt. And implicitly that means a competitive currency devaluation for the euro zone.
Marc Chandler has come around to Evans-Pritchard’s view. I certainly see some legitimacy in the ECB acting as a lender of last resort here. But QE is no more legitimate for the Europeans than it is for the Americans. Nevertheless, I agree with Evans-Pritchard that debt levels in the euro zone are so high that default and/or monetisation are the only ways out. And given the interconnectedness in Europe via its undercapitalised banking system, a failure in Portugal would impact Spain, and a default in Spain would impact Germany and so on. Because politicians are constrained by this knowledge, we have only seen bailouts in Europe to date – no defaults and no wide-scale monetisation. This will change.
That’s why I presented three options for the euro zone yesterday. I didn’t mention so-called Euro bonds, however. Legitimately, this feature belongs in the monetisation scenario because it would facilitate ECB ‘monetisation’. Euro bonds would be a supranational debt instrument backed by the collective taxing authority of euro zone sovereign governments. As such, it would represent a blended debt structure on the same ‘level’ as the ECB more akin to what we see in other sovereign countries like the UK, the US or Canada.
In practice, you could have sovereigns conduct a ‘sovereign debt swap’ whereby the ECB buys an agreed-upon portion of the existing debt from the sovereigns and then uses these funds to back the supranational debt. In future, the same agreed upon percentage of debt would be issued at the supranational level. Clearly, you have to have all euro zone members commit in equal measure or the benefits would not accrue to the periphery.
I reckon a proposal of this sort would be controversial. One should consider this a form of quantitative easing. This is the sort of structure which could only be set up over time – and may require amendments to existing treaties. Moreover, it should be viewed as a move toward the United States of Europe. I have said previously that the Germans would rather defect than allow this. So it will not be considered a legitimate political option until all other more superficial remedies have failed.