The coronavirus pandemic is now challenging the core European taboo under the European Treaty issuance of eurobonds but as the situation is getting increasingly dramatic, EU member states are feeling the need for the strongest of medicine to get over the looming coronavirus-induced economic crisis
BRUSSELS (Pakistan Point News / Sputnik - 28th March, 2020) The coronavirus pandemic is now challenging the core European taboo under the European Treaty issuance of eurobonds but as the situation is getting increasingly dramatic, EU member states are feeling the need for the strongest of medicine to get over the looming coronavirus-induced economic crisis.
On Thursday, the heads of European states held a teleconference organized by the European Council in an attempt to find solutions to avert an economic slump following the shutting down of Italy, Spain and France's economies. Mario Centeno, the Portugese finance minister and president of the Eurogroup, said that the main goal of Brussels in the wake of COVID-19 crisis was to set up new "lines of defense" for euro.
"Our aim is to add new lines of defence to the euro, preventing this economic crisis from morphing into a financial one. This is what will be at the #Eurogroup table this evening," he tweeted before the teleconference.
At the same time, Paul De Grauwe, a professor of the European political economy at the London School of Economics and one of the most respected economists in Europe, made a shocking declaration, saying that he became "very pessimistic about the future of euro," and that "the Eurozone might blow up."
Of course, European Commission's President Ursula von der Leyen communicated on the importance of the issue for all Europeans: she conscientiously washed her hands on camera, musing "Ode to Joy" of Ludwig van Beethoven, which is Europe's official anthem.
"When Europe really needed to be there for each other, too many initially looked out for themselves. When Europe really needed an 'all for one' spirit, too many initially gave an 'only for me' response. And when Europe really needed to prove that this is not only a 'fair weather Union,' too many initially refused to share their umbrella," she said when delivering a speech at the European Parliament's plenary session on the European coordinated response to the COVID-19 outbreak.
EU states now need to make decisions to inject enough liquidity in the market to save companies from bankruptcy and the domino effect it would trigger for banks if their loans are not reimbursed, as well as for high number of small and medium enterprises and private consumption of citizens, whose revenue are dwindling if they have not lost their jobs.
For the European Central Bank (ECB), its President Christine Lagarde has already announced a purchase of European bonds worth 750 billion euro ($837 billion) by the end of 2020, but according to many economists, the need is much higher, especially in the worst-hit countries like Italy and Spain, which are also the most indebted ones. Meanwhile, Germany, the Netherlands and other Nordic member states still refuse to wipe out the very big legacy debt of these countries.
While European Commission's President Ursula von der Leyen speaks of "all for one" spirit, Germany and other countries that have always respected the Maastricht Treaty, like Austria, the Netherlands, Luxembourg and others, do not want to pay for those who did not follow the rules, run annual deficit much above 3 percent and have a consolidated debt of much more than maximum allowed 60 percent.
The bad pupils in the class are Greece, which is a desperate case, but also Italy, Spain, Belgium or even France that only respected the Maastricht criteria for two years since the rules were established in 1992.
However, the current COVID-19 crisis seems to be so deep that a different type of agreement must be reached. According to Paul De Grauwe, Europeans must do everything to ensure that this temporary supply and demand shock will not have permanent consequences.
De Grauwe calls for a temporary unemployment benefit of 80-90 percent of gross wage and no bankruptcies to be declared during the confinement and post-confinement phases of the epidemic.
"The twin supply and demand shocks we are going through are likely to trigger many 'domino effects.' Companies with large fixed costs that suffer a sudden fall in income will quickly face financial difficulties or even bankruptcy. When that happens, the banks and other entities that have lent money to these companies will also be in trouble. A massive economic shock can lead to a banking crisis," de Grauwe said at a teleconference organized by the Center for Economic Policy Research (CEPR), a think tank subsidized by the European Commission.
The economist stated that the crisis would affect not only business and banks, but would also pose fiscal risks to governments.
"But the falling dominoes will not stop there. Governments can also face fiscal dangers when they step in to mitigate the crisis. In the case of the current pandemic, national governments will need to save businesses from bankruptcy by granting financial support and subsidies, assist workers by funding temporary unemployment schemes, and possibly even come to the rescue of large banks," he continued.
Contrary to the 2008 financial crisis, now the initial shock comes from the real economy hit by the COVID-19 pandemic that requires national governments to intervene on a massive scale.
"We now see that the Maastricht idea that a country must keep its debt low in order to prepare for emergencies was a good thing after all. Italy or Spain are not in that situation and are now struggling," German economist Daniel Gros said at the CEPR conference.
Moreover, de Grauwe expressed concerns over that the Eurozone could "blow up" if Europe did not show solidarity and public resentment.
"The more their debt increases, the greater the risk that their bondholders will panic, as we saw during 2010-2012 sovereign debt crisis. And the countries experiencing the largest debt increase as a result of the coronacrisis Italy, Spain, and France are among the four largest eurozone economies. If Europe cannot show solidarity, the public resentment, the political backlash against the EU would be enormous, and I am afraid this would lead to a blow-up of the Eurozone," he said.
Meanwhile, all European heads of state agree on one thing there cannot be an unlimited guarantee for Italy's legacy public debt, which amounts to 132 percent of the Italian GDP, although should not be above 60 percent.
For some time, Italian economists, bankers and academics have been toying with eurobonds idea implying that the bloc would issue eurobonds and indebt itself to inject liquidity in the countries that need direct financial help to avoid bankruptcies and irreparable damage to their economy. The ECB will be in charge of that.
Christine Lagarde announced the ECB's readiness to buy up distressed governments' bonds through its Outright Monetary Transactions program already used during the 2010 financial crisis, but this time, without any strings attached.
According to de Grauwe, the issuance of eurobonds is definitely needed in the current situation.
"This is an existential crisis, the issuance of eurobonds, which is the next step, is forbidden by the EU Treaty, but 'Salvus populi, suprema lex' ['the welfare of the people is the supreme law' in Latin], we need a massive issuance of eurobonds, otherwise this crisis would leave permanent legacy of unsustainable debt level, condemning these southern countries to decades of austerity. It would undermine the enthusiasm for Europe. I trust lawyers to come up with a creative solution for the member states to issue perpetual corona bonds, that would be bought a few years later by the ECB on the secondary market. It is time to set dogmas apart!" the economist explained.
According to Daniel Gros, the European countries should "organize a direct transfer," not in the form of a loan, to the countries most severely hit by the pandemic.
"We must organize a direct transfer to the countries that are impacted by the asymmetric shock. Italy is the worst-hit and one of the countries with the highest debt. It should not be in the form of a loan, or a eurobond. With a direct transfer from the European budget, their existing debt would not increase and it would be a concrete sign of solidarity. It would not be paid back and would not be a debt such as a eurobond. It would not be taken out of the current EU budget, which would need to be adapted, and it would only affect Italy and Spain. In other words, it would not need a huge increase of the European budget which now represents some 1.2 percent of the European GDP," Gros stated.
On March 26, the 27 heads of state and government of the EU were supposed to meet again to negotiate a budget for 2021-2027 after failing to reach an agreement on February 20. None of them would have imagined that one month later, they would discuss in a videoconference ways to respond to the most serious health crisis of the century.
Before the meeting with the Council members, President of the European Council Charles Michel and European Commission chief von der Leyen participated in the extraordinary G20 leaders' videoconference called by Saudi Arabia that currently holds the G20 presidency.
Given Europe is currently at the epicenter of the global COVID-19 crisis, Michel and von der Leyen thanked all G20 leaders for the solidarity shown toward the European Union and its member states most affected by the crisis. They also underlined that the bloc is committed to international cooperation in curbing this pandemic and will continue to assist vulnerable countries and communities around the world, especially in Africa.
The presidents of the Council and the Commission stressed that unprecedented events required unprecedented action and that fast, massive and coordinated global action was necessary on the health and economic fronts to save lives and avoid further development of the economic crisis.
As for economic measures, EU admitted having been late in perceiving the importance of the COVID-19 crisis.
Starting from Monday, all member states were allowed to spend as much as they wanted over the limit of 3 percent of budget deficit.