Collective European Bonds Exist

There are many voices that continue to clamor for a European bond; one that is backed collectively by the various members. Germany and the other creditor nations are understandably skeptical especially without greater fiscal unity.

We have argued that Europe is constructing a fiscal union in a similar way that a skyscraper is built. Scaffolding comes first. Such scaffolding exists for a collective bond. The basis for such a bond exists though; not in theory, but in practice.

Unfortunately politicians do not get credit for re-inventing the wheel. Instead they want to put their own stamp on innovations. Consider a parallel in the United States. There was already, for example, government provided health care for the elderly (Medicare) and for the poor and disabled (Medicaid). Both of these programs are scale-able, but the Obama Administration chose instead to create a new program and the controversy that ensued may have undermined the Administration's broader agenda.

Europe can learn from Obama’s experience and grow what it already has rather than build something new. Specifically, in recent days both the European Investment Bank and the EU itself have issued bonds that are collectively backed by European countries.

Last week, the EIB raised $3.5 bln of triple-A rated 3-year paper. The bond is guaranteed by all 27 members of the European Union. It was over-subscribed, with bids amounting to $4.7 bln. The yield was about 1.12%, which was below the existing yield on 3-year EIB bonds. This is the second dollar denominated bond to be sold by EIB this year. It has raised nearly half of this year’s target already.

Banks and fund managers took down 82% of the issue and central banks reportedly took the remainder. Over half (53%) was bought by European entities, while Asia took down 31% and US investors bought 16% of the issue.

On Monday, the EU sold 3 bln euros of triple-A 20-year bonds. There were orders for 5 bln euros, indicating good interest. The 3.4% yield was about 90 bp above a similar German maturity. European pensions, insurance companies and asset managers were thought to be the biggest participants, but there was also some interest from Asian funds.   This is the second offering from the EU this year. In January, it sold 3 bln euros of 30-year bonds.

The success of the European Investment Bank and the EU in issuing bonds that are collectively guaranteed is suggestive of the potential that exists. Ultimately what is lacking is sufficient political will to achieve the scale that would make the joint bonds a game changer, but the scaffolding is there.