Brussels is to unveil plans this week for a eurozone debt instrument that it hopes will make banks and governments safer in financial crises, despite resistance from richer states that fear having to underwrite weaker countries’ borrowing.
The European Commission wants to create “sovereign bond-backed securities” by bundling together bonds issued by different member states.
It hopes that eurozone banks, which are large investors in government debt, would buy SBBS and diversify away from bonds sold by their home governments.
The blueprint is part of Brussels attempts to deepen financial integration in the eurozone by weakening the “doom loop” between banks and sovereign borrowers.
Banks’ heavy exposure to domestic sovereign debt, and governments’ reciprocal inability to bail out banks in difficulties, were among the reasons investors took fright during the eurozone sovereign debt crisis.
But the commission’s “safe asset” initiative is expected to hit opposition from eurozone governments, which are locked in talks about how to continue the single currency area’s banking union project ahead of a leaders’ summit in June.
As safe assets are not part of those negotiations, government officials say that Brussels’ SBBS plan is likely to get short shrift from member states, but commission officials hope that the proposal will be part of longer-term political ambitions to deepen economic and monetary union.
Investors are also likely to take a cool view on the SBBS, which would not come with a state guarantee. They are expected to get a lower rating as a credit risk than the highest-rated eurozone government bonds.
Wealthier creditor countries, led by Germany, have long been wary of any attempts to create “eurobonds” to mutualise government borrowing across the 19 eurozone countries.
While SBBS would not require governments to pool borrowing, countries including Germany, the Netherlands, Austria, and Finland fear that they would end up supporting more indebted countries, such as Portugal and Italy, by the back door.
A draft legal text seen by the Financial Times shows how the commission wants the private sector to create SBBS through “tranching” and “pooling” of bonds issued by governments from Germany to Greece.
“SBBS would not rely on any risk sharing or fiscal mutualisation between member states. Only private investors would share risks and possible losses. SBBS are therefore different from eurobonds,” says the draft text.
Rules to create SBBS would need the approval of all eurozone governments and the European Parliament.
The commission’s proposal follows a report in January from the European Systemic Risk Board, a central bank task force, recommending that SBBS be given the same regulatory treatment as highly rated eurozone debt.
Success of the synthetic European bonds would have significant benefits for financial integration and for the banking and capital markets union
Supporters of a pan-eurozone safe asset say the instrument could help banks diversify their bond portfolios in a way that does not increase credit risk for governments or investors.
Vítor Constâncio, the outgoing vice-president of the European Central Bank, said last week that the “success of the synthetic European bonds would have significant benefits for financial integration and for the banking and capital markets union”.
The safe asset would have a senior, higher-ranked tranche composed of the lowest risk, sovereign debt from the likes of Germany and the Netherlands, which would make up 70 per cent of the issuance.
The remaining 30 per cent would be split between lower ranked “mezzanine” and “junior” tranches, made up of lower quality eurozone debt, which would be the first to default in times of financial stress.
Eurozone officials have questioned the commission’s intervention as they have been thrashing out a separate plan on how to create a common government-funded backstop for the banking union and reform the European Stability Mechanism, the eurozone’s financial rescue fund.
“No one is taking this seriously,” said one eurozone diplomat, who noted that the safe asset plan was a distraction from the eurozone reform debate.
Commission officials hope that member states will begin to examine the proposal after the summit in June.
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