Here is an email exchange I just had with Alan Freeman on our Modest Proposal for Europe
Alan Freeman: Do you have any opinion on what this proposal would imply for Ireland?
Yanis Varoufakis: The proposal would do two things for Ireland: First, during the proposed Grand Negotiation (between banks, indebted states and the EU-ECB representatives) the ECB could commit to long term liquidity transfers to the Irish banks while they accept longer and lower Irish government bonds in return for the existing Irish govt bonds that they are holding. Also, the Irish state budget deficit could be cut substantially if most public investment is shifted to the EIB and the latter is allowed to increase its financing to almost 100% (perhaps in combination with ECB issued bonds – as we propose). Moving on, the second batch of measures (aimed at Recovery, once Stabilisation has been achieved) stipulates that the Irish government passes all its debt to the ECB (since its debt is around the 60% of GDP mark) which will, in turn, issue EU bonds of the same value. Suddenly the Irish government will be able to service its debt at less than 3% interest. Note that this will cost the ECB nothing since the EU bonds will be sold (probably to Chinese wealth funds) and it will still be incumbent upon the Irish government to pay the (much lower) interest. These moves would give Ireland enormous breathing space. Moreover, the spreads would collapse as the markets would be reassured that Ireland is solvent again.
Alan Freeman: Am I wrong to think that the centre of this proposal is that the ECB assumes responsibility for the debts of the Irish government?
Yanis Varoufakis: The ECB has been propping up Ireland for the past ten months to the tune of billions of liquidity that are being pumped into Irish banks – to no avail. The proposal is all about a more efficient mechanism of support from the EU’s centre AND a mutually agreed haircut by all the European banks holding Irish bonds. They, in exchange, get a long term guarantee from ECB that the liquidity flow will not suddenly cease. From Ireland’s perspective the haircut to which all European banks will subject its debt to them should help Ireland no end in itself. So, in short, the gist of the Grand Agreement is twofold: to use the existing ECB liquidity facility more efficiently AND to effect a net reduction in Ireland’s exposure to Europe’s banks. Longer term, our proposal is not about passing the bonds’ buck to the ECB. The equivalent of that would be if some fairy godmother were to assume responsibility of your mortgage loan, capital and interest payment. No, the proposal here is the equivalent of having your better off parents take a loan in their name, presumably at a lower interest rate (given their better credit worthiness), while you make the payments yourself. This pertains to Irish bonds equivalent to 60% of Ireland’s GDP – the Maastricht-legal level of indebtedness. The ECB issues its own bonds to the market (at an interest rate the fraction of what Ireland is paying) and Ireland pays back both the capital and the reduced interest rate. The idea here is to reduce the mountain of total EU debt by using the ECB’s broad shoulders to secure lower interest rates. It’s that simple and, in the end, no one loses!
Alan Freeman: That sounds very simple and reasonable. Would the ECB oppose this proposal?
Yanis Varoufakis: The ECB’s Board would not oppose it, with the exception of Axel Weber. However, the Germans (and thus Weber) are bound to resist anything that smacks of debt bundling. They are steadfast in their determination to keep debts unbundled and member-state-specific. My feeling is that they will keep resisting until the crisis reaches the point when the euro will be minutes from collapse. Until it becomes clear that Europe is about to topple over from the debt burdern even though the actual debt is not that great. What makes it unmanageable is the way it is divided between its member-states. That division causes the vicious circle (of member states’ public debts and of banks’ bad assets) which threatens the euro’s survivle. So, when the euro’s survival is imperilled, then and only then will Germany accept the idea, or something like it. And only then will the ECB come out publically in favour of it…