A New Approach to Eurozone Sovereign Debt – op-ed in Project Syndicate

My latest column for Project Syndicate is now out. Click here for the Project Syndicate page or read on:

ATHENS – Greece’s public debt has been put back on Europe’s agenda. Indeed, this was perhaps the Greek government’s main achievement during its agonizing five-month standoff with its creditors. After years of “extend and pretend,” today almost everyone agrees that debt restructuring is essential. Most important, this is true not just for Greece.
In February, I presented to the Eurogroup (which convenes the finance ministers of eurozone member states) a menu of options, including GDP-indexed bonds, which Charles Goodhart recently endorsed in the Financial Times, perpetual bonds to settle the legacy debt on the European Central Bank’s books, and so forth. One hopes that the ground is now better prepared for such proposals to take root, before Greece sinks further into the quicksand of insolvency.

But the more interesting question is what all of this means for the eurozone as a whole. The prescient calls from Joseph Stigltiz, Jeffrey Sachs, and many others for a different approach to sovereign debt in general need to be modified to fit the particular characteristics of the eurozone’s crisis.

The eurozone is unique among currency areas: Its central bank lacks a state to support its decisions, while its member states lack a central bank to support them in difficult times. Europe’s leaders have tried to fill this institutional lacuna with complex, non-credible rules that often fail to bind, and that, despite this failure, end up suffocating member states in need.
One such rule is the Maastricht Treaty’s cap on member states’ public debt at 60% of GDP. Another is the treaty’s “no bailout” clause. Most member states, including Germany, have violated the first rule, surreptitiously or not, while for several the second rule has been overwhelmed by expensive financing packages.

The problem with debt restructuring in the eurozone is that it is essential and, at the same time, inconsistent with the implicit constitution underpinning the monetary union. When economics clashes with an institution’s rules, policymakers must either find creative ways to amend the rules or watch their creation collapse.

Here, then, is an idea (part of A Modest Proposal for Resolving the Euro Crisis, co-authored by Stuart Holland, and James K. Galbraith) aimed at re-calibrating the rules, enhancing their spirit, and addressing the underlying economic problem.
In brief, the ECB could announce tomorrow morning that, henceforth, it will undertake a debt-conversion program for any member state that wishes to participate. The ECB will service (as opposed to purchase) a portion of every maturing government bond corresponding to the percentage of the member state’s public debt that is allowed by the Maastricht rules. Thus, in the case of member states with debt-to-GDP ratios of, say, 120% and 90%, the ECB would service, respectively, 50% and 66.7% of every maturing government bond.

To fund these redemptions on behalf of some member states, the ECB would issue bonds in its own name, guaranteed solely by the ECB, but repaid, in full, by the member state. Upon the issue of such an ECB bond, the ECB would simultaneously open a debit account for the member state on whose behalf it issued the bond. The member state would then be legally obliged to make deposits into that account to cover the ECB bonds’ coupons and principal. Moreover, the member state’s liability to the ECB would enjoy super-seniority status and be insured by the European Stability Mechanism against the risk of a hard default.

Such a debt-conversion program would offer five benefits. For starters, unlike the ECB’s current quantitative easing, it would involve no debt monetization. Thus, it would run no risk of inflating asset price bubbles.

Second, the program would cause a large drop in the eurozone’s aggregate interest payments. The Maastricht-compliant part of its members’ sovereign debt would be restructured with longer maturities (equal to the maturity of the ECB bonds) and at the ultra-low interest rates that only the ECB can fetch in international capital markets.

Third, Germany’s long-term interest rates would be unaffected, because Germany would neither be guaranteeing the debt-conversion scheme nor backing the ECB’s bond issues.

Fourth, the spirit of the Maastricht rule on public debt would be reinforced, and moral hazard would be reduced. After all, the program would boost significantly the interest-rate spread between Maastricht-compliant debt and the debt that remains in the member states’ hands (which they previously were not permitted to accumulate).

Finally, GDP-indexed bonds and other tools for dealing sensibly with unsustainable debt could be applied exclusively to member states’ debt not covered by the program and in line with international best practices for sovereign-debt management.

The obvious solution to the euro crisis would be a federal solution. But federation has been made less, not more, likely by a crisis that tragically set one proud nation against another. Indeed, any political union that the Eurogroup would endorse today would be disciplinarian and ineffective. Meanwhile, the debt restructuring for which the eurozone – not just Greece – is crying out is unlikely to be politically acceptable in the current climate.

But there are ways in which debt could be sensibly restructured without any cost to taxpayers and in a manner that brings Europeans closer together. One such step is the debt-conversion program proposed here. Taking it would help to heal Europe’s wounds and clear the ground for the debate that the European Union needs about the kind of political union that Europeans deserve.

Read more at http://www.project-syndicate.org/commentary/eurozone-sovereign-debt-solution-by-yanis-varoufakis-2015-08#8zYqbyJfQbxCwPMw.99

12 Comments

  • Reblogged this on DAMIJAN blog and commented:
    Dober predlog, kako prestrukturirati presežni dolg evrskih držav in zmanjšati stroške servisiranja obresti prek konverzije v ECB obveznice, brez da bi ta strošek padel na davkoplačevalce.

  • The PLAN A for a win win agreement between Greece and its creditors has failed once and for all…its time Greek people to consider geting out of the Eurozone and E.Union…a new greek government must come in power willing to announce from the United.Nations forum that its debt is illegal acording to the international law..and that it is going to stop repaying it…….the present government had and has no such a plan using international law in order to announce its debt’s illegallity and introduce a national currency, thats why it failed to be a reliable threat to its creditors….E.Union can’t change in favor of insolvent states…we can’t just wait until Germany adοpt a new Εurozone architecture. Simply Germany do not want implement rational proposals..but only control the insolvent states and manipulate them using the debts as a modern weapon…

  • After all that has happened during the last seven months, I don’t understand how you can still be so confident about this proposal, as to even bother publicizing it once again.
    I absolutely do not doubt the viability of this plan – I still think it would be a very sensible thing to do. But does anyone really have any illusions about the willingness of the key players (i.e. Germany and its associates) to even consider it?
    After all, I think they have proven without any doubt that sensible economics is not their strong suit, to put it mildly.

    On top of that, you yourself have repeatedly claimed that Ms Merkel would never let anything like the modest proposal – or even parts of it – come to pass for fear of losing political leverage on the members who are not so keen on austerity and who might even dare to disagree with the current way things are being run in the eurozone – especially France, Germany’s former long-time arch enemy. And the way the german government has been acting during these last months’ bouts of ‘negotiations’ shows every sign of your claim being true.

    But even if the more moderate European governments like e.g. Italy or, indeed, France would miraculously grow some balls and support such a plan – it would be walk in the park for Ms Merkel and Mr Schäuble to dismiss it as the completely unrealistic ramblings of socialist dreamers and sell it as the dawn of the dreaded ‘transfer-union’ to a german public that has been indoctrinated for years by neoliberal propaganda and economic nationalism and which is now desperately clinging to the deluded self-image of being the only people on the planet who know how to properly run a national economy.

    Not to mention the sad fact that your public image in the german media has become such a caricature that even mentioning your name in conjunction with any proposals for changing the sacred iron rulebook of this increasingly teutonic european union would probably suffice to render such proposals oficially and utterly ridiculous in the eyes of the average german ‘tax-payer’.

    I never thought I would say this, but I think the only way for Greece and the other european nations suffering under the yoke of this kind of organized ‘know-nothingism’ to free themselves from the destructive revival of german hubris and the assured self-destruction of the european project it will eventually bring about, is to implement this infamous plan B of yours and stick the finger to the Germans for real.

    • i totally agree with you…Germany does’t want to adopt rational proposals just doent care…it has its own agenda..Greece should have a reliabe plan B…to use the international law in favor of its interests… to regain the control of greek central bank..nationalizing the greek banks and start printing its own carrency witch must stay protected and stay away from the carrency markets during the first 2 years of its creation…and of course must exit from E.Union…becouse E.Union is just a misanthropic union…we mustnt afraid of closing of banks its allready happen…

    • Thanks for writing this. You put my own thoughts into words in a way I couldn’t articulate.

    • Sorry to state the obvious but for a Plan B to be successful it has to have a very large cost to Germany attached to it. The larger the better meaning more effective.

      Proposing it on an emotional basis and with a zero cost to germany is a German wet dream. You are basically doing Schauble’s work while pretending otherwise. Schauble wants a Grexit through a voluntary Greek initiative because that’s the biggest free ride germany has experienced in a while.

      I am not opposed to Grexit but only if and when makes germany to implode. Otherwise it’s an endless experience of horrors for Greece. Enough with let’s save the flawed currency of the euro on the backs of innocent Greek people.

    • @Dean,

      I must admit I feel kind of insulted by being accused of doing Schäuble’s work.

      Perhaps I got a little carried away there, hinting that Greece should finally make a Grexit and be done with the Germanic rule of self-serving idiocy once and for all. I know it would be even harder on the Greek people than the current situation, and although I am german I seem to get no satisfaction out of other people’s suffering.

      But I fear that Mr Schäuble will eventually see his heart’s desire fulfilled anyway, if the situation carries on like this and it is quite obvious that the current memorandum will make sure that it does. At best it will buy Greece some more ‘extend and pretend’ time. But due to the creditors’ demands, which are of the same ideologically informed inanity as all the preceding MoU’s – if not even worse – it would take a miracle or some hitherto unforseen deus ex-machina event for Greece to be able to use that time to turn things around.

      Mr Schäuble, who actually appears to be a lot more cunning than I used to give him credit for, seems to be playing a long con here. I think he knows full well that once this upcoming next round of crushing austerity comes to an end, and the Greek economy – as was to be expected – will once again not have recovered, he will have all the arguments he needs to blame the inevitable failure of this utterly defunct programme on Mr Tsipras and his ‘socialist delusions’ and on the greek people who voted him into office.

      And while all kinds of commentators, economists, and even the occasional conservative politician from all over the world might not share or even radically oppose the self-centered point of view of the glorious german leadership, one must understand that the giant Berlin bubble of self-righteous ignorance which has encloistered the german political elite, all of its advisors and most of the population, is made of some futuristic semi-permeable wonder of german engineering which only permits patronizing lectures, scolding accusations and general utterances of german grandeur to penetrate its hardened walls from the inside out.

      So my point is I don’t want a Grexit (or Portugexit, Spanexit, Italexit, or whatever exit). I would love the European Union to abandon its role as a callous bookkeeper for the capitalist elites, become a true union, for once stick to the principles of freedom, democracy and equal opportunities it pretends to uphold and make them universal for all the people of Europe and not just for those with the prettiest balance sheets.
      But I guess in the eyes of the glorious german leadership and its sycophant followers, this is nothing but a socialist’s pipe dream defying what they have decided to be reality and the Euro is the giant stick they hold to beat all the dreamers into submission and rid them of their ridiculous hopes of social justice and equality.

      So, sadly, I have come to think that the only way for Greece (or for any of the battered nations) to escape this kind of abuse is to give that “House of Cards”-quote you love to post here to the Germans and be done with their economic imperialism once and for all. Not because I think that the Greek people weren’t capable of making useful(!) reforms, but because it seems clear to me that the powers that be do not want them to succeed. And because I know for a fact that most of my esteemed fellow Germans have come to hate-love Greece as their favourite whipping boy, because giving him a good beating once in a while distracts them so wonderfully from their own sad existence as the miserable little cogwheels in their overlords’ money-making machines they have become. They will never vote for anybody who aims to take that away from them and so the german position towards Greece is not about to change any time soon.

      And while I understand your desire to make Grexit as hurtful for the Germans as possible, I don’t see how this would help the greek people if they have to pay for the privilege of revenge with the annihilation of their national economy by another three years of useless austerity.
      But rest assured, it may take some time but Germany will eventually have to pay for its stupidity, because if your business model consists of sustaining a trade surplus by creating even more of a trade surplus and giving loans to your customers in order to enable them to pay their debts back to you, it is clearly based on your belief in the feasibility of perpetual motion. And the laws of nature dictate that such a thing is impossible and that your model is doomed to failure.

    • @ Hubert:

      O.k. in such case then let’s have a Grexit with the full ECB support which minimizes negative effects on the Greek people.

      Focusing on Germany (as I tend to do due purely for reasons of releasing my cumulative frustrations for a job badly done) is a very small part of the overall problem.

      The bigger and more significant problem for Greece is that the two failed political parties of ND and Pasok have finally to meet their maker. For as long as these 2 irrational, 100% Germanophile, 100% pro-eurozone caricatures of political parties continue to exist, Greece can not move forward. Somehow a solution for Greece runs through the total destruction of these 2 incompetent domestic political parties.

      Any idea on how we could get rid of both of them?

    • Speaking of internal German politics I heard prior to the vote in the German Parliament that anything close to 100 votes against the Greek package would have been a disaster for Merkel.

      So now how de we interpret the 114 votes against? Greek tragedy?

    • @Dean,

      As to how you can get rid of Pasok And ND, I cannot help you at all. If I knew how to rid a parliament of the stupid, the spineless and the incompetent, I would probably be president of the german Bundestag by now.

      Speaking of which – While I am writing this I am listening to the latest recordings of endless drivel of teutonic ignorance that took place in that same institution earlier today. Just to get in the mood, you know.

      In order to grasp the seemingly erratic voting practice of the german parliamentary community over the latest installment of fiscal waterboarding for the hellenic republic and its citizens, one has to consider the reasons for the 113 members of parliament for voting against the package, which differ quite a lot depending on their party-membership.

      The left party – who consider themselves a sister Party to Syriza – either voted against, abstained, or did not participate in the voting, because they think the whole thing is a sham and its only purpose is to prolong Greece’s debt peonage, while further sabotaging any serious efforts of Mr Tsipras’ government to change things for the better by subjecting the country to another round of depressig austerity.
      Between those and one lonesome senior member of the greens – one of the few honest men to still remain associated to that bunch of hypocrites – they have 46 ‘no’ votes from the opposition.

      The most faithful to Mr Schäuble’s cause with the highest percentage of yes-votes within any of the represented parties were of course our very own special version of PASOK-like mollusks: the social democrats – who, ever since they were allowed back to sit under Ms Merkels table and once again serve as her obedient coalition partners/slaves, have done everything in their power to please her majesty whichever way she lets them. Although – lo and behold! – four of them actually had the guts to also vote ‘no’, including former finance minister Steinbrück who, by the way, was the one who handed over a modest little bailout package of just roughly 400 Billion Euros worth of government guarantees to german banks after the financial crisis hit the fan back in 2009 and their idiot CFO’s came to realize that buying colateralized debt obligations from american homeless people might not have been such a splendid business decision after all.

      That leaves 63 members of either Ms Merkel’s own Christian(!) Democrats or their smaller but even more reactionary bavarian version, the Christian(!) Social(!!) Union to defy the will of her grace and her master of coin and vote against the memorandum.
      But unlike the Left party, the one member of the Greens, the left wing of Syriza and our generous host, whose hospitality I am once again abusing by using his blog to vent my frustration over the whole shenanigans, those upstanding ladies and gentlemen didn’t disapprove of the package because they think it adds insult to injury for the Greek people or because they have realized that it makes no economic sense at all.

      They voted ‘no’ because they are all together chauvinist, racist morons who have finally come to believe in their own parties’ loathsome propaganda, according to which the Greeks are a nothing but a bunch of lazy moochers who constantly refuse to do their homework, or – actually – who refuse to do any kind of work at all and who are, obviously, somehow genetically incapable of running a sound economy and therefore can not be trusted with another loan of hard-earned german tax-payers’ money.

      However. As stupid as these people are, they are also highly skilled in the art of hypocrisy and empirical evidence shows that if there had ever been any doubt of the package passing the vote in the Bundestag because of their dissent, even they would not have dared to put their glorious leader’s political future at risk by voting ‘no’.
      After all, they serve only at her Majesty’s pleasure and deep down they know it.

    • @ Hubert:

      Wow! Excellent reporting from you regarding the finer details normally escaping the naked eye. Boy, did you get in the mood and then some! (y) Much appreciated.