03 July 2013

Graham Bishop: Temporary Eurobill Fund (TEF) – Summary of the Proposal and some Implications

In a press release on 2nd July 2013, President Barroso, in agreement with Vice-President Rehn, set up the European Commission's Expert Group looking into the merits and risks, legal requirements and financial consequences of initiatives for the joint issuance of debt in the form of a redemption fund and eurobills. He selected Graham Bishop to be a member of the group. This reflected his work over the past two years in developing a plan for a Temporary Eurobill Fund (TEF)[1].

The Temporary Eurobill Fund is a time-limited plan carefully structured to avoid opening its members to the virtually unlimited liability of guaranteeing all the debts of other members – as would happen in a mutualised pool of debt with 'joint & several' guarantees. The guarantees would be 'pro rata' – as with the existing ECB/ESM structure.  It is not a magic solution to the crisis but is a relatively modest and experimental step towards building trust and support amongst euro area states.

The TEF is entirely complementary to the ESM/OMTs but it is a reward for stability, rather than the ESM’s penalty for instability. Only euro area states not in a Programme or subject to sanctions for failure to comply with Eurogroup economic policy recommendations would be eligible borrowers from the TEF. It does not require a change to the European Treaties and could operate within a year.

There must be ex ante controls – especially on debt issuance by participants - so that all members understand their potential liability. The controls would limit any shortening of debt maturity. The Fund’s exposure to a State would be capped at [20-30%] of the State’s 'gross government debt’ – giving a theoretical maximum size of around €2.5 trillion if all eligible states took full advantage of the permitted re-financing possibilities but its likely size would be perhaps €1.6 trillion. Participants’ overall risk exposure should normally be no greater than at present.

Participating states MUST refinance ALL existing debt of less than two years maturity as it falls due. The TEF would issue a mixture of maturities to match exactly the borrowing needs of the participants but the maximum maturity would be two years. The short-term nature of the debt would maintain a powerful discipline on participating states as any sustained breach of conditionality would eventually lead to exclusion from the Fund. Strong market discipline would still apply to all securities longer than two years. The exposure of other states would last two years, at  most. The Fund would wind up after [five] years – coinciding with the scheduled review of the Treaty on Stability Coordination and Growth (often called the Fiscal Compact).

Other advantages of such a plan include:

• The process is completely simple and entirely transparent.

• TEF bills are a safe and liquid asset to reduce the bank/sovereign nexus. They would be seen by the banking sector as exceptionally safe assets to hold, and would be the most liquid in the euro area. The resultant boost to confidence would be growth enhancing.

• A financial bridge to medium-term stability – for all euro area states. The TEF would give a credible financial bridge from the current crisis to beyond 2015, when euro area members are already committed by their Medium Term Objectives (MTOs) to achieve balanced budgets.

• Easing the exit from a 'programme': States emerging from a Programme (Ireland/Portugal) would be supported by the euro area at all parts of the yield curve given the recent extension of maturities. In return, they must observe the Country-Specific Recommendations (which are just an envelope of the same policies as in a Programme but without the detail/monitoring). This support would open the way to a steady re-entry into financial markets so that bond market discipline would operate progressively.

• A public sector alternative to the bank-based payment system: An individual/company with an account at the TEF could make payments to anyone else with a TEF account.  

• An alternative to a single deposit guarantee system is to provide a 'European governments' guaranteed financial asset that fulfils the functions of a deposit for citizens.

• A modest 'fiscal capacity' for the euro area: With collective agreement, a state could extend its short-term debt and finance it from the TEF.

• Foundation of a European Treasury: Debt managers might be well disposed towards the idea of a collective system to sell bills directly to the public. This would create cheaper funding for them and clearly create the basis of a possible European Treasury.

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[1] See detailed TEF paper - link

© Graham Bishop