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The Quest for a Safe Sovereign Asset for the Eurozone

Governance
Government
Institutions
Political Economy
Euro
Eurozone
Ad van Riet
United Nations University
Ad van Riet
United Nations University

Abstract

The Economic and Monetary Union (EMU) has seen a decade-long quest for a safe sovereign asset for the eurozone to solve the safety trilemma, i.e. the crisis lesson that a national sovereign debt instrument functioning as the cornerstone of the financial system is incompatible with free capital mobility and a stable economy, because it does not ensure sustainable financial integration. Since a euro area treasury that issues genuine eurobonds is missing, the literature has identified three basic options for common public debt issuance while enhancing the credit quality. First, euro area countries could establish a European Public Debt Agency with the task to build a maximised or low-risk portfolio of national government debt as the basis for issuing a single sovereign asset. Second, they could further protect the value of the portfolio by making participation conditional on strict compliance with common fiscal rules, strengthening market-based fiscal discipline and issuing state-contingent debt to private investors. Third, they could underpin the safety of the single sovereign asset with a joint credit guarantee or credit enhancement and/or by tranching it into a senior claim that relies on the junior claim(s) to carry all credit losses that affect the underlying portfolio. Euro area leaders must find a politically acceptable way forward to provide the common public good of a safe sovereign asset for the eurozone that limits their exposure to public risk while accepting some form of public risk sharing.