Recovery fund: Choice between solidarity and frugality
Sunday, 24 May 2020
At least two proposals will be on the table when the EU institutions start discussing next multi-annual financial framework, including a recovery fund to restart the EU economy after the coronavirus crisis.
The latest proposal was announced in a joint paper by Austria, Denmark, Sweden and the Netherlands yesterday (23 May), the “Frugal Four”, who continue to oppose EU issuing common debt to support the hardest hit countries in crisis. While being prepared to use €500 billion of the EU budget for a recovery fund, they reject allocating it as unconditional grants or loans.
The four countries have put in place different lockdown strategies to mitigate the spread of the coronavirus but are united on how EU should finance the recovery.
“We believe that there needs to be a discussion about how much of those 500 billion are grants and how much are loans,” Austrian Chancellor Sebastian Kurz said. “The most important issue is how we give this aid a clear and binding time limit, so that we don’t have a full debt union as the next step.”
The “frugal” EU member states used to include also Germany but in a surprising move last week, the German chancellor Angela Merkel, together with French President Emmanuel Macron, proposed the creation of a €500 billion recovery fund. The money would be raised collectively by the EU as a whole and distributed as grants to the Member States that would not have to repay it.
A third option was tabled on Friday (22 May) by Hungarian-American financier and philanthropist George Soros, 89. A Holocaust survivor, he has donated a large part of his wealth to different philanthropic causes and to supporting civil society and education in post-Soviet countries through his Open Society Foundations.
Soros proposes the issuance of perpetual bonds to fund the recovery of the EU economy. As its name suggests, the principal amount of a perpetual bond never has to be repaid; only the annual interest payments are due. Countries in war, the UK during the Napoleon war and the US during WWI, have used them in the past.
Known also as a “consol bond”, a perpetual bond is a fixed income security with no maturity date. Investors might find them risky because their money would be locked in a security which might lose value or pay less interest than alternative investments. The bond issuer might also run into financial troubles or even have to close down but this will hardly happen with the EU.
To issue perpetual bonds, the EU must maintain a AAA rating, otherwise the bonds would be unsaleable. That requires the EU to have what is called sufficient “own resources” – taxes that can be levied to cover the cost of servicing the bonds.
But Soros is convinced that the taxes only have to be authorized; they don’t need to be implemented. “Authorization should take a few weeks, not a few years. Once they are authorized, the EU could go ahead and issue perpetual bonds or consols. Perpetual bonds have a tremendous advantage over bonds that have a termination date.”
The consols would not need to be sold all at once, according to Soros. They could be issued in tranches and they would be snatched up by long-term investors like life insurance companies who are looking for long-term bonds to match their liabilities.
“Unfortunately, my suggestion for perpetual bonds has been confused with ‘corona bonds’ and this has poisoned the debate,” Soros says. “The two have nothing to do with each other. Corona bonds have been decisively rejected, and with good reason, given that they require a degree of mutualization that is simply not acceptable.”
He is aware of that what he calls the “Hanseatic League countries”, such as the Netherlands, want to keep their contribution to the European budget to a minimum. “However, they are now faced with a choice: they can continue opposing consols and accept a doubling of the budget or they can become enthusiastic supporters of consols and increase their contribution to the budget by 5%.”
Soros assumes that up to €1 trillion can be borrowed to an interest rate of 0.5 % or an annual cost of €5 billion. “Issuing bonds whose cost/benefit ratio is 1:200 opens up an amazing amount of fiscal space.”
He is worried about the future. “Exceptional circumstances require exceptional measures. Perpetual bonds or consols are such a measure. They should not even be considered in normal times. But if the EU is unable to consider it now, it may not be able to survive the challenges it currently confronts.”
“I think that George Soros’s suggestion that the EU issue perpetual bonds is a good one, since they would enable the EU to borrow collectively while only needing to repay the doubtless low interest that long-term investors would demand,” says political economist Philippe Legrain to The Brussels Times.
“Politically, though, the desirable option that has the greatest chances of being realised is some version of the Macron-Merkel plan,” Legrain added.
A Dutch EU official who has less faith in EU’s eternity commented that it would be better to increase the EU budget and let the Dutch borrow their own money on the basis of their own hard-earned reputation. “The Dutch will accept a further increase in the budget for which they already are the biggest net payer per capita.”