The European Union

Seeking haven

The revival of a vanishing financial breedthe ultra-safe European bond




Jul 11th 2020 | words 725

 

 

 

THE EURO ZONE has not been a hospitable place for investors seeking safety in recent years. The currency areas pool of super-safe, AAA-rated sovereign securities shrank by 40% between 2007 and 2018. Rating agencies downgraded some of its members during the debt crisis of 2010-12. Two of its remaining top-rated issuersGermany and the Netherlandshave energetically hacked away at their debt piles.

 

The pandemic might help alleviate the shortage. Germany, once fixated on its black zero, or balanced budget, will go deeply into the red. It may run a fiscal deficit of as much as 7.5% of GDP this year, reckons the Bundesbank. A raft of issuance may also come from an unusual source: the European Commission. If plans for it to finance the EUs recovery spending go ahead, it could become a big influence in global capital markets.

 

The commission already issues a modest amount of bonds on behalf of the European Union, which it mostly lends on to member states. Its debt stock amounts to 52bn ($59bn, or 0.4% of EU GDP in 2019). Plans to fund the recovery from the pandemic will take this much higher. From September it will raise 100bn, which it will in turn lend to countries in order to finance temporary-employment schemes.

 

The bigger prize, though, would be the recovery fund, which is soon to be debated by national leaders. This would raise 750bn on the markets in order to fund grants and loans to member states. Though it has the support of most countries, including that of Germany, a few northerners are yet to sign up to the idea (see Charlemagne). If it goes ahead, the commissions stock of debt would be smaller only than those of the unions four largest members, France, Germany, Italy and Spain.

 

Despite the uncertainty, the wave of issuance has piqued investors interest. Typical holders of the commissions bonds are European institutional investors, but Asian ones looking to diversify their portfolios away from dollar exposures hold some too. (Precisely how safe the bonds are deemed to be by the rating agencies, though, will depend on the small print on members guarantees, which is yet to be finalised.) Another buyer of commission debt, albeit bought from other traders rather than directly, could be the European Central Bank. A tenth of its purchases made through its quantitative-easing scheme are of supranational debt issued by European institutions.

 

Safe assets will continue to be in high demand after the pandemic, as economic uncertainty and an ageing population push up the saving rate, says Agns Belaisch of the Barings Investment Institute, the research arm of Barings, an investment firm. One sign of that, she points out, is investors keen interest in Austrias 100-year bond issued in June. The sale was more than ten times oversubscribed, and the bond now trades at a yield of 0.7%.

 

Could the commissions bonds one day act as a benchmark euro-denominated asset? The lack of one is often blamed for the single currencys failure to make much of a dent in the dollars status as an international reserve currency. A benchmark might also help better integrate banking systems across the EU. For years members have been unable to agree on a common deposit-insurance scheme because lenders tend to hold vast amounts of home-country debt. That exposes them to trouble in government-bond markets, as the disastrous events of the sovereign-debt crisis showed all too clearly. A common safe asset would help to break the loop.

 

For the bonds to become a benchmark asset, investors would need to trade them, rather than hold them to maturity, as many do now, says Lorenzo Bini Smaghi, the chairman of Socit Gnrale, a French bank, and a former member of the ECBs executive board. Enthusiasts point out that the scale of the issuance might mean more secondary trading. The commission also plans to issue bonds across a range of maturities up to 30 years, helping build a yield curve. But for the moment, it all depends on the politics. 









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Economist | Seeking haven

 

  

The European Union

Seeking haven

The revival of a vanishing financial breedthe ultra-safe European bond




Jul 11th 2020 | words 725

 

 

 

THE EURO ZONE has not been a hospitable place for investors seeking safety in recent years. The currency areas pool of super-safe, AAA-rated sovereign securities shrank by 40% between 2007 and 2018. Rating agencies downgraded some of its members during the debt crisis of 2010-12. Two of its remaining top-rated issuersGermany and the Netherlandshave energetically hacked away at their debt piles.

 

The pandemic might help alleviate the shortage. Germany, once fixated on its black zero, or balanced budget, will go deeply into the red. It may run a fiscal deficit of as much as 7.5% of GDP this year, reckons the Bundesbank. A raft of issuance may also come from an unusual source: the European Commission. If plans for it to finance the EUs recovery spending go ahead, it could become a big influence in global capital markets.

 

The commission already issues a modest amount of bonds on behalf of the European Union, which it mostly lends on to member states. Its debt stock amounts to 52bn ($59bn, or 0.4% of EU GDP in 2019). Plans to fund the recovery from the pandemic will take this much higher. From September it will raise 100bn, which it will in turn lend to countries in order to finance temporary-employment schemes.

 

The bigger prize, though, would be the recovery fund, which is soon to be debated by national leaders. This would raise 750bn on the markets in order to fund grants and loans to member states. Though it has the support of most countries, including that of Germany, a few northerners are yet to sign up to the idea (see Charlemagne). If it goes ahead, the commissions stock of debt would be smaller only than those of the unions four largest members, France, Germany, Italy and Spain.

 

Despite the uncertainty, the wave of issuance has piqued investors interest. Typical holders of the commissions bonds are European institutional investors, but Asian ones looking to diversify their portfolios away from dollar exposures hold some too. (Precisely how safe the bonds are deemed to be by the rating agencies, though, will depend on the small print on members guarantees, which is yet to be finalised.) Another buyer of commission debt, albeit bought from other traders rather than directly, could be the European Central Bank. A tenth of its purchases made through its quantitative-easing scheme are of supranational debt issued by European institutions.

 

Safe assets will continue to be in high demand after the pandemic, as economic uncertainty and an ageing population push up the saving rate, says Agns Belaisch of the Barings Investment Institute, the research arm of Barings, an investment firm. One sign of that, she points out, is investors keen interest in Austrias 100-year bond issued in June. The sale was more than ten times oversubscribed, and the bond now trades at a yield of 0.7%.

 

Could the commissions bonds one day act as a benchmark euro-denominated asset? The lack of one is often blamed for the single currencys failure to make much of a dent in the dollars status as an international reserve currency. A benchmark might also help better integrate banking systems across the EU. For years members have been unable to agree on a common deposit-insurance scheme because lenders tend to hold vast amounts of home-country debt. That exposes them to trouble in government-bond markets, as the disastrous events of the sovereign-debt crisis showed all too clearly. A common safe asset would help to break the loop.

 

For the bonds to become a benchmark asset, investors would need to trade them, rather than hold them to maturity, as many do now, says Lorenzo Bini Smaghi, the chairman of Socit Gnrale, a French bank, and a former member of the ECBs executive board. Enthusiasts point out that the scale of the issuance might mean more secondary trading. The commission also plans to issue bonds across a range of maturities up to 30 years, helping build a yield curve. But for the moment, it all depends on the politics. 









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