Stop Coddling Europe's Banks

Morris Goldstein of the Peterson Institute for International Economics explains five main defects in the EU's efforts to resolve its banking crisis: Stop Coddling Europe's Banks.

• Incentives for deleveraging;
• Absence of firm guidelines on dividends and executive compensation;
• Omissions of a recession scenario and of an unweighted leverage ratio from the stress tests;
• Inequitable burden-sharing during debt restructuring; and
• Insufficient measures to permit an escape from the adverse feedback loop between sovereign debt and bank debt.

He endorses an approach suggested by Markus Brunnermeier et al. Create a European Debt Agency to repackage euro-zone sovereign debt into senior and junior classes. See their Vox column: ESBies: A realistic reform of Europe's financial architecture. (The full paper is here; this Q&A is good too.)

Our proposal...has all the advantages of euro bonds (financial stabilisation of the Eurozone), without its drawbacks (political constraints). ESBies are politically feasible because they involve no joint liability of member states. They imply no change in European treaties. Yet they will generate a very large pool of homogenous, safe assets that can serve as investment vehicles for global investors and reliable collateral for European banks.

I'd call them ESBs rather than ESBies. Whatever you call them, Goldstein's right that the idea deserves closer attention.