A European safe asset to complement national government bonds

This paper expands the growing literature on common safe assets in the context of the euro area financial system by employing credit risk simulation techniques to investigate the properties of different safe asset models and their impact on national bond markets. The paper explores in particular the E-bonds model, whereby a supranational institution would raise funds in the markets and provide bilateral senior loans to Member States corresponding to a fixed proportion of GDP, complementing the issuance of national government bonds, without risks of mutualisation. The main findings are that E-bonds could reach a volume of 15 to 30% of euro area GDP with a high degree of safety while becoming the reference safe asset for the banking sector, capital markets and monetary policy operations in the euro area. As regards the impact on remaining national bonds, such volumes would be consistent with Germany maintaining its top credit rating. The average funding costs of Member States would remain broadly stable, while marginal funding costs would tend to experience limited increases, which should enhance market discipline.