Government Guarantees and the European Model of Financial Assistance to Member States

Through a new «law and finance» approach (they teach International Law and FinancialMathematics-Risk Management, respectively), the Authors analyse the guaranteesissued by the Member States of the Euro Area to the Esm fund in the framework ofthe European model of financial assistance to Member States. The A. point out theuncertainties of an evaluation of state guarantees due to technical and legal variables.As for the former, such guarantees are quite peculiar, i) because both parties are exposedto counterparty default risk and the risk of the guarantor could be higher thanthe one of the borrower, and ii) because of the structure of dependence that mightexists between the two risks. The A. compare numerical results on the value of a defaultableand correlated guarantee contract, for different values of the default intensitiesand using two different models, finding relevant differences and counter-intuitivedependence on the attainable correlation. As the level of default risk cannot providefor satisfactory diagnoses, it is hard to evaluate the state guarantees to the Esm, thelevel of dependence being an element of systemic nature, not directly observable. Asfor the legal variables, the aim of the financial aid on one side (a full fulfilment), andthe lack of tools for sanctioning properly a possible non-fulfilment by the beneficiaryon the other side, add further uncertainty.The A. deem crucial for facing such evaluation uncertainty the Ecb role of guarantor oflast resort: the credibility of the whole European financial assistance model lies bothon the number and range of tools available to the Ecb, and on the potentially unlimiteduse of some of them (Omt). Should the unlimited use of the Omt be questioned in thenear future, negative effects on the state guarantees to the Esm and on the Esm operationwould be hardly quantifiable.