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Guest blogger Wexboy kindly provides the European powers that be with a simple solution to the current Euro Crisis using their own Eurobond idea.

I’ve attempted with all my might to ignore all European news and hysteria in the past couple of years. It’s been a wonderful way of protecting me from insanity and saving time for me. And it looks like I've not missed much in the way of concrete political progress! But I can resist no more and how about providing a real solution?

Like Shania Twain I'm not easily impressed, and the old maxim that sovereign debt is superior to corporate debt didn't get me on-side. Whatever the argument, you can’t escape the fact that when it comes to the crunch, government can always rip up any contract they once wrote.

So any talk of in-country sovereign enhancement holds no water for me. And talk of, say, collateralization or sell-off of Aegean islands is just silly.

Is a Eurobond a European debt solution?

So, how should Europe bolster market confidence in its debt? There’s copious chat about the ECB & LTRO, but these represent liquidity, not long term support or sustainability.

We also have the ESFS, the European Fiscal Compact, plus a wild variety of other support/fiscal union ideas & proposals. (Of course, there's also default. Markets are far quicker than politicians to grasp that debt problems are sometimes insoluble.)

I don’t see great clarity regarding the level of market or political support these command, or their long term feasibility and/or consequences. I’m just going to concentrate on a Eurobond proposal here.

Who will guarantee the Eurobond?

So, who provides the guarantee? The ECB is a candidate, but that just implies absolute political control. Ultimately, the buck stops with the Eurozone countries, whether it’s funding or simply a guarantee. (If it's politically desirable or expedient to include non-Eurozone EU countries in any proposal/solution, that doesn't present a huge issue.)

I believe there’s a proposal that represents a happy medium: it will allow countries to retain fiscal sovereignty (not saying that’s a good idea, long-term!), enjoy the benevolent umbrella of a Eurozone guaranteed debt scheme, while ensuring (dis-)incentives to promote good fiscal behaviour.

It eliminates/sidesteps some key legal and/or logistical issues. It’s fast to implement, as it leverages off existing Eurozone financial infrastructure. Best of all, it offers better yields, time (the best remedy against default), and possibly an intriguing market opportunity to boot.

The Wexboy Solution, as it may henceforth be known

My solution is this: all countries sign a mutual pact to guarantee each other’s bonds up to, say, 75% of GDP. Each country is responsible for their share of the total guarantee, in accordance with their share of total GDP.

The percentage limit must be set at a level that’s effective, that rating agencies endorse, and that offers potential for significantly better (or, at worst, similar) yields. That’s obviously in AAA-rated territory – somewhere, I’d venture, in the 60-80% of GDP range. Of course, politicians will push for the highest level possible… Since we know the agencies respond well to incentives, they can just threaten them with a few (well-deserved) lawsuits to get them on board..! No point in trying the market’s patience though, so let’s assume they settle on a 75% of GDP limit.

If a country refuses to sign up, for whatever reason, they can (possibly retaining the right to sign up at a later date). But what real incentive is there to stay out in the cold? If they opt-in, they’re simply exchanging their sovereign liability for a Eurozone-wide liability, up to the same 75% of their GDP. I guess a low-debt country (who?!) might baulk, but would probably sign up ultimately for what is the perfect back-up facility.

Remembering Greece’s shenanigans, each country agrees to permit the ECB to independently audit its GDP – annually is perfectly adequate. A higher GDP offers a country additional Eurozone debt capacity, while a GDP decline places some restriction on future issuance. Of course, any GDP-related adjustments won’t affect previously guaranteed debt in any way. The ECB will also track & publicly confirm each country’s guaranteed debt issuance, remaining debt capacity and any changes in total capacity. If the ECB lacks resources, they can just tap some of the tens of thousands of employees the Eurozone central banks insisted on retaining (despite a common currency?!).

How to deal with default

The more important issue is what happens if a country fails to pay/defaults on a debt maturity? The other Eurozone countries will obviously be on the hook. But how likely is that?

Putting a limit at 75% of GDP, sovereigns can clearly service debt principal and interest. Also, each country will initially have ample guaranteed debt capacity for refinancing, and over time an increasing portion of debt will become guaranteed. Once they reach a steady state, maturing guaranteed debt will be pretty much automatically replaced with new guaranteed debt issuance.

Hence a Eurozone guarantee should hopefully prove academic, and the market will price accordingly. Worst case though, there’s still a small risk a country could stick it to its ‘partners’. But they have very different leverage to regular bondholders:

Under the mutual pact, a country’s non-payment/default entitles the other guarantor countries (as represented by the ECB) to implement a lock box arrangement on that country’s tax revenues to recover principal & interest. Failure to permit this triggers an escalating series of penalties & deadlines culminating in expulsion from the Eurozone (and potentially the EU).

Essentially, if a country choose to act like a pariah state, its Eurozone partners are probably the first (modern) creditors who can actually enforce that status..! What country would want to tread that path? EU politicians could also slack off a little on their obsession with deficit limits & penalties (which offenders don’t take seriously anyway). Just leave it to each country to observe the difference in guaranteed & unguaranteed yields..! I can’t think of a better incentive for politicians to finally show a little deficit & debt restraint.

Clearly I don’t see actual Eurozone bonds or funding – I prefer the described guarantee scheme (grafted on each country’s debt issuance programme). It will permit pact countries to adjust, or terminate, any aspect of the guarantee scheme at any time (except on existing guaranteed debt). It also offers the possibility of easier migration to a more integrated debt/fiscal union in due course.

If you want to know my ideas on how exactly countries will utilize this new debt capacity, then click on over to the Wexboy blog here.

Wexboy is an investment blogger focused on value investing, mostly in UK, Irish and US listed stocks. He's interested in individual companies and listed investment funds and trusts, risk arbitrage, event-driven and special situations, fixed income and even some natural resource stocks. He's been certified on SeekingAlpha.com and maintains a lively twitter feed, @wexboy_value.

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