European officials discussing ways to increase the effectiveness of their bailout fund are focusing on using the fund to provide collateral to back up bond issues by troubled countries, according to people familiar with the matter.
Lawyers for governments and the European institutions have warned that using the bailout fund to provide direct guarantees would violate the European Union’s no-bailout clause, pouring cold water on the widely discussed notion that simply issuing European Financial Stability Facility guarantees for first losses would expand the firepower of the bailout fund.
Instead, under versions of the insurance plan being discussed ahead of a critical weekend summit, countries would effectively borrow an additional amount from the EFSF when they need to tap markets for financing.
That extra amount would be kept aside as collateral to provide some compensation to creditors in the event of a default. That means, though, that governments wishing to use the scheme would need to borrow extra from the EFSF to raise funds in the markets.