These days, writing about any economic issue other than infrastructure investment or housing seems almost frivolous. I'm going to try it anyway. The issue barely occupies space in the Spanish debate, but has sparked a heated discussion in France. In this pre-electoral period, I think it is worth discussing it here as well, in case any party considers incorporating a similar proposal into its program.
To understand the origin of this debate we have to go back a decade. After the financial and sovereign debt crises, and especially during the pandemic, euro central banks bought huge amounts of public debt. The objective was to make long-term credit cheaper and reduce the risk of deflation, a generalized fall in prices that tends to paralyze the economy. Each national central bank mainly bought bonds from its own government. For this reason, at the end of June, the Bank of France held some 488 billion euros in French public debt acquired through these programs: approximately one sixth of all the bonds and bills that the State has in circulation.
Jean-Luc Mélenchon, presidential candidate of La Francia Insumisa, has set his sights on these bonds. His proposal is to “freeze” the debt of the French State in the hands of the central bank, making it perpetual: the Treasury would never have to return the money borrowed or pay interest on it. Economically, freezing it is equivalent to canceling it. Its defenders assure that this would free up resources for other priorities.
The reasoning has an apparent logic. The Bank of France belongs entirely to the State, so that is a debt that France owes itself. Stopping paying it would not harm any saver or any pension fund. Furthermore, with less public debt, investors would supposedly demand lower interest from France for lending money; That is, your risk premium would be reduced.
The proposal has drawn criticism from economists such as Olivier Blanchard, former chief economist at the International Monetary Fund, and central bankers. Emmanuel Moulin, governor of the Bank of France, has described it as “illegal, dangerous and useless.” There are reasons for this.
The first is economic. If the Treasury stops paying interest on its bonds, the Bank of France stops collecting them and, with this, the benefits that, when there are any, the bank delivers to the Treasury itself are reduced. The second reason is legal: European treaties prohibit central banks from financing governments, precisely to avoid the temptation to pay for public spending by printing money. A cancellation aimed at relieving public accounts would conflict with this prohibition, contained in article 123 of the Treaty on the Functioning of the EU. The third looks at the markets: investors could interpret the measure as a default and fear being next. Instead of falling, the French risk premium could rise.
The hidden cost
There is, however, an even deeper problem. The Bank of France did not buy those bonds with money from heaven. It paid for them by creating new money, mainly in the form of bank reserves: the deposits that commercial banks keep with the central bank and on which the central bank pays them an interest set by monetary policy. For the central bank, these reserves are a debt to the banks. If the bonds are cancelled, the Bank of France loses what the Treasury owed it, but still owes the reserves with which it bought them. The Treasury's savings thus leave a hole in the accounts of its central bank.
And what does that hole matter? A central bank can continue functioning even if it accumulates losses and even if it owes more than it has. It is not an ordinary company. But that doesn't mean your losses don't matter. To cover the hole you need to make profits in the future. The bills cost you nothing, because they pay no interest; bank reserves, however, do. And when interest rates rise, that cost skyrockets: the Bank of France already suffered losses in its monetary operations in 2023 and closed 2024 with net losses.
If future profits were not enough to cover a loss of such magnitude, the hole would continue to grow. The State would then have two options: recapitalize its central bank, that is, return with public money what was saved with the cancellation, or maintain an increasingly weakened central bank. The second would not automatically trigger inflation, but would undermine the independence of the Bank of France. And, although the losses of a national central bank are not automatically distributed among the euro partners, breaking the common rules or calling into question monetary independence would affect the entire union, Spain included.
In economics, when something seems free it is advisable to look for who pays the bill. Mélenchon's proposal does not erase the costs of French debt: it shifts them to the central bank's balance sheet and threatens to add legal, financial and institutional costs. There is no magic. Just a bill that someone, sooner or later, will have to pay.
