The credibility of the European Union’s debt is suffering from growing doubts and rising interest rates. While yields have risen across the 27-nation union, bonds issued jointly now trade above those of France, rather than roughly in parallel.

To narrow the gap, the EU needs to change investors’ mindsets and make good on some promises to raise revenue.

Compared to initial projections, the EU’s borrowing costs will increase by tens of billions of euros. EU borrowing costs have increased from 0.14% in 2021 to 2.6% in the second half of 2022, and further increases are expected.

With €381 billion of bonds outstanding (as of the endof April) and more to come, the additional costs add up.

Some of this is the inevitable consequence of generally rising interest rates. Still, on Tuesday, two-year EU bond yields were 3.02% versus 2.79% for France and 2.94% for Spain, and five-year EU bonds were 2.87% versus 2.63% for France.

Although the EU is rated AAA by Fitch and Moody’s and AA -plus by S&P, better than France’s Aa2 by Moody’s, AA -minus by Fitch and AA by S&P, the EU has to pay more because markets do not accept Brussels as a sovereign debtor.

EU debt is traded as a supranational institution, not as a country. Therefore, it is not included in sovereign bond indices or portfolio structures.

If it were included, asset managers would tend to sell France and buy the EU to earn additional yields on similarly rated government bonds. At the moment, however, they mostly do not.

This puts the European Commission in a quandary. Its technical campaign to change categories has not worked, despite the support of the European Central Bank, which last year added EU debt to the top category of monetary policy collateral.

Market participants such as LBBW Chief Economist Moritz Kraemer believe the euro area has not demonstrated its political will to stick together.

Critics point to the temporary nature of the pandemic loan programme and the near collapse of the single currency during the 2010-2015 crisis.

This creates a situation where market participants are already pricing in a future liquidity shortage, even though there are plenty of well-managed bonds to trade.

Such a supply shortage is not expected for other safe assets in reserve currencies, such as U.S. Treasury bonds or Japanese debt.

In addition, the EU has cornered itself with promises to pay off its obligations through new revenue sources that are not yet available, such as the digital and carbon taxes.

This looks bad. Financially, the overall EU budget will be able to handle the increase in debt costs with existing measures.

But for policymakers to embrace shared debt and move forward with the euro as a reserve currency, Brussels must convince member states to generate the promised new revenues.

If they fail to do so, pan-European bonds could end up like the unfinished EU banking union: another reminder that euro countries are not yet fully convinced about the single currency.