A Eurobond medicine Ms Merkel could swallow Angela Merkel has doggedly resisted pressure to accept the jointly guaranteed eurozone bonds that many think essential to resolving the sovereign debt crisis. I have a compromise, which may just meet Germany's valid fears that their taxpayers will have to subsidise the profligate governments of southern Europe. I call it a euro insurance bond. Not only would it satisfy Germany's partners and the European Central Bank, it would end market panic. The idea is straightforward. Think of car insurance: just as bad drivers with accident records pay higher risk premiums, so countries with weak fundamentals would pay a higher interest rate on their euro insurance bond issue into a central insurance fund. For outside investors, however, all such bonds would trade at the same price. A similar scheme was proposed by Wim Boonstra of Rabobank more than 20 years ago. Insurance companies usually demand an "excess," with drivers covering the first part of accident costs themselves, to protect against moral hazard. In the same way, countries issuing euro insurance bonds would post collateral with a central insurance fund - a eurozone debt management agency - in the form of gold and foreign exchange reserves, in proportion to their euro insurance bond debt issue. While Greece, Ireland and Portugal remain under full bailout programmes, they would not come under the scheme. In the event of a future default or debt writedown, the build-up of payments in the insurance fund, plus the collateral, would be available to those countries underwriting the joint euro insurance bond issue. This would negate German fears of a "transfer union." In the unlikely event of such funds being insufficient, the cost over-run could be added to each country's share in the collective debt, in proportion to their gross domestic product. Germany would not be singled out for unfair burden-sharing. A crucial aspect in the design of these bonds concerns setting the risk premiums, which I believe should be based on a formula that weights observable economic fundamentals. Data since 2006 suggest there are three main drivers of the spreads between bond yields on sovereign debt for eurozone governments. The first is relative competitiveness, measured, for example, by unit labour costs. The growth prospects of Spain and Italy, and hence their ability to service debt, would be much improved with better competitive positions. A second is the current account deficit relative to GDP in recent years. A high deficit is a sign that a country is living beyond its means, typically associated with excessive rises in private as well as public debt, but it can also reflect a worsening competitive position. Countries such as Spain and Ireland ran big current account deficits before the global financial crisis. The third factor is the ratio of government deficit to GDP, or else its recent deterioration. Unfortunately, bond spreads have often also been driven up by panic about contagion and a spiralling banking and sovereign debt crisis. A sensible formula would eliminate these fears but still incentivise southern governments to reform labour markets, remove obstacles to productivity growth and improve tax collection and expenditure control. Every year the risk premium each government pays on its outstanding euro insurance bond would be set in relation to the previous year's risk indicators. Avoiding an excessive focus on government debt should encourage policies driven by long-run growth goals, not by austerity alone. The maturity profile of euro insurance bonds issued each year would be set by the eurozone debt management agency, guided by investor preferences revealed in the market. While setting up the debt management agency would take some months, a short-term solution in the form of a one-year euro insurance Treasury bill, with similar risk spreads and collateral requirements, could be managed by an existing institution such as the ECB, co-operating with the European Stability Mechanism. The euro insurance bond could be combined with the redemption fund proposed by Germany's Council of Economic Advisors. This focuses on transparency, tight supervision, rules and punishments, safeguards in each country's constitution and a timetable for debt reduction. Risk premiums to prevent moral hazard or the creation of a transfer union could easily be added to the redemption fund proposal. The word "Eurobond" currently closes rational discussion in Germany. The term "euro insurance bond" should not. The author is professor of economics at Oxford university