Tag Archives: Economic Governance

Dissecting the New Franco-German Proposal for the Eurozone

The German chancellor Merkel and the French president Sarkozy met yesterday and produced this document outlining their new proposal for the reform of the eurozone economic governance. The main points are:

  • Regular meetings of the eurozone heads of state and government twice a year;
  • President of the eurozone coinciding with the president of the European Council;
  • Reinforcing the powers of the eurogroup of finance ministers (whatever that means);
  • All Member States of the euro area to incorporate a balanced budget fiscal rule into their national legislation by the summer of 2012;
  • All Member States of the euro area should confirm without delay their resolve to swiftly implement the European recommendations for fiscal consolidation and structural reforms;
  • Finalizing the negotiation on the Commission’s proposal on “a common consolidated corporate tax base” before the end of 2012;
  • Macro-economic conditionality of the Cohesion fund should be extended to the structural funds;
  • Joint Franco-German proposal on a Financial Transaction Tax by the end of September 2011.

So how to interpret this proposal? I will divide my analysis in two parts: 1. Efficiency to solve the urgent problems of the eurozone and 2. Long-term institutional considerations.

1. Efficiency to solve the urgent problems of the eurozone

This proposal will not solve the urgent problems of the eurozone. It is far from what is necessary to calm the markets and will not help neither the ECB, nor Italy and Spain. While Merkel and Sarkozy did touch upon the creation of a eurozone bond as a distant possibility, they did not make a positive step in this direction. This happens while many experts claim that only two options remain open – the creation of a eurozone bond or the breakup of the eurozone. I firmly believe that a eurozone breakup will be a huge blow to the whole world economy, and some research supports this view. That is why any further dodging of this issue will only add to the damage to the eurozone economy.

2. Long-term institutional considerations

Looking carefully at the Franco-German proposal, there is nothing really new that is being added to the Pact for the Euro. The common consolidated corporate tax base and the financial transaction tax (Tobin tax) are old ideas, and they are being drafted by the Commission. The “eurozone economic government” is nothing more than a high-level political meeting with unclear powers, but probably within the framework of the Euro Plus Pact. The “president” of the eurozone probably adds some weight to the position of the president of the European Council, but again his/her powers are not clearly defined and would probably only deal with coordination.

What is more troubling is the intrinsic logic of these proposals. They stay within the logic of intergovernmentalism, leaving all the important decisions to an intergovernmental body. This is a recipe for failure. It’s infuriating that after sixty years of supranational regulation we resort to an inefficient mechanism that remains prone to the joint-decision trap. We are curing the problem with more of the same, and this will lead to deepening of the problems. If we want to keep the eurozone intact we must give an independent body – the European Commission or another entity, the power to sanction Member States for their infringement of the budgetary discipline “golden rule”. Any other solution will not work precisely the way the current mechanism for ensuring budgetary stability in the eurozone does not work.

This intergovernmentalist trend must be stopped. Nobody believes that the Member States are able to control each other. If we want the integration process to continue, we need to take into account its inherent logic. Otherwise we will only breed hybrids that will live shortly and leave a mess behind.

The Pact for the Euro: a Summary

The heads of state and government of the еurozone Member States have adopted a new competitiveness pact, called “A Pact for the Euro”. The pact comes as a form of guarantee for Germany in order to increase the funds of the European Stability Mechanism (ESM). You can read more about my concerns about the legality of such a pact here. An early assessment of the Pact for the Euro is available here.

The guiding rules of the Pact for the Euro:

  • It will be complementary to the existing instruments of economic governance in the EU;
  • It will concentrate on actions where the competence lies with the Member States. In the chosen policy areas common objectives will be agreed upon at the Heads of State or Government level;
  • Each year, concrete national commitments will be undertaken by each Head of State or Government;
  • The implementation of commitments and progress towards the common policy objectives will be monitored politically by the Heads of State or Government of the Euro area and participating countries on a yearly basis.

The goals of the Pact for the Euro:

  • Fostering competitiveness;
  • Fostering employment;
  • Contributing further to the sustainability of public finances;
  • Reinforcing financial stability.

The main policy instruments:

  • Monitoring and adjusting unit labour costs (ULC);
  • Removing unjustified restrictions on professional services and the retail sector;
  • Improving education systems and promote R&D, innovation and infrastructure;
  • Removing red tape and improving the regulatory framework (e.g. bankruptcy laws, commercial code);
  • Labour market reforms to promote “flexicurity”;
  • Tax reforms, such as lowering taxes on labour;
  • Aligning the pension system to the national demographic situation;
  • Putting in place national legislation for banking resolution;
  • Developing a common corporate tax base.

 

 

Looking for the Philosopher’s Stone of Economic Governance Coordination

France and Germany proposed a new way forward for the coordination of economic governance in the European Union. The proposal may be ambitious in scope, but is minimal on detail – the leaked document contains one (1) page only. So how to interpret this?

First of all I am really surprised by the mentoring attitude of Merkel and Sarkozy at the European Council meeting. Wall Street Journal quotes Yves Leterme, the Belgian prime minister:

“There were 18, 19 countries who spoke up to make known their regret on the way it was presented and also on the content. It was truly a surreal summit.”

This misstep will obviously diminish the chance for quick success of the negotiations. Apart from the tactics, however, I am much more interested in the emerging legal obstacles to any compromise. The problem is that too much EU law stands in the way of the proposal in its present form.

The scope of the proposed measures is huge – raising retirement ages across the euro zone, abolishing indexation of wages to inflation, harmonizing corporate and other taxes and instituting a “debt brake” that limits the ability of governments to borrow to fund their spending. Nevertheless, France and Germany seem to believe that this can be done without a proper reform of the Treaties, in some sort of Schengen-like legal framework.

First it’s worth investigating whether the proposals can be introduced as an enhanced cooperation (art. 326 – art. 334 TFEU). Such cooperation must not undermine the internal market or economic, social and territorial cohesion. It must not constitute a barrier to or discrimination in trade between Member States or distort competition between them (art. 326 TFEU). These legal restrictions must be interpreted carefully, and a program to raise the competitiveness of certain Member States may well violate them. An enhanced cooperation also involves a proposal by the Commission and the consent of the European Parliament. It’s approved by the Council with a unanimous vote (art. 329, para. 2 TFEU).

But another way forward may be a Schengen-like legal framework, initially external to EU law. In this case, however, I believe that it must also comply with the criteria set for enhanced cooperation – i.e. it should not undermine the internal market or economic, social and territorial cohesion, and it should not distort competition between Member States. These criteria will be difficult to meet provided that the very purpose of the measures is to improve the competitiveness of the participating Member States. Additionally, it looks like France and Germany do rely on the Commission and the European Systemic Risk Board to perform some functions in this new framework. I can’t imagine how this can be done without someone (for example, the UK), raising the question of the funding of such initiatives by the EU budget. The European Parliament could also have some objections to this.

The most likely (and the slowest) option is Treaty revision. It is also the most legitimate way forward (and maybe the only legal one). True, it would lead to a lot of bargaining and time loss, but it would also bring stability and legal security to this new framework.

Having said this, it’s obvious that some measures must be taken. It’s just that proposing measures without thinking about their legal ramifications is not a good sign for their success. After all, we are talking about unprecedented levels of economic governance coordination. Trying to circumvent Treaty reform may not work simply due to the scale of the proposals.

 

 

To Amend or Not to Amend? That is the Question

Today EU leaders will discuss a very important proposal put forward by France and Germany. It’s all about fiscal supervision and bail-outs, and the question is whether an amendment of the Treaties is necessary or not. Germany insists that a credible system of fiscal monitoring needs a credible sanctioning mechanism in order to keep EU Member States’ spending in check. To do that, Germany proposes the introduction of new texts in the Treaties. In exchange Germany would support a permanent bail-out mechanism. But it turns out that many are opposed to this proposal.

A number of media (EUobserver, Euractiv, FT’s brusselsblog) report that a number of Member states are very critical of the proposal. Viviane Reding has called the plans “irresponsible” and has been immediately reprimanded by France’s State Secretary in charge of European affairs, Pierre Lellouche. But that’s another story.

The important debate here is not whether an amendment is achievable in the medium term (it will probably be put to referendum in Ireland and possibly the UK and Denmark). The conceptual shift in the coordination of economic governance is where interests of Member States diverge.

Germany wants to impose strict fiscal discipline on all eurozone members, including the possibility of removing a Member State’s voting rights. But many argue that such budget austerity may not be the solution to the problem. George Soros himself has compared the proposals to the 1930s, where some countries became overly focused on balancing budgets during a depression. Other go further and note that it is Greece, in fact, which is bailing out Germany – in the form of an annual trade deficit that has averaged 5 billion euros, stimulating German jobs but destroying them in Greece. That is why many economists advocate for measures to stimulate demand in trade surplus countries – Germany, Netherlands, Denmark, etc.

Axel Weber, president of the German national bank, disagrees. He says that the proposal of raising wages to support domestic demand and reduce competitiveness neglects that wages are not a political control variable. Moreover, according to him simulation studies show that the effects would be confined almost entirely to the home economy in the form of changes in employment.

So who’s got it right? I’m not sure, and I am (thankfully) not an economist. But the German position will not be easy to defend unless it addresses the concerns about German policies that stimulate the aggregation of a trade surplus.

The Debate on Economic Governance Intensifies in the EU

The Van Rompuy task force on economic governance has produced its report that will be discussed during the European Council meeting on 28 October. According to Mr. Van Rompuy this will be the biggest reform of the Economic and Monetary Union since the euro was created.

The most important provision is about creating a mechanism for macro-economic surveillance. The mechanism will serve as an early warning system for detecting substantial macroeconomic imbalances, including strong divergences in competitiveness. The mechanism will operate for eurozone member states.

The second reform concerns the corrective arm of the Stability and Growth Pact. The debt criterion will carry much more weight when deciding on the excessive deficit procedure. According to Euractiv the task force has also endorsed plans for an interest-bearing fine on countries with high debts. The task force has also endorsed the European Semester for the coordination of budget planning.

The new proposals may need the revision of the Treaties. Le Figaro reports that France and Germany have agreed on such a revision in 2013 (hat tip: OpenEurope).

In summary, the report of the task force will generally repeat the proposals of the Commission on European economic governance. The big question, however, remains – will these proposals suffice to reverse current macroeconomic imbalances in the eurozone and the EU in general. Economists remain sceptical, and if we do not manage those imbalances, all other political measures will have only incremental value.

Whither Independence of the Commission?

A new trend in the institutional dynamic of the European Commission is evident: its independence, enshrined in the Treaties (art. 17, para 3 TEU; art. 245 TFEU) is waning. The EUobserver reports:

“A group of EU commissioners from smaller Member States is growing increasingly angry with a number of their larger-state colleagues, perceiving their actions as being driven by national interests rather than the greater European good.”

This is a really worrying sign. True, the Commission has often been suspected in the past of succumbing to pressure from larger Member States. And the very procedure of election of commissioners is, after all, subject to compromise by the governments of the Member States themselves. But the independence of the Commission is not a joke, and the repercussions can be very harmful.

But why do we need an independent Commission in the first place? Well, the independence of the Commission is at the heart of the integration method (called, at least until now, the “Community method”). The independence of the Commission guarantees a more objective approach to the integration process that is removed from the political concerns of the separate Member States. That is why the Commission is entitled with exclusive right of legislative initiative. It also implements EU legislation at the Community level and monitors the implementation of EU law at national level by Member States. In other words, the independence of the Commission guarantees that Member States will not be able to bend the integration process in the direction of their own, singular interests.

Now, if some commissioners start to defend the singular interests of the Member States that they come from, we are in trouble. Once the suspicion spreads (as it is spreading right now), all Member States will try to project their interests to the Commission by pressuring their own commissioners. This will destroy the credibility of the Commission, and is also illegal.

In fact at least one author – Jean-Paul Jacqué, has warned that there is a danger of the Commission becoming an intergovernmental institution which is in competition with the Council. One of the checks against this danger has been the empowerment of the European Parliament, but it cannot be expected to mend the problem. The Commission President should work hard to dispel suspicions of wrongdoing, and if necessary – to request the resignations of certain commissioners. Member States should also refrain from unduly pressuring the Commission as in the case of the Roma expulsions from France.

The alleged breach of the principle of independence of the Commission is the most dangerous challenge to the European integration in recent times. Keeping in mind that the European Union is to get new powers of economic governance, such a suspicion can indeed derail the whole integration process once the really tough disputes start.

Legislative Proposals on EU Economic Governance

The European Commission has now formally proposed amendments to existing legislation and new legislation aimed at improving economic governance.

Here’s the list:

1.A Regulation amending the legislative underpinning of the preventive part of the Stability and Growth Pact (Regulation 1466/97);

2. A Regulation amending the legislative underpinning of the corrective part of the Stability and Growth Pact (Regulation 1467/97);

3. A Regulation on the effective enforcement of budgetary surveillance in the euro area;

4. A new Directive on requirements for the budgetary framework of the Member States;

5. A new Regulation on the prevention and correction of macroeconomic imbalances;

6. A Regulation on enforcement measures to correct excessive macroeconomic imbalances in the euro area.

The Missing Link in the Eurozone Governance Debate

The President of the European Council Herman Van Rompuy proposed a “crisis cabinet”. He said that “there is not much hierarchy or organic links between the main players and the main institutions”. The idea is to include the European Comission President Jose Manuel Barroso, the head of the European Central Bank Jean-Claude Trichet and Mr Van Rompuy himself in this “crisis cabinet”.

At the same time the President of the European Commission called Germany’s plans on improving economic governance in the eurozone as “naïve”. He believes that any treaty reform is not feasible in the moment.

To me it is apparent that the debate is triangular – among the Commission, the ECB, and the European Council, leaving one player out. The European Parliament, that is.

In a way this is understandable. Any further integration of economic governance will encroach on state sovereignty. That is why it is essential to have sound support in the Member States for any further reform.

Then again, the weak conditionality of the Stability and Growth pact, as negotiated by the Member States, failed to perform. Any coordination mechanism short of Treaty reform will probably go the same way. We can see this in the conceptual disputes between Germany and France during the years and even today.

True, the EP did have a debate on economic governance coordination last week. But did it really influence the debate in the EU? Did it reach the European citizens? I am not so sure.

The dark scenario is political divergence rather then convergence. This may well be happening, given some unilateral steps made by Germany. But it should not surprise us – governments do calculate their own tactical interest, betting against the other participants in the currency union. In fact, history is full of such examples where currency unions dissolute due to political disagreement.

The European leaders seem to believe that they can “fix” the eurozone on an intergovernmental level with the support of the ECB, preferably without introducing Treaty reform. It would be great, but it is not possible.

That is why it would be much, much better if the European Parliament had a stronger voice in the debate. It is in the moment the only institution that can provide a forum for open deliberation of diverging political ideas for reform.

On a bitterer note – Member States may well circumvent the public discussion, but they will not fool the markets.

The Commission Proposals for Coordination of Economic Governance

The Commission has issued a communication on reform of economic governance in the eurozone, called “Reinforcing economic policy coordination”. EUobserver reports that the proposals have drawn an immediate rebuke from Sweden.

Here’s a list of major proposals:

Improving the functioning of existing mechanisms under the Stability and Growth Pact

• Increase effectiveness of Stability and Convergence Programmes assessments through better ex-ante coordination, including competitiveness developments and underlying structural challenges. This will be done by a scoreboard with details on developments in current accounts, net foreign asset positions, productivity, unit labour costs, employment, and real effective exchange rates, as well as public debt and private sector credit and asset prices.

• National fiscal frameworks to better reflect the priorities of EU budgetary surveillance. This would include formulation of more timely country-specific recommendations, a system of early peer-review of national budgets, a horizontal assessment of the eurozone fiscal stance

Addressing high public debt and safeguarding long-term fiscal sustainability

• Give new prominence to the debt criterion of the Treaty. Conditionality would typically involve an appropriate mix of fiscal consolidation and the strengthening of fiscal governance including tax policies; financial sector stabilisation to the extent that financial sector distress is at the root of the public finances problems; and broader policy interventions to restore macroeconomic stability and external viability.

• Take better account of the interplay between debt and deficit

Better incentives and sanctions to comply with the rules of the Stability and Growth Pact

• Interest-bearing deposits in case of inadequate fiscal policies

• More rigorous and conditional use of EU expenditure to ensure better compliance with the rules of the Stability and Growth Pact

• Recurrent breaches of the Pact to be subjected to more speedy treatment and more rigorous use of the Cohesion Fund Regulation