Breaking the Shackles of Austerity?

Since the euro sovereign debt crisis erupted, Europe’s leaders have been struggling to find enduring solutions. Paradoxically, they have also pushed through extensive governance reforms and more are on the agenda, including the possibility of a fiscal union, albeit with no real consensus about what such a union would imply.

As the EU ponders its Multi-annual Financial Framework (MFF) for the period 2014–20, it is striking that there has been virtually no discussion of whether or how the EU budget could be used to help resolve the crisis. In particular, the scope for the EU’s finances to play a role in macroeconomic stabilisation – a role routinely undertaken by the highest level of government in other systems – is barely mentioned.

An argument for some form of central budget, whether it is used systematically for equalisation purposes or is confined to providing temporary relief, is that lower tiers of governments are less able to insure themselves against asymmetric shocks, whereas in a centralised tier of government, the risks are pooled across countries / regions of the whole economic territory.

The present EU budget cannot fulfil this role for the EU as a whole for three main reasons: it is too small relative to GDP, at 1%; its spending is inflexible; and the budget is required to balance. However, 1 % of aggregate EU GDP can be very large as a percentage of many individual Member State’s GDP, so that with the exception of the largest Member States, this means that a relatively moderate proportion of the EU budget could play a sizeable stabilising role.

Could a role in stabilisation be envisaged as part of a new budgetary deal, without requiring a substantial quasi-federal budget? Four main options suggest themselves:

  • A budget with more flexibility to vary spending in response to the economic cycle.
  • Using the limited EU resources to underwrite borrowing by Member States such that their ability to use fiscal policy for stabilisation purposes is enhanced.
  • Changes in the revenue raising capability of the EU.
  • A separate budgetary mechanism for the euro area (and, possibly, other Member States which choose to opt-in).

Manifestly, in a world in which juste retour logic is paramount, the political core of the budget negotiations is about what is spent in each Member State, but the formal treaty provisions do not appear to preclude a territorial rebalancing of  expenditure over time within a budget heading. A solution may therefore be to alter the timing of expenditure over the cycle in policy areas such as cohesion, whether by re-scheduling projects or altering co-financing rates. In this way, some stabilisation effects could be achieved at the level of the Member State.

In a period in which several Member States are likely to face an acute squeeze on public finances, the scope for leveraging the EU budget could be critical to underpin public investment. It would still be borrowing, but could be channelled through the European Investment Bank to secure more favourable terms. It is already done, albeit on a limited scale, for investment in research capacity.

Although attention has been focused on financial transaction taxes as a potential new EU funding instrument, an EU level corporate tax could have bigger and more effective anti-cyclical effects because of the well-known sensitivity of profits (the tax base) to the economic cycle. Introducing an EU corporate tax will not be easy politically, yet there is a convincing single market logic to having a single corporate tax regime. Such a tax would, assuming that currently prevailing rates are maintained, yield more revenue than is needed for the present EU budget. Most of the surplus would normally be distributed to Member States using a key such as nominal GNI. However a proportion of the excess could conceivably be held back for stabilisation purposes without compromising the EU’s need to balance the budget.

A separate euro area budget, as implied by the October 2012 European Council conclusions, would be a major development and would raise a number of tricky questions. Foremost is how it would be used. The conclusions explicitly refer to facilitating ‘adjustments to country-specific shocks by providing for some degree of absorption at the central level’. However, the text goes on to specify that any such fiscal risk sharing should ‘not lead to permanent transfers across countries’.

There have been various proposals over the years for temporary schemes that potentially boost fiscal capacity, including through unemployment insurance funds, whether for the euro area alone or the EU as a whole. The essence of such schemes is that they are triggered when a Member State exceeds a threshold which can be a level or a rate of change in the relevant variable. In good times, member States would pay in, but they would become eligible to draw from such funds in bad times – though only as temporary measure, not a permanent transfer.

No recasting of the EU budget will ever be easy. Yet when so many Member States are plainly at the limits of what they can borrow, it is worth examining whether an entity such as the EU can offer an alternative. This article suggests various ways in which the EU public finances could be adapted to facilitate macroeconomic stabilisation. The key is to recognise that what most affects the aggregate EU (or euro area) fiscal position is what happens in national budgets, not the net balance of the EU level in isolation.

This column is an abbreviated version of a paper by Iain Begg written for the Friedrich-Ebert-Stiftung

  • tommi konttinen

    ‘Why’ isn’t the Budget used to ‘resolve the crisis’? Well, at a rough gues I’d say that is because several of the largest contributors to the EU Budget are not in the crisis-laden EUro-zone and can see no good reason for throwing even more of their hard-earned monies after a very bad idea!

  • tommi konttinen

    “An argument for some form of central budget, whether it is used systematically for equalisation purposes or is confined to providing temporary relief, is that lower tiers of governments are less able to insure themselves against asymmetric shocks, whereas in a centralised tier of government, the risks are pooled across countries / regions of the whole economic territory.”——————————————————————————————— Why not just hold your hands up and let Berlin do all the math and that way the other 26 can sleep easy knowing ‘centralisation’ has triumphed! Of course, the factual reality that the 500+ million EU Citizens will not have been consulted and that the basic principle of Accountable Democracy will have irrevocably been side-lined will not really matter: Afterall, it is a very, very long time since anyone at EU-Brussels Commission or indeed National level actually thought to ask what their Citizen Tax-payers thought of their monies being filched from their national coffers to allegedly ‘stabilise’ a Currency-zone when the real purpose is to ‘save’ the egos of a whole tranche of ‘pro-EU’ Political elitists unable to face their immensely expensive fiscal project has failed!