Sustainable Prosperity for Europe

Economic governance


Unfinished business: the governance of the Economic and Monetary Union

18 September 2015
Fabian Zuleeg (Chief Executive and Chief Economist)



Compendium of EPC publications on the future of the Euro 

 “Hesitating and waiting creates a cost in terms of growth and jobs. We should avoid this. The proposed implementation calendar of the 5-presidents report – as a follow-up to my 4-presidents report – shows no urgency and is, I fear, not being taken seriously enough. We have to take urgent steps towards a Capital Markets Union, a commitment to structural reforms by all member states and later on, a real fiscal capacity. On top of more responsibility and more solidarity, we will also need more shared sovereignty.”

Herman Van Rompuy, President European Policy Centre
Inauguration Address, 10 September 2015

 

EMU-crisis as a stepping stone to further integration or as a trigger for further fragmentation?

Europe is once again engulfed in crisis. The sheer scale of refugees coming daily is not only a major challenge for the transit and destination countries, it is also exposing distrust between member states (and vis-à-vis the EU institutions). It has also shown that there is an unwillingness to cooperate and compromise within the EU system, in part a collateral damage of the eurocrisis. With a continuing sluggish economy and high unemployment, external challenges such as the conflict in Ukraine and internal ones like the referendum on EU membership in the UK, the EMU crisis looks less urgent at this point, with an agreement with Greece preventing the disastrous consequences of a Grexit, at least for now.

The crisis is not over

Time and time again, this has been the pattern of this crisis. Driven by domestic political considerations, actions would only be taken when ‘there is no alternative’, i.e. in the midst of acute crisis. In times of a relative lull, the drive towards improved governance always lost urgency. This lack of urgency could clearly be seen in the publication of the Five Presidents Report: despite suggesting an unambitious implementation timetable, the reception by Eurozone members has been lukewarm at best.

Without further governance reform, the crisis will re-enter a hot phase in the near future, most likely in an even more unmanageable form, potentially mixed up with the other crises Europe is facing. This summer’s Greek crisis highlighted sharply the tricky political economy of the Eurozone: economic interdependence and imbalances requiring simultaneously a need for reform and support, driven at EU level, while the political consequences of actions are still domestic. Questions around sovereignty and democratic legitimacy were posed but ultimately not answered, in part because in the current governance framework they are unanswerable. After all, both the Greek Government and the creditors could refer to the democratic legitimisation of their actions coming from the domestic level.

Unless one believes that EMU can be unravelled without significant damage to the economic and political substance of the EU, the ultimate answer would be a genuine Economic and Monetary Union, underpinned by EU-level democratic legitimacy. But this is far-off for now. The mood is for less Europe, not more Europe and a European demos is not apparent. Realistically, while not the ideal answer, ‘ambitious muddling through’ is the way forward for now. Making small steps now can rebuild trust and become the seed for further governance reform in future, as well as putting the mechanisms in place that will be needed when the next crisis hits. See EPC article ‘Europe’s ambitious muddling through’

The case of Greece

Clearly, further attention will need to be given to Greece. It is a special case, with the crisis deeper and more intractable than in other Eurozone countries, intermixed with a challenging domestic political environment that makes implementation of any reform plans doubtful. But this time, Greece will have to deliver. Whatever party comes out in front, the new government must implement reforms. The 3rd package of support will be the last – domestic politics in the creditor countries will not allow for further such deals. Greece must take this opportunity, otherwise the Eurozone will accept Grexit as the lesser evil.  

But the rest of the Eurozone can, and should, help Greece to deliver. Structural reforms, especially those that are growth-enhancing, can often have negative fiscal consequences in the short term. Change is costly and the EU should provide more funding - flexibly and unbureaucratically - to facilitate such reforms.

Whatever reforms are implemented, without growth, debt and deficits will become more and more unmanageable. While some elements have been implemented, there needs to be further action[1]; the need for a comprehensive ‘New Deal’ remains as strong as it was 4½ years ago. See EPC Commentary A New Deal to help save the euro

Beyond Greece: a new governance?

The need for EMU governance reform is broader than the case of Greece. The (quicker) implementation of the Four Presidents Report and the Five Presidents Report needs to be at the top of the agenda. EMU must improve both its mechanisms to prevent future crises and the capacity to deal with a crisis when it emerges. See EPC Policy Brief Pathways to achieve a genuine Fiscal Union

The construction of a fiscal capacity should be made a priority to resolve the absence of a mechanism to provide effective ex ante fiscal risk sharing in the Eurozone. The EU should also develop a new framework to assess the real returns of growth of public and social investment, which could open the path for more flexibility on deficits in future. There is also a need to critically assess how the new governance mechanisms are working, including reviewing the Country-specific Recommendations with a stronger focus on a smaller number of key priorities for each country. See EPC Discussion Paper Policy recommendations for the new European Commission: priorities for stabilising EMU

The political economy of EMU

At the heart of the impasse on the further development of EMU lies a political economy problem: while creditors might be willing to provide further support, they fear that reforms are not implemented, resulting in a need for ongoing transfers. As a consequence, these countries insist on mechanisms to monitor and enforce reforms. For those needing support, the price of giving up sovereignty is often only considered in extremis and the temptation to backslide on reforms is ever present, mixed up with the often limited institutional capacity to deliver. It is time to look again at possible solutions to this impasse. A fiscal capacity, combined with contractual arrangements, could be a way of rewarding progress. This could even be tied to debt relief, with a write-off of debt linked to delivery of investment and reform.  

There is also a need to depoliticise the more technical aspects of economic governance. Increasingly, the Commission is seen as a political actor, which clashes with its role to provide independent assessment and enforcement of policies, including in the fiscal policy field. There is a need to re-think what role the Commission will take in future governance and whether some new institutional arrangements are needed to ensure that member states find it easier to accept EU-level recommendations and decisions:  See EPC Discussion Paper Can the Eurozone’s economic governance combine political accountability, legitimacy and effectiveness?

What ultimate destination?

Making these changes to EMU governance will not solve all the underlying flaws but it will provide for a more robust architecture, which will be better able to weather the next storm when it comes. Rather than blaming each other for the lack of progress, at EU level there is a need to work out possible deals that are acceptable for all member states. Pragmatic but ambitious muddling through is not the ultimate answer but, for now, it is better than the alternatives.      



[1]     Such as the Juncker Investment Plan: see EPC Discussion Paper Growth for Europe – Is the Juncker Plan the answer?

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