“Carrot and stick” strategy to reform the economic governance of the European Union

After the Versailles Summit, which began discussions on the “new European growth model” and instead focused on responding to the war in Ukraine, the European Policy Center in Paris (cep) reformed the coalition’s economic governance. Regain ample budget for maneuverability in all Member States and fund the future of a more sovereign coalition in terms of growth, energy and defense.

This governance revision is underpinned by an institutional consensus that emphasizes the inefficiencies of European budget rules and a major macroeconomic development that has greatly disrupted the dynamics of public debt. To adapt this framework to today’s world and tomorrow’s challenges, we will not only maintain budget rules that are better suited to national circumstances, but also develop a new European budget “strike force” that will be conditionally provided to member states. need to do it.

Institutional consensus

Many voices, both inside and outside the Union, are calling for a change in the Union’s economic governance. In it, the European Finance Commission supports the amendment of the Stability and Growth Pact (SGP) budget rules and is considered unclear and inappropriate for the country’s circumstances and peculiarities. In addition, the IMF, the World Bank and the European Central Bank also believe that the SGP needs to be revised again, despite previous revisions in 2005, 2011, 2012 and 2015. In this regard, on October 19, 2021, the European Commission resumed consultations on a review of EU economic governance in February 2020.

Ineffective rules and macroeconomic development

This institutional consensus is mainly explained by the abolition of European budget rules and the radically changing macroeconomic environment.

Therefore, the current PSC rules are complex and ineffective. Despite the most needed structural reforms by member states after the 2008-2009 financial crisis and the 2010-2011 eurozone crisis, they are lowering the debt-to-GDP ratio throughout the coalition. I couldn’t. ..

In addition, these rules amplify the financial gap. These same differences are now increasing the risk of sovereign debt defaults in the most debt-ridden European countries, creating new tensions in the euro area. The ECB announced in June 2022 that it would reduce asset purchases in its asset purchase program to € 20 billion per month, but from today’s € 40 billion per month, it has stopped increasing net purchases under the pandemic emergency purchase program. increase. In March, these tensions will increase. Therefore, budgetary measures aimed at offsetting the negative impact of the war in Ukraine on commodity price levels carry the risk of putting certain countries in Southern Europe into a subtle situation.

In addition, the level of public investment has declined over the years due to budgetary constraints on member states that question coalition growth and economic sovereignty in the post-pandemic world.

Given this very complex situation, how can we reduce the debt-to-GDP ratio and at the same time boost the coalition’s economic growth? This seems to be possible only by pursuing a “carrot and stick” strategy.

Stick: Simple, enforceable and reliable budget rules

First, fiscal rules need to be maintained in order to launch a full-fledged program to reduce the debt-to-GDP ratio. The idea of ​​relying only on ex post facto “standards” (such as those promoted by Blanchard, Leandro, Zettermeier, etc.) guarantees fairness among member states, all of which have common rules, belonging to the same union. Therefore, it is not appropriate. Therefore, they must obey the same set of rules, guaranteeing a coalition of equality, not a coalition between privileged and unprivileged, and unsustainable in the long run.

Moreover, even if Member States do not always respect the SGP rules, empirical studies have shown that these rules actually curb public deficits and actually reduce the debt-to-GDP ratio, thus sustaining public finances. It shows that it promotes the possibility. “Market discipline” alone has proven to be unpredictable and unstable to help governments maintain discipline.

The rules themselves require some simplification. In particular, we need to rely on potential growth as the only future-looking factor for calculating national spending caps. This can be done on a multi-year basis for better predictability, applicability, and reliability for the purpose of transmitting signals. Medium-term budget discipline to the market. In addition, evaluation of budget status and exemptions should be outsourced to a network of independent national budget authorities coordinated by European regulators.

However, regardless of the change, given the macroeconomic background, SGP’s fiscal rules remain a “stick” focused on reducing the debt-to-GDP ratio.

Carrot: Permanent central investment capacity accessible under conditions

Instead, policy makers need to spend most of their energy designing “carrots.” This is a long-term investment tool that will help Union achieve carbon neutrality in 2050, preferably the expansion of its central financial capacity. If you are engaged in this transition and you are at high risk and not necessarily a very profitable investment, you need public support. In the war in Ukraine, this central budget capacity is also responsible for strengthening the defense of the Union, aiming for energy self-sufficiency. These public funds could have a leverage effect on private investment, as in the current Next Generation EU, or as in the Junker program a few years ago. Moreover, due to the conditional access to the achievement of these same reforms, they will motivate Member States to carry out the reforms.

However, this expanded and lasting central budget capacity should not lead to budget federalism in the US or Swiss model. The “Hamiltonian moment”, when all members of the Union decide to pool debt and budget resources, is still a long way off and is not even desirable as long as country preferences remain country-to-country. In the coalition. A functional solution is found between pure budget federalism and the imperfections of the current economic and monetary union.

Reform schedule

A recent statement by some finance ministers is ready for SGP reforms focused on nationalizing the pace of debt-to-GDP reduction, which is the first step for member states to reduce austerity. It suggests that you are.

However, regarding the recovery and sustainability of resilient facilities in the Next Generation EU program, or the establishment of new means focused solely on ecosystem and energy transitions, or the financing of projects that promote the Union’s strategic autonomy. , No official statement has been issued.

The war in Ukraine could be an opportunity to accelerate this aspect with the “REPower EU” plan currently under discussion. Finally, Putin, who wanted to avoid the true European Constitution of Power, would probably be the first craftsman.

Finally, the Commission’s official proposal for reform of the Union’s economic governance is expected in June 2022 for implementation in 2024.

Recent geopolitical events have increased the likelihood that this reform will be ambitious. The coalition has already shown that it can act swiftly and powerfully by imposing sanctions on Russia in the late February and early March days. Therefore, the upcoming difficult time will probably be the fermentation of the strong European budget and fiscal unions sought by Parisian stocks.

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This text summarizes the vine research conducted by the authors available for consultation.here