Question

What are the principal issues in the debate about fiscal co-ordination in Europe?

Answer 1

The debate on the fiscal strategy in Europe seems at times like a war of religions. This is unfortunate because the objective disagreements in substance are in our view less pronounced than is sometimes depicted.

There is widespread agreement that fiscal consolidation should be pursued in most European countries. This is the view of the IMF, the OECD and the Commission. Large improvements in fiscal positions are needed (and underway) to stabilise and reduce high levels of debt. Even vocal critics of the EU often admit that fiscal consolidation is unavoidable, in particular in countries where sustainability is at risk. It is important to underline this area of agreement. Once it is admitted that fiscal adjustment is due, the issue becomes not one of principle, but one of degree.

As long as the European Union is made up of independent nations with their own elected governments, their problems are going to be essentially local and they will need local solutions. Squeezing them into the same monetary straightjacket has clearly failed and adding a fiscal union would just exacerbate an already unsustainable situation. Governments need flexibility to deal with their own problems. Fiscal union would entail a ballooning of the EU budget – provoking endless bickering among the 27 (or more) member states on how to share it out, not to mention the expanded scope for graft and bureaucratic inefficiency. It’s a recipe for gridlock.

Fiscal union is another nail in the coffin of national independence. Setting budgets is a core responsibility of sovereign parliaments. Transferring that power to some distance, opaque Brussels institution would be deeply undemocratic. History tells us citizens will not accept taxation without representation. An unpopular fiscal union would hand piles of ammunition to anti-European political demagogues, undermining the foundations of the Union.

Fiscal union oozes moral hazard. Loose spenders will be given an everlasting bailout fed by virtuous nations, led by Germany. By necessity the fiscal union will become a transfer union that punishes budgetary righteousness. The safety net for sinners will lessen their incentive to tighten belts and push through reforms their economies need. Keeping high-debt countries afloat artificially will eventually drag everybody down.

On the other side,  The ongoing European debt crisis has provided daily evidence that monetary union cannot work without fiscal union. The Eurozone is clearly unable to manage its macro-economic imbalances without some sort of federal structure to oversee revenue collection and expenditure. Without it, the euro will always be vulnerable to asymmetric shocks. Combining supranational monetary policies with national fiscal policies is unsustainable. A fiscal union run by a fully empowered EU Finance Ministry under proper democratic oversight will give the Union strength and stability, mutualizing credit risk while imposing tough fiscal discipline.

In 1990, EU nations made up half the world’s 10 biggest economies. By 2050, Europeans will struggle to have two in the top flight. Closer economic union is the only way to halt Europe’s decline in the new global environment. The current half-baked arrangements just won’t do. Unless a strong fiscal element is adopted, predatory markets will be able to pick off the weakest members of the euro herd. Fiscal union would raise Europe’s market credibility and eurobonds would rival US treasuries.