EU leaders will struggle to update fiscal rules – The Economist

Nov 8th 2021

by Tom Nuttall: Berlin bureau chief, The Economist, Berlin

EUROPE RESPONDED to its financial crisis of 2010-12 with endless missteps. The euro zone agreed on punishing austerity as the price for rescue packages, and the European Central Bank raised rates at the worst possible moment. The result was a double-dip recession, drastic cuts in investment and, in some countries, sky-high unemployment, especially among the young. This time the reaction has been smarter. When covid-19 struck, the ECB ramped up its bond-buying and the EU suspended its fiscal rules, allowing governments to spend freely on furlough and other schemes.

The coming year will test just how much has changed. The first part of 2022 will see a bruising battle between EU governments over the Stability and Growth Pact (SGP), the EUs fiscal rulebook. Even before covid-19 the constraints of the SGP, drawn up in the 1990s, looked a poor fit for a world of low interest rates and pressing investment needs. Endless amendments had left a legal tangle only experts could understand. Now countries like Italy are shouldering debt burdens close to 160% of GDP. The existing rules, due to snap back in 2023, would theoretically oblige Italy to run primary budget surpluses worth five percentage points a yeara punishing form of austerity that defies common sense.

But governments must find common ground, and SGP reform is divisive. Opening the EU treaties to amend the pacts benchmark figures, which aim to limit governments fiscal deficits and debt stocks to 3% and 60% of GDP respectively, is unlikely. Countries like Italy and France will urge tweaks that could, for instance, ease the adjustment path for indebted countriesperhaps by giving governments a say in defining it themselves. To help meet the EUs Fit for 55 climate goals, some governments will push for a golden rule to exclude green spending from the deficit calculation.

The unanimity needed to change the EUs tax rules has often proved elusive

The EUs sluggish legislative procedures will not kick into gear in time to change the rules for 2023. In the meantime governments will need a steer from Brussels on whether their proposed budgets for that year will pass muster. The commission in turn will need to know that northern governments will not cry foul if it agrees to wink at rule-flouters. But several have already signalled they will play hardball. Nor will Germanys new coalition be minded to align with Europes south.

The debate will run amid risks to the recovery, including continuing supply-chain disruptions, to which countries with large manufacturing sectors like Germany are vulnerable. Pandemic-related travel and contact restrictions could curb growth further. Meanwhile the ECB will wind down parts of its stimulus in 2022.

Next Generation EU (NGEU), the EUs 800bn ($930bn) debt-funded investment plan, will pick up part of the strain. In 2022 the commission will disburse around 55bn in grants, with especially large sums channelled to Italy and Spain. More will come in 2023 and 2024. To repay the debt, governments will consider increasing the EUs own resources (common taxes), perhaps via levies on imports from countries without carbon pricing, or amendments to the EUs own emissions-trading scheme. But the unanimity needed to make such changes has generally proved elusive. That debate will kick off in earnest in 2022.

So will another. Brussels has long struggled to respond to member governments it thinks subvert the EUs legal order, such as Hungary and Poland. In 2022 it will raise the stakes by delaying payments from the NGEU or even the EUs regular budget. That will irritate governments who see Brussels Eurocrats as bullies and worry leaders who fret about EU unitybut reassure taxpayers elsewhere that they are not paying to undermine the club from within.

Tom Nuttall: Berlin bureau chief, The Economist, Berlin

This article appeared in the Europe section of the print edition of The World Ahead 2022 under the headline Following the money

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EU leaders will struggle to update fiscal rules - The Economist