Reshaping European economic integration in the post-Covid world | VOX, CEPR Policy Portal – voxeu.org

The EU is navigating its third crisis in the space of a single decade, following the euro area financial crisis and the migration crisis. In some respects, the potential systemic implications of the Covid-19 pandemic are even more pervasive than those of the previous crises (Baldwin and Weder di Mauro 2020, Fuentes and Moder 2021). Jean Monnet famously stated that Europe will be forged in crises and it will be the sum of solutions adopted for those crises. But every crisis has its own characteristics, and prompts its own response. In certain cases, the response pushes forward the frontier of European integration that was the case of the completion of the Single Market after the Eurosclerosis of the 1970s or the creation of the euro after German reunification. In other cases, the response is only partially transformative, as was the case during the financial crisis that started in 2008.

Therefore, not all the responses to crises pass what, in a new CEPR Policy Insight (Buti and Papaconstantinou 2021), we call the triple Monnet Compatibility Test of economic coherence (effective policy action), institutional coherence (leveraging common governance mechanisms at the right level of government), and political coherence (maintaining citizens support).

This crisis is different, and the policy response, with the Next Generation EU initiative at its heart, is breaking new ground (Verwey et al. 2020) and leading to governance changes at national level (Buti and Polli 2021). This is true in terms of instruments (use of grants, new own resources, issuance of common debt); institutional mechanics (the return of the so-called Community method); as well as in terms of the sheer magnitude of the underlying fiscal effort and liquidity provision at both national and EU levels.1

The decisions taken by the EU do represent a significant stepping up and a break with past policy. What has underpinned this shift? We believe three broad factors have driven what we are observing.

The first is the evolution in our understanding of macroeconomic policy the new macro paradigm that has emerged since the global financial crisis, with a revised consensus on the appropriate overall macro policy stance, a new understanding on debt sustainability, the right mix of fiscal and monetary policy, and the role of central banks (Fornaro and Wolf 2020). With monetary policy at the effective lower bound, fiscal policy at national and EU level has to play a more important role in propping up the economy. This is key for domestic reasons, but also to make the European economy less dependent on external demand and hence able to play a more assertive role in global governance.

The second factor is the different nature of the current crisis exogenous, not policy induced, hence giving less rise to a moral hazard narrative. As a consequence, the focus of the policy response has been on a common threat requiring a common response. The asymmetric impact of the crisis has come to be seen as a threat to the whole EU. Hence, solidarity, or enlightened self-interest, has underpinned the policy decisions. Opinion polls show a large support for Next Generation EU not only in countries that are net beneficiaries, but also in Germany and the so-called frugal countries that only reluctantly contributed to the rescue programmes during the financial crisis.

The third factor is policy learning from the euro area financial crisis among others, the need for monetary policy to be forceful to stop self-fulfilling dynamics or the realisation of negative equilibria, the dangers of early withdrawal of fiscal stimulus, and the difficulty of achieving an appropriate euro area fiscal stance only via horizontal coordination of national policies (Buti 2020, Bartsch et al. 2021).

In sum, if properly implemented, the economic policy response to the pandemic has a chance to meet the three criteria of the Monnet Compatibility Test. Will it also represent a paradigm shift in European integration?

Looking forward, Covid-19 is forcing us to rethink attitudes and policies across a number of areas that will shape the legacy of the pandemic for European integration. As we argue in Buti and Papacostantinou (2021), some of the main issues standing out could be grouped under four headings: the new emerging boundaries between state and market; the notion of subsidiarity in the new environment; reconnecting the EU/domestic with the international/global agenda; and the need for EU economies and policymaking to deal with longer-term structural shifts taking place.

As the pandemic ripped through European societies, it brought with it a new realisation of the importance of well-functioning health systems as well as of the ability of national governments and the EU collective to protect Europeans. This simple realisation is concretely translated in policy shifts or ongoing discussions which may break new ground: a new emerging paradigm for fiscal balances and policy mix, a new social compact (with higher minimum wages, a universal basic income, more progressive tax systems), the debate on strategic autonomy in key sectors/products that would increase resilience at national and EU level (encapsulated in the shift from just in time to just in case). In these areas, what is underlying is a rethink of the balance between what is provided by states and what is determined mainly by market forces. This policy shift is evident across most EU nations, as well as in the UK and the US. Medium term, it will be crucial that the renewed emphasis on strong social protection does not hamper but actually enhances the reallocation of factors of production. Shifting from on-the-job protection to in-the-market protection will be a key challenge.

A related issue concerns the balance of what belongs to the domain of national policy in member states and what is a matter for the EU collective. This gives a new twist to the discussion on subsidiarity, as can already be seen by the decisions around the EU Recovery Plan or the proposals on a European health union. The pandemic revealed the need for coordination at EU level and forced cooperation in a number of areas, from travel rules to vaccine procurement. Post-crisis, there will be a review of what has worked and what not: on certain issues, coordination of national policies will suffice; on others, direct supply at EU level will be needed. As health is a global public good, there will be a need to elevate a number of issues surrounding the prevention and management of future pandemics to the to EU level. The same would apply also for pan-European infrastructure investment projects (Beetsma et al. 2020). At the same time, the pandemic has highlighted the importance of rebuilding a more dense society, achieving solidarity through a sense of belonging, and not just from the services delivered by the national welfare state. This would suggest moving policy delivery in the opposite direction, to the local level, closer to citizens. In Einaudis tradition of marrying economic freedom and social cohesion, in the post-Covid world, the role of communities and intermediate bodies will be enhanced (Einaudi 1949, Gigliobianco 2010).2

Covid-19 is also pushing the EU to reconnect the domestic with the global agenda. This is where the other dimension of strategic autonomy belongs the one dealing not with global supply chains but instead with new geo-economic relations. In a situation of geopolitical re-ordering, upgrading the global role of the EU will be essential in order to be able to influence the discussion on European and global public goods (not just health and pandemics, but also climate and digital governance), as well as avoid beggar-thy-neighbour policies in areas such as trade or finance. The domestic ramifications of a more assertive global role of the Union are substantial: the Single Market will need to provide more indigenous sources of growth and enhance the robustness of Europes value chains; macroeconomic policies will have to reduce the dependency from external demand, acknowledging that persistent current account surpluses are a source of vulnerability.

It is also in this context that one should reflect on the need to complete the EMU; while bringing to a conclusion the reforms that started with the euro crisis is important in and of itself in terms of better functioning of the EU and increasing its resilience to shocks, it is also essential for bolstering the international role of the euro, thereby increasing the weight of the European Union on the global economy. The issuance of common EU debt under Next Generation EU will also help increase the attractiveness of the euro.3

The final Covid policy legacy concerns the need to respond to longer term structural shifts (Terzi 2021). In the pandemic, everything digital thrived. At a first level, this clearly requires a European push to digital and indeed the EU Recovery Plan is supposed to help the EU "recover and transform" with the twin digital and green transitions. Indeed, as far as the latter is concerned, the pandemic may have demonstrated the devastating dangers of ignoring a slow burn crisis such as that of climate change. At the same time, the dominance of digital raises new policy issues regarding regulation and competition in digital platforms, as well as issues of protection of workers in a new online environment. The changes brought by Covid also force more broadly a rethink of the role and nature of work, the role and rights of remote workers and even the new meaning of essential workers.

The policy response to the current crisis has broken new ground. At the same time, the difficulties on vaccines delivery and uncertainties on the follow up at national level on Next Generation EU have shown that the latest advances will need to be consolidated. Whether the response to the pandemic marks a fundamental shift in the paradigm of European integration and hence or it remains an exceptional one-off under extreme duress will depend on addressing the four shaping factors highlighted above.

Authors note: Marco Buti writes in his personal capacity.

Andersson, M, C Checherita-Westphal, R Gomez-Salvador, L Henkel and M Mohr (2021), Economic developments in the euro area and the United States in 2020, ECB Economic Bulletin Issue 2/2021.

Baldwin, R and B Weder di Mauro (2020), Economics in the time of COVID-19, CEPR Press.

Bartsch, E, A Bnassy-Qur, G Corsetti, and X Debrun (2021), Its All in the Mix: How Monetary and Fiscal Policies Can Work or Fail Together, Geneva Report on the World Economy No. 23, ICMB and CEPR.

Beetsma, R, L Codogno, and P van den Noord (2020), Next Generation EU: Europe needs pan-European investment, VoxEU.org, 9 November.

Buti, M (2020), Economic Policy in the Rough: A European Journey, CEPR Policy Insight No. 98.

Buti, M and G Papacostantinou (2021), Reshaping economic policy in the EU in the post-Covid world, CEPR Policy Insight No. 109.

Buti, M and O Polli (2021), Veto Player Theory and the Governance of the Recovery and Resilience Facility", VoxEU.org, 11 February.

Collier, P (2018), The Future of Capitalism: Facing the New Anxieties, HaperCollins.

Einaudi, L (1949), Lezioni di politica sociale, Einaudi, 1977.

Fornaro, L and M Wolf (2020), Coronavirus and macroeconomic policy, VoxEU.org, 10 March.

Fuentes, N M and I Moder (2021), The scarring effects of COVID-19 on the global economy, VoxEU.org, 5 February.

Gigliobianco, A (2010), Luigi Einaudi: Economic Freedom and Social Cohesion, Serie Saggi e Ricerche Volume VI, Editori Laterza.

Rajan, R (2019), The Third Pillar: How Markets and the State Leave the Community Behind, Penguin Press.

Terzi, A (2021), The Roaring Twenties: Revisiting the evidence for Europe, VoxEU.org, 2 April.

Verwey, M, S Langedijk, and R Kuenzel (2020), Next Generation EU: A Recovery Plan for Europe, VoxEU.org, 9 June.

1 In terms of the magnitude of the effort and its adequacy to the task at hand, the recent debate has focused on comparing the EU response with that of the US. There are a number of elements to this: whether the US policy response is economically appropriate, its multipliers in the short and longer run, its external spillovers, and its implications for the fiscal-monetary policy mix (e.g. Andersson et al. 2021, ECB 2021). On all these issues, the jury is still out. What is quite certain is that doing too little is certainly more costly than doing too much; and that given its institutional setting, an incongruent policy mix would be much more costly for the EU than for the US.

2 The role of communities in breaking the rural-urban divide and the third pillar in finding a new balance between the market and the state are explored by Collier (2018) and Rajan (2019).

3The huge success of EU debt issuance under the programme SURE shows the large appetite in financial markets for common euro-denominated bonds.

View post:

Reshaping European economic integration in the post-Covid world | VOX, CEPR Policy Portal - voxeu.org