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The EU Budget Debate

Interviewee: Sebastian Mallaby, Director of the Maurice R. Greenberg Center for Geoeconomic Studies and Paul A. Volcker Senior Fellow for International Economics
Interviewer: Christopher Alessi, Online Editor/Writer, CFR.org
November 20, 2012

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EU leaders are set to meet at the European Council summit in Brussels on November 22 to hash out a multinannual financial framework, which will determine the EU's joint budget for 2014-2020. The meeting comes as European leaders are trying to formulate effective short- and long-term policies to combat the ongoing eurozone debt crisis, even as the economic outlook (WSJ) for the region worsens. The two "elephants in the room" at the budget summit, says CFR's Sebastian Mallaby, are questions of how to continue financing indebted Greece, and constructing a sturdier European architecture to prevent future crises. Moreover, funds from the EU budget, which amount to just 1 percent of EU GDP, cannot significantly aid indebted eurozone states, argues Mallaby. "It's a very small budget, and there's been a vicious fight about agreeing it," he says. "The contention around that 1 percent budget is indicative of the general problem in Europe of how hard it is to get countries to agree on a common economic policy."

What's at stake in the European Council leaders' summit this week in Brussels?

The European leadership going to the summit has two big issues on its plate. One is the immediate question of how to deal with Greece, and the other is the more structural one of how to build an architecture for Europe that will prove more resilient in the long term. On Greece, the issue is that the Greeks have gotten in a position where they need more money to get through the next few months.The budget is in a deeper deficit than projected, therefore they need more help from their outside partners to crack a hole in the deficit in order to avoid being in a position where they can't pay the government's bills, and they have to start printing their own drachma-like currency to pay those bills, at which point they would be exiting the euro. To avoid that calamity, they're going to need some help from the outside, and there's been a fight going on between different members of the troika [the EU, ECB, and the IMF, Greece's international creditors] as to how to deliver that help.

On the question of architecture for the future of Europe, the euro optimists point to the extent to which the glass is half full--and it's true that [eurozone leaders] have already created a bailout fund paid in capital, which has passed muster at the constitutional court and which didn't exist before. Where on the other two main pillars of the future architecture, namely union around budget issues and then union around banking issues, there's a lot further to go. On the budget union, there's agreement on fiscal rules that the member countries need to abide by, but those rules have yet to be tested, and there are no forms of transfer between one country to another in the event that you need to stabilize member countries that fall into recession. On the banking union, that's the thing which is possibly the most important and the least developed. There's an agreement, at least in principle, to get a road map for banking union agreed by the end of 2012 and implemented by the end of 2013, but most of the details have yet to be agreed upon, and there's high potential for that deadline to slip.

These issues [separate from the multinannual financial framework] are the elephants in the room, and whether they get addressed in a public way probably depends on whether [EU leaders] reach a consensus on them. But the European Union budget is something like 1 percent of EU GDP. It's a very small budget, and there's been a vicious fight about agreeing to it, with the Brits playing their usual hardball, and the contention around that 1 percent budget is indicative of the general problem in Europe of how hard it is to get countries to agree on a common economic policy.

What kind of role can the budget—in terms of structural funds, for example—play in alleviating the eurozone crisis and spurring growth?

Very little, if at all, because 1 percent of GDP is just too little to do much of anything. The 1 percent has no necessary effect one way or another on the eurozone's economic performance. If member states pay 1 percent of EU GDP to the center, and the center then spends that, a certain amount of spending in the system is unchanged unless the member states issue debt to make that payment to the central budget, in which case you'd have a stimulus. And even if you did issue debt to pay the stimulus in 1 percent of the region's GDP, it's not very big compared to let's say the fiscal cliff in the United States, which is 4 percent of U.S. GDP.

If you look at the EU budget in a different way, which is to say not how much total stimulus to get for the total EU, but can you transfer money from rich countries to poorer countries, and help alleviate the pain in poor countries, again, the thing is just too small to matter. If you've got a country like Spain, with a budget deficit of around 7 percent of GDP and unemployment of 25 percent, the fact that the center can send you a few tens of billions of euros is a drop in the bucket.

What does the acrimony surrounding the budget allocations say about EU members' commitment to long-term integration and the larger European project?

Europe is split between a fairly impressive commitment to the idea of unity in the abstract--the only exception where there's serious wavering is Britain--but, on the other hand, a lot of difficulty in actually agreeing to policies that would make unity function smoothly. If you ask most people, "will there be more countries that want to line up and join the eurozone in the next five or ten years?" the answer is yes. Poland will probably join. So there is a political will toward integration. But the will to actually make the integration function properly, that's what's missing. And that's what you see in the acrimony over agreeing to what is really a very small joint budget.

The other point is that a lot of economists, who look at the monetary union, say it can't function without a significant joint budget that moves money around inside the monetary union to stabilize differences in unemployment. If you've got a monetary union with a common monetary policy, by definition the monetary policy will suit some parts of the union more than it suits the other parts. So there are going to be some parts, which are going to be maybe growing too fast, having a bit of inflation, and the other parts will be growing too slowly, and will have a bit of unemployment.You need stabilizers to prevent those imbalances from getting out of control, and the classic stabilizers are labor mobility and budget transfers.

Most economists look at this monetary union and say you need a bigger fiscal union to make a monetary union work. But even at a minimum, the joint budget that Europe has now of 1 percent of its total GDP, they can't agree on the budget without enormous political eruptions, and I think that does tell you something about how far they've got to go to realize the vision of a monetary union and a fiscal union.

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