Judging on the basis of the huge amount of effort expended on the treaty on stability, co-ordination and governance in the economic and monetary union, one would have expected key figures in the political and economic establishment that doggedly promoted it to be pleased now that 25 of the EU’s 27 members have signed it. Yet, Jens Weidmann, the head of Germany’s central bank and former close adviser to Angela Merkel, the German Chancellor who did most than anyone to push the treaty through, was anything but complimentary on the final outcome.
He first criticized a draft of the treaty, arguing that “the design of the rules will fall short of the goals and political declarations made”. After the end of the negotiations he said that the provisions on national fiscal rules still leave substantial room for manoeuvre and that there appears to be no European-level control of the extent to which these national fiscal rules will also be complied with in reality. The strict implementation of the new procedures does not seem to be forthcoming; this leaves at least lingering doubts, he said. This can be seen as a failure of the German government whose objectives included - in addition to tightened economic co-ordination in the EU - the creation of domestic consensus among some key actors, i.e. the Bundesbank and the Federal Constitutional Court. Within Germany’s political elites, this consensus came to be seen as the sole ground upon which new EU initiatives could be launched (e.g. new bail-outs).
The key features of the new treaty include a commitment on the part of the 25 signatories to incorporate (if they have not yet done so) into their respective national rulebook (‘preferably [i.e. not necessarily] at constitutional level’) a ‘balanced budget rule’ or ‘debt brake’ requiring them to keep their structural deficit within 0.5 % of their gross domestic product in the medium term. The European Court of Justice obtains the power to police the introduction of this rule into national statute books. The participating countries agree to put in place national ‘correction mechanisms’ that comply with common principles that will be proposed by the European Commission. Temporary deviations from the structural deficit rule are allowed in exceptional circumstances.
Very little, if anything, of this is genuinely new. Indeed, as a result of the introduction of the inelegantly called ‘six-pack’, i.e. a set of agreed EU legislative measures aiming to improve the economic governance of the Eurozone, Commissioner Olli Rehn was keen to note as early as October 2011 that,
‘We will be able to scrutinise the Member States’ public finances, in particular the level of debt, much more carefully and pre-emptively than ever before. This will include co-ordinated examination of economic policies and budgets in the first half of each year before their adoption by national parliaments in a process known as the European Semester. And budgets will have to be designed and presented according to a common framework, in line with best international standards, so that budget-making is more transparent both for citizens and policy-makers.'
Commissioner Rehn pointed out that EU-level scrutiny of national economic policy will be so scrupulous that it will even include asset bubbles (e.g. in the property market) or weaknesses in the banking sector, thus pointing in the direction of the origin of the current major problems faced by Spain and Ireland, until 2008 two of the Eurozone’s ‘best-performing’ members.
Even if one ignores those who have associated the new treaty with the ‘outlawing of Keynesianism’, by far the most devastating critique of the new arrangements concerns the concept on which it is based. As Martin Wolf has pointed out, ‘nobody knows what a structural deficit is’. He highlights the fact that back in October 2007 – i.e. just before the onset of the crisis - the IMF’s ‘real time’ estimate of structural fiscal positions gave Spain and Ireland a clean bill of health (indeed, both were shown to be in better shape that Germany), and France was in a worse position than Portugal. In Wolf’s words, ‘The rule would not have discriminated between vulnerable countries and immune ones because it ignores asset bubbles and financial manias.’ Four years later, the IMF’s estimate had changed dramatically with regards to not only Greece but also Ireland. This, Wolf rightly claims, ‘merely shows that the concept the euro zone wishes to embed in a new treaty will fail when accuracy is most needed. The true structural deficit is unknowable.’
Other economists agree with him and explicitly argue that due to substantial revisions, the effectiveness of real time CABs [cyclically adjusted balanced budget data] to provide an accurate and timely assessment of a country’s structural fiscal stance is limited. In particular, our findings suggest that CABs have limited ability to measure both the true level and the true change of a country’s budget balance, systematically underestimating both fiscal slippages and fiscal consolidations. As a result, real time CAB data should be used with extreme caution. With respect to their central role in the recently approved fiscal compact, the flaws of real time CABs may affect negatively the reliability of the compact. There is a non-negligible probability that a country may be wrongly accused of running an excessive deficit, raising enforcement risks of the fiscal compact. (Added emphasis)
Second, the role of the European Court of Justice may not, in reality, amount to the most ‘hawkish’ views expressed in the course of the negotiations. Indeed, it has been argued that its role will focus only[i] - as indicated in the European Council’s press release - on the transposition of the balanced budget rule into the national statute books and the introduction of national correction mechanisms, i.e. not the scrutiny of annual national budgets. However, even the power of individual participating countries to bring legal action at the ECJ against another participating country for failure to comply with the balanced budget rule may not amount to much for fiscal ‘hawks’. Indeed, mutual surveillance has not worked in the Eurozone thus far; so, why would it work from now on? As Martin Wolf put it, ‘[w]ould elected governments accept the guesstimates of unaccountable technocrats? How, moreover, are judges to reach a decision? Are they to evaluate the merits of alternative econometric models? Since huge changes in estimates of structural deficits are likely, how is a government to adapt? Putting an unmeasurable concept into the law seems mad.’
Third, the fact that the new treaty does not include the principles on the basis of which national correction mechanisms will be devised is indicative of disagreement between participating states. As a consequence, contrary to the wishes of the promoters of the new treaty, some room for manoeuvre may well be retained.
As the head of the Bundesbank has openly indicated, part of the economic logic behind this Merkel-led drive towards institutionalised austerity reflects a wish to signal to financial markets the determination of the Eurozone governments to put their public finances on a sustainable footing. However, this commitment will not work, if it does not combine two kinds of credibility. The first entails a direct link between rules and behaviour. Even right-wingers such as Mariano Rajoy, the recently elected Prime Minister of Spain (a country that already has a national ‘debt brake’ and had complied with the Maastricht rules on monetary union until the onset of the crisis), know the limits of this point. This is why – speaking immediately after the signing of the new treaty - he declared that he would seek to balance Spain’s books at a slower (and, thus, more realistic) pace than others had urged him to do. In fact, when Mr Rajoy announced that the deficit target for 2012 would be 5.8%, rather than the 4.4% agreed by the previous government, he pointedly noted that “This is a sovereign decision made by Spain that I am announcing now, to you”. The liberal Dutch government – one of the key supporters of the ‘fiscal compact’ - may soon have to follow suit. So much for this kind of narrow credibility – which Mrs Merkel calls stability union. The second kind of credibility speaks directly to a much wider constituency and, crucially, has a much more solid economic base, for it takes into account that job-inducing growth is at least as important for deficit reduction purposes as cuts in public expenditure. In other words, this credibility is connected to the very appropriateness of the economic model implemented so far as a suitable solution for EU current problems. Even credit-rating agencies have grasped this simple economic truth. One does not have to be a critic of the euro to subscribe to this view. Leading economists who are supportive of the euro have pointed out that in the absence of a credible Europe-wide strategy for growth, the current overwhelming emphasis on Europe-wide austerity is self-defeating.
Concrete alternative proposals already exist. One is to limit the so-called ‘balanced budget rule’ to the public sector’s operational costs, thus excluding investment that the European economy so desperately needs at present, thus introducing a significant counter-cyclical element to economic policy. New analysis indicates that this would reduce the duration and intensity of recession as well as its inflation-related effects, whilst also boosting the fight against debt reduction. The latter is significant not only in terms of signals to markets (i.e. investors), but also – arguably more so – in terms of the public’s ownership of economic policy and the sacrifices that it entails, at a time when populists abound on the Left and the Right of the political spectrum.
(a) the structural deficit is ‘unknowable’, as Martin Wolf has pointed out,
(b) the fiscal compact does not make sense in economic terms,
(c) not much of it is really new,
(d) ‘there is no room for the judicial enforcement of the decisions taken by the Council where oversight of national budgetary procedures is concerned’ as has been noted, and
(e) fiscal ‘hawks’ are not happy with the fiscal compact’s content,
how are we to interpret Angela Merkel’s insistence on the new treaty? Mrs Merkel and much of the German political establishment may well espouse the doctrine of ordoliberalism, but given these critiques and growing opposition not only on the Left but, crucially, on the Right with economic liberals such as Mario Monti and Guy Verhofstadt arguing for growth-inducing measures, it is appropriate to look at the domestic political scene.
Mrs Merkel is part of a relatively new generation of German politicians who have never been marked for their pro-European conviction (if one leaves aside the lip service that any leader of the German Christian Democrats is almost bound to pay to European integration), but in the run-up to next year’s federal elections she desperately needs to give to her domestic audience (as she did in the past) reasons to believe that she is not actually endangering the German tax payers’ money when she offers interest-bearing loans to Eurozone members that need them. This is why she is likely to highlight the new treaty’s reference to the European Court of Justice and the national balanced budget rules and say to ordinary German voters that Europe is following Germany’s example. Ignoring the fact that (a) inequality within Germany has been growing, and (b) the Eurozone’s crisis is to do with the imbalances between its various parts, she will seek to build on the recent opinion polls and win next year’s elections. In other words, Mrs Merkel’s fixation on austerity is not only a sign of the purchase of ordoliberalism, but also a kind of institutionalised hypocrisy.
Yet, for Europe (including Germany) there is an alternative. If tightening the legal rules on public spending even further is a (hitherto implicit) condition for allowing the ECB to become a genuine central bank capable of supporting the European economy, the latter part of this trade-off, as François Hollande rightly insists, is far too implicit for his liking. So, the Socialist candidate for the French presidency is highlighting the need for Eurobonds, and insists on the addition of specific provisions aimed at fostering growth and boosting employment, including the authorization of EU-level loans to fund large-scale projects, or an increase in the lending capacity of the European Investment Bank (the EU’s lending arm, whose role can be crucial at a time when the European banking system is in crisis), together with a greater emphasis in the EU’s budget on investment in low-growth member states. In other words, Mr Hollande highlights the key weakness in the current German government’s position, namely the one-sided emphasis on budgetary discipline and wage restraint and the absence of concrete measures that deal directly with imbalances within the Eurozone.
In this he has numerous allies who, crucially, include German politicians who call for an active industrial policy at the European level, trade unionists who point out the need to boost demand through wage increases within Germany and economists who call for growth-fostering measures. Mrs Merkel is often mocked by her domestic political opponents for her repeated U-turns on the crisis in the Eurozone. These turns are often in the right direction but whether this will happen again on the crucial issue of growth remains to be seen.
[i] This interpretation of Art. 8(1) of the new treaty is contested by those who claim that the ECJ’s remit extends to the actual operation of the ‘debt brake’. However, Art. 8(1) explicitly refers to Art. 3(2) which relates to (a) the transposition of the ‘debt brake’ into national law and (b) the organization of national ‘correction mechanisms’. If the intention of the signatories of the new treaty had been to refer to the actual operation of the ‘debt brake’, Art. 8(1) would have referred to Art. 3(1), i.e. the ‘debt brake’ itself. In other words, a member state may well (a) transpose the ‘debt brake’ and (b) establish the national ‘correction mechanisms’ but then fail or even refuse to comply with the ‘debt brake’.