When monetary folly is not enough

Published in Business Spectator (Melbourne), 30 July 2015

euroWhen you are in a hole, you should stop digging. What sounds like timeless advice apparently does not apply in the eurozone. After five tumultuous years of fighting the crisis arising from Europe’s monetary integration, leading European politicians are planning to go full steam ahead with the next level of integration. Their goal is the integration of fiscal policy.

The current issue of German newsmagazine Der Spiegel reports on plans to more closely coordinate eurozone members’ budgets. In the future, a European finance minister could control a significant chunk of what were previously national budgets. A new European treasury might also have its own tax powers, either by taking over national taxes or being allowed to levy surcharges on them.

The idea behind these proposals is simple. By consolidating national budgets, it would be possible to run eurozone-wide spending programs. This is an attractive proposition for stimulus-minded politicians, intent on fine-tuning the operations of eurozone economies and compensating for differences between them.

There is only one problem with these plans: They will not work.

There are numerous ways in which plans for European fiscal integration will fail. The first one is that there is close to zero public appetite for fiscal integration in those countries currently underwriting the various eurozone bailout programs.

If you have followed debates on the third Greek bailout package in Finland, the Baltic states, the Netherlands, Slovakia and Germany, you will know how unpopular it is in these countries. However, technically at least, the Greek package is only meant to be a loan to Greece and not a fiscal transfer.

One can only imagine the kinds of debates that would happen if the goal was to organise a transfer mechanism across the eurozone. Let’s face it: this is what a European treasury with its own taxing powers would amount to. If it were different, such an institution would not be needed in the first place.

The second problem with the proposals being discussed is that they run counter to the institutional and legal framework of the monetary union. Its basic idea, beginning with the Treaty of Maastricht, had always been to compel eurozone members to fiscal discipline. Eurozone members were supposed to keep debt and deficits to manageable levels without having an escape path of passing on their debts to other countries.

As we know from practical experience, these rules were never worth much when they mattered. Not even the introduction of the EU’s Fiscal Compact in 2012, which should have reinforced the principle of national fiscal responsibility, could change that. Through the EFSF and the ESM, combined with the ECB’s OMT program, the European monetary union has morphed into a de facto liability union.

Seen from this angle, formally merging eurozone fiscal policies would only be the next logical step. It would formalise an arrangement that already exists in rudimentary form. However, it would still signify a departure from everything European citizens were promised when the euro was designed and introduced.

Then there is a political problem with having a European treasury, a European tax system and a European finance minister. How could such a system claim legitimacy?

As Der Spiegel argues, the introduction of a European tax could be a step towards establishing its own legitimacy. The magazine reminds its readers that the Romans made newly conquered tribes taxpayers in order to bind them to their empire. It also claims that it was Alexander Hamilton who through the introduction of common taxes and tariffs turned the United States from a loose confederation into a true federation.

Though all that may be (partly) true, the European case is nevertheless different. Unless you think of the Brussels bureaucracy of a foreign imperial power, or unless you think that European peoples would ever be prepared to be dissolved into a “United States of Europe”, the idea of introducing a European tax could do more political harm than good.

Instead of binding Europe’s peoples more closely together, it could drive them further apart. The experience of monetary union so far certainly points in this direction.

Monetary union, too, was meant to propel the idea of European political, economic and social integration. It achieved the very opposite. After 16 years of monetary union, the eurozone’s members are not only suffering from the economic consequences of an ill-designed scheme, but politically, monetary integration has also backfired on the European idea. The failures of monetary union have damaged the credibility and the popularity of the European Union.

It’s the same with fiscal integration. European citizens would struggle to understand why they suddenly had to pay taxes to a supranational organisation. They would miss democratic accountability of the EU’s tax and spending decisions. And they would soon begin to start calculating who pays into this scheme and who gets what out of it.

Instead of uniting Europe in a way that may have strengthened the Roman Empire or created the US, the Euro tax would be a sure way of reigniting and reinforcing nationalisms within the European Union.

Besides these problems, there is yet another issue that the European Union would have to tackle should it ever come to a eurozone Treasury. Introducing a new tier of government only for eurozone member states, the European Union would be split into two parts: One of eurozone governments and the other of countries such as Denmark, Poland and the United Kingdom outside it. It is not obvious whether the European Union would be able to manage such a formal division of its members. In any case, it would change the character of the European Union.

The irony behind all of this is, of course, that fiscal integration only seems necessary because the preceding monetary integration did not work. Only in the EU would such a failure be seen as an invitation to keep digging.