ARE THE CONDITIONS BEING IMPOSED ON GREECE TOO SEVERE?

.............PROBABLY NOT, BUT GREECE NEEDS HELP WITH THE RECEPTION OF SYRIAN REFUGEES.

If Greeks themselves do not trust their own government and their own banks with their money, it is difficult to expect the taxpayers of other countries to do so. Yet that is what the critics of the severity of the conditions imposed for the third Greek bailout seem to expect.

The euro was not imposed on Greece. It was something that Greece joined of its own accord.

The fact that the possibility of Greece leaving the euro was raised by Germany, has been greeted by some as dealing a blow to the euro because it supposedly ended the notion of the euro being “irreversible”.

But nothing in political life is irreversible, even though some things, like the Byzantine and Ottoman Empires, did last a very long time indeed. “Irreversibility” was always a legal fiction, and fiction is not a sound basis for an economic policy. 

The euro is a contingent compromise, where members trade some short term losses for greater long term gains. A euro, where rules were easily broken, would not endure.

I agree with those who say that, eventually, some of the Greek debt will have to written off. That is both financially necessary and morally just.

But that can only be contemplated when the Greek political and administrative system has reformed itself, and is capable of benefitting from a write off, and not looking at it as a precedent for a further write offs later on. We are not there yet.

The crucial difficulty seems to be that the Greek state does not work. The fact that Tsipras’ offer of reforms had to be crafted, not by Greek civil servants on their own, but with the help of French officials, tells its own story.

Some complain that elements of the package involve intrusion on Greek “sovereignty”. But a state is only sovereign to the extent that it is capable of performing the functions of a state and of fulfilling the internal and international responsibilities of a state.  I believe Greece needs help in this regard, and it would be good if the World Bank, as well as the IMF, were involved in helping Greece reform its public administration.

Recapitalising the Greek banks will be a major task. Interestingly the biggest exposure to the Greek banks is held by UK banks. The UK is not in the euro, and is not contributing to the Greek bailout, which could be regarded as unfair.

Some argue that the austerity, that Greece is going through to meet its international obligations, is damaging its economic growth prospects. In the short run, this is true. But fuelling temporary growth, by taking on even MORE debts, would not be  an answer. That would weaken longer term growth prospects, because of the additional debt service it  would entail.

The important way of  improving growth prospects is by  generating confidence. If people believe the future will be better, and can borrow money to invest in it, the economy will grow. With renewed confidence, some of the money that Greeks themselves have moved abroad will then come back to Greece. If the bailout terms are fully and quickly implemented, by both Greece and its creditors, that will restore confidence, especially if it is rewarded  by a prospect of some conditional and staged debt write offs.

Meanwhile Greece is in close proximity to the biggest refugee crisis in world history, caused by the Syrian and Iraqi civil wars. More migrants are now arriving in Greece from the Middle East, than are arriving in Italy from North Africa. 65% of the arrivals in Greece are Syrian.

Greece’s neighbour, Turkey, is already providing shelter for 1.8 million Syrian refugees. Meanwhile most Western countries are reluctant to take in any refugees. Greece, because of its geographic position, does not have that luxury.

The European Union should reorientate its Development Aid programmes to help middle income countries, like Greece, Turkey, Lebanon and Jordan, which are facing major refugee inflows, to cope with that huge burden. 

Some EU countries, like Germany and Sweden, are hosting many refugees. But most are keeping their heads down and doing little or nothing.

There should be burden sharing, based on relative income and population. Countries that are receiving the largest proportionate number of refugees , should be getting direct ongoing cash help from those that are receiving the least.

THE LONG CRISIS IN GREECE

As I write, it remains unclear whether Greece will reach an acceptable deal with its creditors, who are mainly other European Governments.

It is important to say that the recession in Greece has been much deeper than expected by those who agreed the original bailout package with Greece in 2010, a 25% fall in output as against a predicted 7% fall. The budgetary adjustments have also been bigger than in any of the other bailout countries.

It must be acknowledged that, when Greece got a bailout from the other Governments and the IMF, the ultimate beneficiaries included banks, not only in Europe but also elsewhere.

These banks had been lending to the Greek Government, long after they should have stopped doing so, and have forced Greece to confront reality. They assumed that, because Greece was in the euro, someone somewhere would ensure they were repaid.

Yes, some the banks,who were thus saved from their errors, were indeed German. But many of the banks who were rescued from their embarrassment were British and American, and the British and American taxpayers have avoided a proportionate exposure to the costs, through the Greek bailout, of saving THEIR banks!

The Euro zone is bearing the main burden, while the others offer free advice.

That said, it would have been in nobody’s interest, for a panic about Greece to have infected banks around the world. Bank credit constitutes 95% of the money we use, and a collapse in confidence in money could have had really devastating global consequences. Without confidence in banks, economic activity would have come to a shuddering halt.

We would have had a crash, rather than just a crisis. Hindsight critics can ignore that now, but it was a real risk then.  

The origins of the Greek problem are very deep and longstanding. For years, Greeks had been consuming more than they were producing, retiring on pension earlier than is normal in other countries, and running an educational system that had few links with the real economy. All these gaps were bridged by borrowing money from foolish investors, who averted their eyes from the profound underlying problems of the Greek economy.

Meanwhile Greece supported a cumbersome and slow courts system, and an equally inefficient system of public administration and of regulating entry to professions. These systems got in the way of growth, because growth needs a capacity to move human and other resources quickly from less, to more profitable activities. Such systems might have been affordable in a very rich country, but Greece never was a rich country. 

Meanwhile Greece failed to develop a broad modern industrial sector. It relied too heavily on tourism and ship building. Greeks made money selling things to each other Greeks, rather than to the rest of the world. 

Greek businesses stayed small, not big enough to become exporters.  Indeed the proportion of micro businesses in Greece is very large, and this sort of business frequently under declares its income for tax purposes. This is part of the reason for poor tax collection in Greece.

There is growth potential in the Greek economy.

A McKinsey study back in 2011 suggested, for example, that Greece could develop medical tourism (it has a large population of dentists).  I met someone recently who was waiting for ages a treatment for tonsillitis in Ireland, who went to Greece, and had the operation done in days. 

McKinsey suggested big scope for Aquaculture and food processing in Greece.

Greece could develop its port infrastructure to provide a regional cargo hub. 

But none of these things can be financed unless Greek business people have access to a healthy banking system.

The Greek banking system is far from healthy. Its capital is tied up in Greek government bonds. The credibility of these bonds has been called into question by the brinkmanship and loose rhetoric of the new Greek government. The uncertainty over whether Greece will still be in euro, in a few months time, also inhibits investment, and nationalistic rhetoric in Germany on that topic has added greatly to that uncertainty.

Greece’s future needs to be underpinned by a credible plan that focuses on private sector led growth, backed by a healthy European banking system, that invests in productive Greek businesses, rather than just in Greek government bonds, as it did in the past.

If that is to happen, it is not just Greece that needs to do a lot of homework, but the entire European Union. The EU needs a real banking union that allows banks to lend across borders to good projects wherever they are found in the euro zone. This needs common EU legislation on debt collection, collateral and the like.

The fact that Greek, Irish, Portuguese and Spanish taxpayers have borne large burdens to recapitalise their banks, or have undertaken new debts, as part of a project to sustain the global banking system, also needs to be recognised by the rest of the world

This cannot unfortunately be done straight away. The problems that gave rise to the crisis must be understood, and fixed, first. 

The Greek election result would not lead one to believe that Greeks understand the source of their problems. And the credence that many voters elsewhere give to rhetoric that suggests that being “against austerity” constitutes an implementable policy, in a world of free capital movement, suggests that many do not understand what went wrong or what can realistically be done about it.

But ultimately there must be an honest attempt to find a fair settlement of these legacy issues.

A Global Debt Conference, some time before 2022, when Greece has to make huge repayments, should be considered.  It could be sponsored by the IMF, and might negotiate debt relief on the basis of the extent to which countries have, in the seven years between 2015 and 2022, implemented growth promoting reforms and achieved primary surpluses on their current budgets, taking account of the demography and the tax raising potential of each country.

THE EURO AREA FISCAL COMPACT

A new fiscal compact was announced on 9 December  by the  Euro area  Heads of Government,  as a means of protecting the stability and integrity of the  Economic and Monetary Union,  and of the  European Union as a whole.

This is a vitally important goal, especially for Ireland which has gained more than almost anybody else in terms of market access, funds, and influence since it joined the European Union in  1973.

It is most important for Ireland that this fiscal compact be credible with the markets, and also  understandable  by the electorates of all 27  EU member states.

AUSTERITY WAS COMING ANYWAY, BECAUSE OF THE AGEING OF EUROPEAN SOCIETIES.

A fiscal crisis in Europe was always on the cards around now, even if there was no single currency, because of the ageing of the European population.

 Repeatedly, the European Commission has produced reports that said that, with unchanged policies, the debt to GDP ratios of many European states were going to reach  500% by  2050,  simply by virtue of the increased size of the likely  retired elderly population relative to the  working age population.

 During the boom, these reports were ignored by bankers, bank regulators, bond market participants, Finance Ministers, and political parties.

 But if you want to understand the rationale for   German attitudes today, you have only to look at the prospective ageing of its population.

 Germans are worried that the savings they have put aside for their retirement will be devalued by inflation generated by excessive monetary easing by the European Central Bank, or by fiscal irresponsibility by other European states that are unwilling to balance their current budgets.

Critics of Germany do have a point when they say that, in the short term,  Germany is asking a lot of some other  euro area countries(like Italy and Greece) when it demands that they must  suddenly become more competitive, increase their exports, and thereby earn the money to pay off their debts when, at the same time, their major market (Germany) is retrenching and reducing its demand for imports. 

But the motivation for the German caution is the ageing of their own population, as much as it is fear of a repeat of the hyper inflation of the 1920’s. And Greece and Italy also face the ageing of their population too, so they would have had to retrench anyway, whether Germany insisted on it or not.

It is also important to keep a sense of proportion about “austerity”.

 Admittedly expectations and prices have risen in the meantime,  but austerity in 2012,  is not quite the same as austerity was in the  1930’s , or even the 1980s, because  almost all European  countries are starting from a much higher income level that applied in the  1930’s or  in the 1980’s.

IT IS IMPORTANT TO RESPECT BASIC ARITHMETIC

 It is also important to respect basic arithmetic.

 For example, Ireland could not expect to have a welfare state as generous as that of Sweden, at tax levels similar to those of the United States.

 As the late Garret FitzGerald pointed out on many occasions, and it did not add much to his popularity, Ireland is not, overall, a heavily taxed country.   Pay, benefit , and pension levels paid from public funds are also  higher than  those in many  other EU countries for  comparable situations.

 A choice about the distribution of benefits and burdens has to be made, and these are the most difficult questions of all. They are the ones politicians, who are usually trying to build the widest possible coalitions, prefer to avoid if they can.

During the boom these questions were  easily avoided by borrowing, and by funding permanent expenses with temporary revenues.  That is now over.

 Even if the EU had no fiscal rule, the markets have now woken from their long slumber, and are demanding that those, to whom they lend , show how they will balance their books,  and repay what they owe when it is due.

 In that sense, the new EU fiscal compact is almost superfluous, in that  markets will be imposing discipline anyway, euro or nor euro, pact or no pact, Britain in or Britain out.

The choice is between slow, negotiated, and slightly less destructive austerity, imposed by the EU compact, or fast,  and much more destructive,  austerity imposed by the markets.

Therefore, I argue that it is best for Ireland that there be strong and credible EU rules. It is important, however, that these rules be as operational as possible, as credible as possible and as understandable as possible.

In that spirit, I raise one or two questions about the detail of the  proposed compact.

HOW, AND BY WHOM, WILL THE NEW STRUCTURAL DEFICIT RULE BE INTERPRETED?

In paragraph 4 of the EU leaders statement, they say that the annual structural deficit shall not exceed 0.5% of GDP and that that this rule shall be introduced into member states legal systems at “constitutional or equivalent level”. 

This is separate from the Excessive Deficit Procedure, under Article 126 of the existing EU Treaties, which provides for fines if deficits exceed 3%, and which is being strengthened under proposals that come into force this week. It is also separate from other changes, which require no Treaty or constitutional change,  which will  penalise countries for excessive debts as well as  excessive deficits, and which will require  countries to reduce debts progressively by a fixed amount each year

 This 0.5% provision    is something new and different,  not published before, which is   to be introduced into the domestic constitutional arrangements  of all member states.

 The concept of a structural deficit (of 0.5% of GDP) is different from the 3% limit in the Stability and Growth Pact.

If  this part of the pact is to be understandable, workable, and enforceable, one must ask the key  question.

 How easy will  it be to define  the structural deficit at any given time?

If something is to go into a constitution, its meaning must be both clear, and constant.

To see the sort of difficulties that might arise, one should look at  a recent  OECD study on Ireland(OECD working paper number 909, by David Haugh published 2 December 2011).  It said

“Rules specified in terms of cyclically-adjusted balances or equivalently balances measured “over the

cycle” are difficult to operationalise and monitor because they depend on forecasting the size of spare

capacity in the economy, which cannot be observed and is particularly difficult to estimate for a small open economy such as Ireland’s.

The Swedish Fiscal Policy Council found it difficult to assess compliance with the government’s target of a 1% surplus over the cycle (Calmfors, 2010).

 Disputes over when the cycle started and finished were among the most contentious aspects of  rule that operated in the United Kingdom until the end of 2008 (OECD, 2009).

Reliance on such measures may also induce policy mistakes. With the benefit of hindsight, initial cyclically-adjusted fiscal balance measures appear to have given an overly optimistic view of the Irish fiscal position prior to the crisis, which may have contributed to a sharp rise in expenditure in 2007 before the crisis hit”

If economists in the OECD have difficulty with this concept of a structural deficit , as indicated in this  quotation, one must wonder what the judges of  the Irish  Supreme Court will make of it.

 My understanding is that economists often radically revise their opinion, afterwards, about what the structural deficit really was in a previous year. That would  make life very difficult for the Supreme Court!

While the European Court will verify the transposition of the new 0.5% rule at national level, it will be the Irish and other national Supreme Courts that will have the job of interpreting it. If something like this is written into the Constitution, the ultimate decision on whether a  budget for any  given year is compliant with the constitution will have to made by   the judges  of the Supreme Court.  This certainly will bring judges into areas of judgement which are not, to put it mildly, their primary expertise.

There is also the question of what sanctions the Supreme Court could impose, if a structural budget  deficit exceeds 0.5% of GDP .

As far as I know, some countries, like France,  have relatively soft sanctions for breaching the constitution,  while other  countries, like Ireland, immediately strike down as null and  void, something that is unconstitutional.  It may seem fanciful at this stage, but one also has to ask what would happen if Britain, which has no written constitution at all were to join the Euro at some future  time?

When is this new arrangement to come into force?

If the provision is intended to influence the markets, the date cannot be pushed too far into the future. The Commission is to propose a calendar for this. Will it be the same calendar for all members, or will countries with the biggest structural deficits get more time?

According to NCB, even if we follow all of the plan, Ireland’s structural  deficit will still be at  3.7% in 2015, which is well above the 0.5% to be written into our constitution.

 According to Deutsche Bank, the structural deficit of the Euro area as a whole stood at 3.2% in 2011, so the rest of Europe has a long way to go too.

I believe this particular proposal needs to be teased out , rigorously and in great detail, and I have no doubt the Irish Government will  be doing  that in the next few months.

A LIFESTYLE CHANGE MAY NOT BE ENOUGH, THE PATIENT MAY ALSO NEED EMERGENCY TREATMENT!

As I said earlier, the ageing of our populations requires us to follow the path laid out in the fiscal compact.

 Keynes General Theory was formulated for a society with a very different demography than the one  Europe has today.  That is why we have no choice, euro or no euro, but face up to the fiscal challenge posed by the statement of the EU  Heads of Government of the   9 December.

But, as I have  said,  we need to get the details right.

 In the meantime, the ECB must act as a normal Central Bank and provide liquidity for the markets.  The risk now is of destructive deflation, not of inflation. Germans may want to protect their savings, but they also need incomes, and their incomes will disappear if the European economy collapses. 

I hope Chancellor Merkel understands that, and does not stand in the way of emergency treatment of the economy by the ECB.

Lifestyle changes are important and necessary, but the patient needs to be alive, if he or she  is to change  lifestyle! 

It is also important that, now that the concept of the economic cycle is to be introduced into our constitutions, we do not pursue unnecessarily procyclical policies. Some have argued, convincingly, that the Basel Thee rules, as applied to banks, are unnecessarily procyclical.  They are dealing with   yesterdays problem, excessive exuberance, which the markets are punishing sufficiently anyway.

The Summit did not address the banking problem at all, and this is a pity. The difficulties of banks are at the heart of the problem. Society needs banks, and some banks are well worth saving, because banks are the repositories of our savings, and the engines of our economy

 But Martin Wolf was right when he wrote in the “Financial Times” last March “The German Government should tell their people that they are rescuing their own savings under the guise of rescuing peripheral countries”.

 I do not have the sense that that has happened yet, and that is why the 9 December Summit is not the final word on the crisis.

Remarks by John Bruton, former Taoiseach, at an event of the Dublin Chamber of Commerce, in DIT Cathal Brugha Street , embargoed for 8am  14 December  2011.

 

THE EURO CRISIS—WHAT COULD GO WRONG?

The  European Union is facing a crisis because of the loss of confidence in the debts issued by several member states. This is related directly to the problems and activities of Europe’s banks.
On 9 December in Brussels, the Heads of Government of the 27 EU member states meet, yet again,  to come  forward with a solution to the  escalating loss of confidence in the debts owed by European  banks and  governments. Each time leaders meet, and come forward with proposals that, within days,  prove to be inadequate, further confidence is lost  both in the leaders themselves, and in the  European Union, as a functioning  and competent  political authority capable of managing the  affairs of its peoples. 

This is corrosive. It undermines political solidarity within and between Europeans, and it encourages   reversion to 1930s style nationalism, and to  general  anti politician sentiment, which could eventually erode the tolerance that is essential to democracy itself.
There is a limit to the number of failed government bond auctions we can endure. Many further such bond auctions are due in January and February. In February there will be a General Election in Greece, and the campaign in that election will be critically influenced by the perceived effectiveness of present EU arrangements and the  steps Greeks are having to take to comply  with these arrangements. If there is to be a good result in that election, the EU needs to show electors that it is in control of the situation.

THE ECB CAN ACT NOW, AND SHOULD DO SO

The European Central Bank needs to take note of the situation. It has a mandate under EU Treaties to maintain price stability, defined as around 2% inflation.  There is a growing risk that the problem Europe will face next year will be deflation, not inflation.
If industrial orders and consumer confidence continue to decline, prices and incomes will start to fall, and the situation of those in debt will worsen further because, even if they pay all interest, the real value of their debts  will increase as a consequence of the  fall in prices and incomes relative to the unchanged level of their debts.
If these circumstances are likely to arise, the ECB has a duty, in the interests of price stability, and in full accord with its Treaty mandate, to initiate quantitative easing to prevent it. An immediate statement to that effect from the ECB would go a long way towards resolving the short term crisis.

 
CONSEQUENCES OF A BREAKUP OF EURO

Failure to act could lead to a break  up of the euro. This could be devastating , because a lot of the debts owed by Europeans are owed  in euro to other Europeans. With the euro gone, the uncertainty about who owed how much, in what currency, to whom could lead to endless legal dispute.
Governments trying   to establish new national currencies could face huge problems stopping  outflows, which could  lead to  limitations on bank withdrawals, reintroduction of exchange controls, and  tariff walls against their exports by other countries  in the EU aimed at countering  competitive devaluations of one  new currency against another. 
The legal order on which the EU is based could break down. We should not forget how inherently fragile that legal order has always been. If one country refuses to implement a judgement of the  European Court of Justice in an important matter, and gets away with it, the EU has no  meaning anymore because  the EU has no police force to enforce its  rules. Everything is based on consent.
Against this background, one must ask oneself if further EU Treaty change could be part of the answer.  Treaty change could take, at the very least, a year to effect.  But we do not have that much time.  So the best we can hope for is a political commitment  by Governments to seek consent to a Treaty change from their parliaments or peoples.

SPEECHES OF CHANCELLOR MERKEL AND PRESIDENT SARKOZY

There has  been agreement  that a  proposal to improve the  governance of the  euro zone would be presented by the  President of the European Council, Hermann Van Rompuy to the EU Summit on  9 December. In advance of this, the leaders of the two biggest euro area states have set out their requirements. 
In her speech today, Chancellor Merkel has called for Treaty changes that would make sanctions on  states who breach  debt and deficit limits  automatic and  capable of  being enforced  directly through the  European Court of Justice.  It would take the issue out of politics and make it a legal one. This would require a change in the Treaties.
President Sarkozy, on the other hand, said yesterday that European integration must be pursued, and the problem has to be solved , inter governmentally. This is because he believes that only elected heads of national governments have the required political legitimacy to make the necessary decisions.
These two positions are quite far apart, and there are difficulties  with both of them.
The difficulty with Chancellor Merkel’s approach is that it will involve the European Court of Justice in making economic judgements. 

In the case of a disputes, is  the Court really qualified to judge whether  a deficit is excessive by reference to the point at which a country is at in its economic cycle? Can it adjudicate on whether estimates of future revenue are valid or not?
Even economists have difficulty with these issues.  So the framing of a Treaty change in this area will could be challenging.
President Sarkozy’s preference  inter governmentalism  will bring economic judgements into the realm of power politics, the sort of power politics that prevented any  sanctions being imposed on France and Germany when they became the first to breach the original Stability and Growth Pact. His approach would diminish the role of the European Commission.
Both the Chancellor and the President are paying too little attention to what has been already agreed in the “six pack” regulations. These, which require no Treaty change, will already make it more likely that a state, with and excessive deficit ,will be fined,  because a qualified majority (66%) would have to be found to agree NOT to impose a fine.
Neither  the Chancellor nor the President pay enough attention to the huge failure of  EU wide banking supervision that allowed all this foolish cross border lending to take place within the single currency area. Neither of them addressed the lack of implementation, from the very outset of the euro, of the ECB’s responsibilities in the Treaties , to  supervise the  activities of banks and the impact those  activities have had on the stability of  the European economy. Both of them spoke as if the problem  today was solely one of Government finances ,when it is also a problem of  bank finances


THE GERMAN AND DUTCH PROPOSALS TO CHANGE THE EU TREATIES - HOW RELEVANT  ARE THEY TO THE PROBLEMS WE FACE?

But what of the more  detailed proposals for Treaty change  advanced so  far.  How relevant and helpful are they?  It is suggested that  we must amend  the  EU Treaties, because it is argued that the existing  Treaties either

 
a)    prevent  us doing what is necessary to resolve the situation, or
b)    provide us with insufficient assurance that  we will not get into the same difficulties again.

The German CDU has demanded Treaty changes to provide for

• automatic sanctions for breaches of the  Stability and Growth Pact( 3% deficit and 60% debt/GDP ratio),
• a procedure for insolvency of EU states,
• the direct election  by the people of the EU of the President of the European Commission,
• taking away the exclusive right to initiate EU legislation from the Commission,  and allowing the Parliament and the Council  an equal  right with the Commission to initiate legislation,
• more seats for bigger countries in the European Parliament based on their bigger populations.

They also want Europe to unilaterally introduce a tax on financial transactions.
The Dutch Prime Minister has suggested Treaty changes that  would

• allow a European Commissioner for budgetary discipline to force  states running excessive deficits  adjust their policies and
• to impose  sanctions  including reduced payments from Cohesion and Structural Funds, national budgets requiring  EU  approval before introduction,  suspension of voting rights in EU institutions,  and  ultimately expulsion from the  Euro  zone. 

It is important that any proposals for Treaty change are based on an honest appraisal of what  our problems actually are, and are not put forward  as  tokens to soothe domestic  opinion in particular countries. Our problems are too serious now for that sort of thing. 

Given that Treaty changes in the EU require all members states to ratify them, the way proposals are put forward is almost as important as the proposals themselves. 

If proposals seem to be one sided, or to emanate from a small cabal of big countries, rather than  from an inclusive process of which all member states have equal  ownership,  then the  proposed Treaty changes may be doomed from the  start, whatever their merits.
On the specifics of the CDU and Dutch proposals, I would  respond as follows.

THE CDU PROPOSALS

The difficulty with automatic sanctions for supposed breaches of the Stability and Growth Pact is that, if the country on  whom they were to be imposed objected, the dispute would go to the European Court of Justice, not to the Council of Ministers for arbitration. Breaches of the Pact would include  questions about whether  assumptions about future economic growth and thus revenue were  too optimistic, the point at which a country was on in its economic cycle, and the like.  These are questions on which economists, who are studying these matter all the time, usually  cannot agree.  There is little chance that the judges in the ECJ, many of whom have no background at all in economics, will make sensible judgements  in such cases.
A treaty provision for the insolvency of states, as suggested by the CDU, will be very difficult to draft and will be highly controversial.  There may be some merit in establishing rules in this field, but I wonder if this is the time to be doing it.  The issue will not be being debated in an academic setting, but in the midst of febrile market conditions. There is a strong risk that the twists and turns  in a public debate on the  state insolvency   will have a  negative and unintended influence on the markets.
 We should not forget that ,when  the issue of so called  private sector involvement in resolving the Greek debt  crisis was first mooted by Germany , it had an immediately damaging effect on the capacity of some other  smaller countries to borrow.

CDU PROPOSAL FOR DIRECT ELECTION OF EU PRESIDENT MOST WELCOME

The direct election of the President of the European Commission by the people of Europe is a vey good idea. I advocated it when I was  President of the European Council in  1996, and again when I was a member of the Praesidium of the Convention of the Future of Europe. Interestingly, the only member of the Convention who gave the proposal any support at that time was George Papandreou. It is very good that the CDU is supporting this proposal now.
A direct election of this  kind is what we need to create a  genuine European  demos, or  sense of shared destiny, among EU  citizens whatever their nationality or language . Without such a demos or  shared  identity, we will be unable to persuade Europeans to make sacrifices for one another, and that is something we need if Economic and Monetary work.

BUT CDU ATTACK ON COMMISSION VERY DANGEROUS

On the other hand, the CDU proposal to take away from the Commission the exclusive right to propose legislation, and  to require it to  share that with the European Parliament and the Council of Ministers,  is a thoroughly bad idea.
It would  weaken the Commission even further than the rampant intergovernmentalism of Europe’s response to the financial crisis has already  done. 

The European Commission seeks to put forward proposals that will command  support  from  all countries , large and  small. It formulates compromises in advance.
If the  Parliament and the Council could table competing legislative proposlas on the  same  subjects as the Commission, this would make the search  for subtle compromises much more  difficult. It would  enhance the power of the bigger delegations of the bigger countries in the  European Parliament  and would encourage  crude nationalistic  majoritarianism in that body. 

The Commission is the protector of the interests of  smaller  member states within the EU, and this  CDU proposal will be seen by them as provocative and subversive of the community method on  which the EU was founded.

CHANGING REPRESENTATION IN PARLIAMENT WOULD UPSET A DELICATE COMPROMISE

The CDU proposal to increase  the relative representation in the European Parliament of  countries with bigger populations, but without reducing the  extra voting weight that bigger countries enjoy in the  voting system of the Council of Ministers,  overturns one of the central compromises reached in the  drafting of the   European Constitution and the Lisbon Treaty.
 The CDU should remember that ,even if the United States which is a fiscal union, all states have equal representation in the  Senate while populations have  equal weight in the House of Representatives.
 Under  the Lisbon Treaty, the EU has struck a similar compromise.  Bigger states have bigger representation in both the Parliament  and the Council, but there is a system of “degressive proportionality” which compensates smaller states by  giving the proportionately bigger representation than their population would strictly  justify.
 I cannot understand why the CDU wants to reopen this  difficult matter, unless of course it want  to use the proposal as a negotiating  weight to gain traction on some other issue. Frankly, I think our situation is serious enough without that sort of gamesmanship being introduced.

A FINANCIAL TRANSACTIONS TAX

The suggestion of a financial transactions tax has populist appeal. It may slow down financial transactions and allow a little more time for reflection in the markets. It would curb automated  transaction systems by making unduly frequent buying and selling slightly more expensive. It could  provide the EU with a new source of revenue, which would be very welcome.
But  It would also lead to  financial sector activities moving out of Europe, and the tax revenues that those  activities generate for  EU states going into the treasuries of   non EU countries. Given that unanimity must be obtained for this proposal to go through, I wonder if it is not, like the proposal to redistribute seats in the European Parliament,  being put forward as a  negotiating  ploy .  Again, one must ask if this displays the sort of seriousness that out parlous situation requires.

THE DUTCH PROPOSALS

Turning to the Dutch proposal to enhance the Commission’s control over the budgets of states running excessive deficits, it is hard to argue against the principle of what they are seeking to achieve.  The CDU has argues that fines for excess borrowing should be automatic.
But one might wonder how urgent  the proposal is.
 Financial markets are already imposing very harsh discipline, through demanding higher interest rates of countries with excessive deficits.
 It will be a long time before any EU country will ever again be able to borrow money at easy rates of interest unless their fiscal policies are demonstrably sound. Do we really need to reinforce what the markets  are already doing with Treaty changes at this stage? 
It is also worth noting that the reverse majority procedure now applies to both the Excessive Deficit and the Excessive Imbalance procedure. So a country, that is liable to be fined for running an excessive budget deficit, or an excessive balance of payments surplus or deficit, will automatically have to pay a  fine,  unless it can persuade a qualified majority in the  Council NOT to let the fine go ahead. Perhaps we should see how that new procedure works before going for Treaty change?
 In any event, levying a fine on a country, that is already in financial difficulty , will add to the difficulties.  It will be too late to be an effective deterrent

CUTTING STRUCTURAL FUNDS?

The Dutch proposal to reduce payments from the Structural Funds to  countries with excessive deficits  will  fall more heavily on poorer countries than on richer ones.
 Excessive deficits or economic imbalances in richer countries can be just as damaging as they can be in poorer countries, perhaps more so. For example, the Netherlands is less reliant on structural funds than is Estonia, so a proposal to reduce structural would hurt  Estonia  proportionately more than it would the Netherlands, even though their  excessive deficits  might be of  the same proportionate scale. That is unbalanced.
The proposal that budgets of deficit countries require advance EU approval is also potentially unbalanced.
 One country can only run a trade surplus if another country runs a deficit. If a country is deliberately managing its economy in order run consistent surpluses, it is contributing to deficit problems of other countries. That needs to subject to EU surveillance too.

DUTCH PROPOSAL TO SUSPEND VOTING RIGHTS IS NEO COLONIALIST

The proposal  by the  Dutch Prime Minister to suspend the voting right in EU institutions of a country which has excessive debts or deficit is tantamount to reintroducing colonialism within Europe, because it  would involve imposing decisions, in which they have  had  no vote, on  countries who joined the EU precisely because they  thought it was a democratic organisation.  The existence in 21st century Europe of a mentality that would make such a proposal is deeply troubling.
I am unclear about the merit of changing the Treaty to allow for the expulsion of a country from the euro zone. It would imply that the euro itself is a temporary expedient. It would aggravate speculative pressure, without any compensating benefits.

CONCLUSION

 
I believe the proposals from the CDU and from the Dutch Governments to  change the Treaties are not adequate to the problems we face, and in some cases are a distraction.
 The so called six pack proposals, recently agreed go a long way to strengthen disciplines on fiscal policy, and do not need Treaty change. They should be given a  chance to work, before we contemplate additional Treaty changes for control of national budgets.
But the CDU proposal for a direct election of the President of the Commission does deal with an important problem that underlies our present problem, namely the lack of a sense ,on the part of ordinary Europeans,  that they can, through their vote, influence the direction of EU policy.
 If citizens could  directly vote the President of the EU  in or out of office , that will give them a much more direct sense of control of the direction of the EU than they get  now from just voting  for their local or national MEPs.
None of the proposals on the table so far deal with the issue of banking, which is at the heart of our economic difficulties today. It was foolish lending decisions be banks that caused our problem.
The original Maastricht Treaty  of 1992 envisaged the ECB taking an overall role in overseeing the prudential supervision of  banks, especially banks that were lending across borders within the euro zone. This provision in the Maastricht Treaty was never brought into effect , because activating the ECB’s powers in this matter required unanimity. Some countries did  want not anyone else enquiring into their banks, and that reluctance continues even  to this day.

 
 Any Treaty change now should include

1.)  much tighter EU wide supervision of  banks,
2.)  restriction on the size of banks, and 

3.)  an EU  wide deposit guarantee scheme.

DOES THE EURO NEED A POLITICAL UNION?

SEVEN QUESTIONS THAT NEED TO BE ANSWERED


Wolfgang Munchau wrote in the “Financial Times” last week that the problems of the eurozone show that
“A monetary union without a political union is simply not viable”
This sort of statement is being made with increasing frequency by economists, none of whom seem to go much further is explaining what they really mean, and why. The statement is left hanging there, as if it was so obvious that it needs no further elaboration.
There are genuine problems, which prompt writes to say that the eurozone needs a political union to solve them. But he problem in the Eurozone is just a smaller version of the problems of the world economy.


We have had one set of countries(the hoarders) who have been cutting costs, exporting aggressively, saving the profits, and then lending the money on to another set of countries (the spendthrifts) who have been spending the money, building up property bubbles and paying themselves improved wages.
On a global scale, China and Japan are the hoarders, and the United States and Britain have been the spendthrifts.


Within the Eurozone, Germany, the Netherlands and Austria have been the hoarders, and Greece, Ireland, Spain Portugal and some others have been the spendthrifts.
For the economy to rebalance, the spendthrifts have to become hoarders, and the hoarders spendthrifts. If there were no spendthrifts, the hoarders would never have been able to sell their exports. So we all depend on one another in the end.


The questions Wolfgang Munchau and others, who say the euro can only work if there is a political union, need to answer are


1.) Who should be in the political union? All the existing eurozone states, or only some of them?


2.) If the Eurozone becomes a political union, what do we do with the existing European Union , which contains a number of countries who will refuse to join a political union or the euro eg. Britain?


3.) What should be the content of the political union? A common tax would obviously be part of it, but what taxes would be European and what taxes would remain national?


4.) How would a political union turn spendthrifts into hoarders and vice versa? What powers would it use to achieve this, and with whose authority?


5.) How much tax would have to go to the centre and how could it be spent to mitigate the problems now being experienced without creating a permanent dependency of some states on others?
The experience of federations like Canada and the United States does not suggest that an enlarged Federal Budget automatically leads to convergence between poorer and richer regions. Mississippi and Newfoundland are still as poor, relative to the rest of the US and Canada respectively, as they ever were.


6.) How would one make a political union democratic? Would the President of the political union be directly elected or would the eurozone parliament elect the Government?
A political union that lacked real democratic legitimacy would not work. But as we saw with the Lisbon Treaty, getting agreement on that will not be easy.


7.) Given that these questions will not be answered quickly, what do we do in the meantime to save the spendthrifts from their folly in borrowing all this money, and the hoarders from their folly in lending it?


I fear that talk of a political union is really a bit of a distraction. We need a set of practical proposals, that will be accepted as fair by both hoarders and spendthrifts. Maybe these proposals need some form of democratic legitimation by a single eurozone wide referendum. A risky strategy perhaps, but we are living in times when the risks of doing nothing are getting higher all the time.