In purely economic terms, and on the surface, the Euro crisis appears to be over. The recovery has gained in both strength and depth. Unemployment is now below its pre-crisis average. A number of former crisis-hit countries are staging an impressive recovery. Public debt ratios are coming down and the ECB is preparing to wind up its QE program by the end of the year. Nonetheless the recent meeting between Chancellor Merkel and President Macron in Meseberg, Brandenburg in the run-up to the forthcoming European Council meeting on 27-29 June can still rightly be seen as crucial. Economic misery continues, especially in Greece and Italy, but the deep wounds of the crisis have yet to heal in many countries. More fundamentally, the recovery hides the fact that major structural issues remain unresolved. The recent crisis of government formation in Italy illustrated this well, leading to a major spike in interest rates not only in the third-largest EMU-economy, with its low growth and debt ratio north of 130% of GDP, but also in other countries like Spain, with much lower debt and fast growth. The risk of contagion and of break-up has clearly not gone away. The recovery has merely papered over the cracks; but every recovery in history has given way to a downturn. The Euro Area, as currently institutionalised and with debt ratios still high, monetary policy highly expansionary, and political trust in short supply, cannot withstand a renewed downturn.
The political situation is also delicate. Having repeatedly articulated a big-picture vision for Euro reform, but forced to wait until after the German and then the Italian coalition-building exercises, President Macron cannot be denied interminably without the risk of handing ammunition to the Eurosceptic nationalists in France. In Italy the populist government has been persuaded to drop or water down its more incendiary ideas, but it could at any time shift back to a confrontational strategy with unpredictable and likely disastrous consequences. This threat and the importance of Italy in economic and especially public-debt terms, gives them leverage to demand institutional changes.
As if this were not enough, something clearly also has to give on the issue of refugees. Merkel’s conservative partners in Bavaria (CSU) have threatened – although in my view not entirely credibly – to take matters into their own hands on the border if a European solution to the problem of asylum-seekers already registered in another EU state seeking asylum in Germany is not found. Meanwhile the “frontline” states, Greece, Italy, Spain, quite rightly demand European solidarity and fairness.
Meanwhile the erratic behaviour of another President, Donald Trump, has focused the minds of EU leaders, not least Angela Merkel, on the need for European solutions and cooperation. This, too, has strengthened Macron’s hand, as France is the only serious military force on the Continent. The replacement of the conservative Rajoy by Sanchez in Spain, also bolstered the reformists.
Signs that the tectonic plates were beginning to shift had become apparent already in recent weeks in the form of a succession of interviews with and speeches by leading members of the German government (Scholz, Maas and not least Chancellor Merkel – paywall) emphasizing its European bona fides, declaring support in principle for Macron’s vision, and, in some cases, making some far-reaching policy proposals. Clearly this was an attempt to prepare German public opinion.
Yet the most important stop on the road to the Summit was a meeting of German and French political leaders, including Merkel and Macron, in Meseberg on 19. June. Reflecting the prior build-up of pressures for change, the declaration emerging from the summit was more concrete and ambitious than most observers had thought possible just a few weeks ago. It covered a wide range of areas, including defence cooperation and migration, but most of the detail came on EMU. I focus on EMU reform here, although the give-and-take between security and migration aspects on the one hand, and economic governance issues on the other is a striking feature.
The most eye-catching reforms proposed are the creation of a Euro Area budget within the EU budget, starting in 2021, and a European unemployment reinsurance fund. These are, on paper, a concession by the German side to Macron, as they reflect his long-standing agenda. In my view they would have been unthinkable as recently as a few weeks ago and their acceptance reflects the above-mentioned pressures. The details in both cases are sketchy and open to interpretation.
The budget is to be part of the EU multi-annual budget framework, which by itself suggests very limited volume, as the budget, facing revenue losses due to Brexit, is already tight and non-EMU countries will block large-scale spending devoted only to EMU members. But the Declaration refers obliquely to “national contributions, allocation of tax revenues and European resources”. Thus the size of the budget is not limited ex ante, and the possibility is left open to assign dedicated taxes (CO2, financial transactions) to filling it. Similarly the purpose of the budget (“competitiveness, convergence and stabilization”) is left vague. There is also no mention of a “finance minister” for the Euro Area with responsibility for the budget.
The design of an unemployment reinsurance fund is to be left to a working group, but a concrete date (December 2018) has been set for specific proposals. In fact a lot of research has been done in this area (e.g. here or here); the time is needed not for studies but to find political compromise. The one red line that appears to have been laid down (by the German side) is that the fund will refinance national systems experiencing a hike in unemployment in the form of loans, not transfers. Such a scheme could help deal with the serious problem of divergence within monetary union, dampening down demand in booming, bolstering it in countries in recession. However, other institutional developments are needed to really get to grips with this issue (here p. 14ff and here, especially p. 35ff. in German)
There is quite a lot of language in the Declaration on the European Stability Mechanism, without a very clear picture emerging. Generally, both the stabilisation function (ability to lend) but also measures to apply conditionality to support are to be reinforced in parallel. For instance “precautionary instruments” – which is support provided in early stages of fiscal or other tensions, before a crisis situation has arisen – are, to be strengthened but they “need to involve conditionality”. As recently argued (here p. 14), it is important that the ESM is initially enable to lend limited amounts without conditionality. This means support can be provided swiftly, and speculators will know that the ECB stands ready to enact asset purchases under the OMT programme from the outset, should this be necessary. Conditionality should only be imposed for larger and more longer-lasting programmes. The balance of monitoring responsibilities between the EU Commission and the ESM is left open. What is clear is that the ESM is to backstop the Single Resolution Mechanism (the fund that enables banks to be wound up without excessive collateral damage) and be incorporated into the Treaty – as the Commission has already proposed – possibly under a new name. On the thorny issue of IMF participation in stabilisation programmes, the Declaration takes a middle road; countries may ask for financial assistance from the IMF; as opposed to the German view (which is that it is necessary) and my own view, which is that Europe should manage its own programmes without the complexities of coordinating, on the creditor side, between EU insitutions and the IMF, which caused much grief in the Greek saga.
Where the declaration clearly disappointing is in failing to make a clear commitment – setting out the necessary conditions – for a common deposit insurance (EDIS). This is vital (here p. 10). One can only conclude that considerable differences of opinion pertain on this issue between the two countries.
On some less crucial, but nonetheless important, issues, there are encouraging noises regarding aligning corporate tax rates between the two countries and on pushing for an early agreement on “fair digital taxation”. (Could this be a source of finance for the euro budget, one wonders).
Given the lack of concreteness it is easy to dismiss the Meseberg Declaration is lacking ambition or importance. This would be serious error, however. Firstly, this is an agreement between two member states (even if they are the two largest) immediately prior to a meeting in which decisions are to be taken by 27 heads of state and government. Already the Declaration will be seen as setting the frame, and any more detail would surely have led to objections from smaller member states that their views were being marginalised. Second, EU politics is a battle of position not of movement. The precise details of a proposal are less important. What is crucial is to get a basic institutional concept – such as an EMU budget or an unemployment insurance scheme – on to “the books”. That is hard, especially if Treaty changes are needed. Once an institution is established, it is comparatively easy to extend it mandate or increase the resources at its disposal.
It is to be hoped that, given the current more favourable political constellation, concrete measures can be agreed already at the June, and failing that at the December Council this year. This would at least give a breathing space. It would help to stabilize the recovery, bolstering confidence and resilience, and enabling fiscal and monetary “ammunition” – if I may use the metaphor rather loosely – and the political capital of national governments to be replenished. In the longer run, certainly, more far-reaching reforms will certainly be required.
The struggle continues.
 Somewhat confusingly a ministerial-level „roadmap” was also circulating in the public domain. It contains some more details, but given that these appear to have been explicitly scratched by the Chancellor/President, I have stuck to “their” text, which surely takes political precedence.