What’s at stake: We’re closing our series on the future of European integration ahead of the 28-29 June European Council meeting (see our previous issues on a banking union and on a fiscal union) with a focus on the process of political integration. A political union is often seen by Germany as a precondition for other forms of European integration, while France sees the sequencing the other way around. Proposals are being prepared by the quartet of Van Rompuy, Barroso, Draghi and Juncker. The challenge for the plan’s authors will be to overcome the issue of sequencing, package their plan in a way that makes investors believe things will get done overtime, and minimize the risk of public backlash.
A political union as a complement to a banking and fiscal union
Lawrence Summers writes that in a sound system, those with deep pockets who act either as borrowers or as guarantors must have control over borrowing decisions. This is why there is now so much discussion of eurozone bonds and Europe-wide deposit insurance being linked with much deeper political integration. Crooked Timber writes that it’s hard to picture a less propitious time to be thinking about giant leaps toward deeper political integration. Yet it’s hard to picture a way out of the current mess without some form of deeper political integration.
Wolfgang Munchau argues that the obvious solution to a sequencing problem is to have it all: a banking union, a fiscal union and a political union. But we’re far from it as of now. The Bundesbank said there should be no banking union until there is a fiscal union. Angela Merkel said that there should be no fiscal union until there is political union. And François Hollande said that there should be no political union until there is a banking union.
Jean Quatremer points out that the disagreement between France and Germany on the issue of sequencing is an old one. Since the beginning of the European adventure, Germany has always campaigned for the creation of a European federation on the model of the German federal state. But every time Germany ran into France’s reluctance to share its sovereignty. France has for a long time remained suspicious of federal agencies that it cannot control (hence his preference for inter-governmentalism). Following the Maastricht Treaty of 1992, the Germans had made two offers of political union to the French, aware that the euro could not function without a lasting political union. In 1994, two members of the CDU, Wolfgang Schäuble and Karl Lamers, proposed to the government of Edouard Balladur to create a European Federal core (Kerneuropa). Balladur simply ignored the proposal. In 2000, Joschka Fischer – then German Foreign Minister – called for the drafting of a Constitution. In 2002, Jacques Chirac accepted the principle, but was unable to win the 2005 referendum. In 2012, Berlin will make another proposal to France. If France refuses this time again, it’s unlikely that there will another time and that there will ever be financial solidarity between the Member States of the euro area.
Weidmann’s roadmap and the role of fiscal rules
In an important speech at the ZEW in Mannheim, Jens Weidmann, president of the Bundesbank, argued that there are two ways of strengthening the foundation of the Eurozone. The first one focuses on the individual liability of states: sovereignty remains with nations while European rules and financial markets enforce discipline. Under this option, the Eurozone needs reform for it to become more resilient and less prone to contagion effects. The second way is that of a fiscal union, which he sees as far more problematic as it does not address the underlying structural problems of some member countries and may reduce incentives for the necessary reforms. For such a fiscal union to work, it has to be coupled with transfers of sovereignty to the supra-national EU level. In particular, national budgets must become subject to binding fiscal rules. Weidmann outlines that even following the principle of subsidiarity, the transfers required would be wide ranging and would have to include the ability to raise taxes or cut expenditures.
Simon Tilford and Philipp Whyte of the CER have a different view on the necessity of rules in a fiscal union. The authors essentially argue that there is a substitutive relationship between rules and common fiscal institutions. Although sovereignty transfers will be necessary to accompany debt pooling, these transfers should go to actual institutions and do not need to take the form of codified rules.
Lawrence Summers writes that one problem lying behind the soft references to greater integration is who will really have control. If decisions are genuinely to be made at eurozone level, it is far from clear that there is any majority or even plurality support for responsible policies. If the idea is that the eurozone will be modeled on the European Central Bank it is far from clear that this will or should be acceptable across the continent. Richard Koo (HT FT’s Alphaville) makes a similar argument writing that this would only make the problem worse by forcing the same fiscal policy on all countries, regardless of whether they were in a balance sheet recession. Meanwhile, Tim Duy realizes that what Europeans call a fiscal union is different from what economists usually have in mind. What is emerging as "fiscal union" in the Eurozone largely corresponds to a commitment to strict fiscal targets. This, however, is not how I would define a fiscal union. When I use the term fiscal union, I am thinking of a centralized budget authority capable of making automatic internal transfers.
In a recent note for Unicredit, Erik Nielsen writes that at one extreme, the present “rules-based regime” has not worked well because political leaders either change the rules when they become inconvenient (as Germany and France did in 2003), or they ignore them without penalty (e.g. Greece). The Fiscal Compact and "six pack" are useful, but they are unlikely to fundamentally change this political reality. At the other extreme, it is not clear that a fully-fledged political union as in the US, with a directly elected president and central government is needed either.
What Germany wants in exchange for pooling liabilities
The Economist’s Charlemagne writes that Merkel is pointing out the conditions for a German assent to any form of further pooling liabilities. Before pooling those, Germany wants to pool control of economic policies in order to preclude moral hazard. In Merkel’s understanding, the fiscal compact is the first step of political union; common banking supervision and competitiveness boosting may be the next steps that might soften Germany’s resistance to joint liability, as would be sovereignty transfers to EU institutions. However, such steps may be easier to cope with politically for a federal country like Germany than for centralistic countries and may consume more time than there is still to save the Euro.
Martin Wolf argues that one should not expect flexibility and scope for bargaining with Germany since its position is based on a mix of prudential, constitutional and moral reasons. Gavin Davies agrees with Wolf that in the German interpretation sovereignty transfers to EU level institutions are a very long-term project requiring constitutional (treaty) change and are not thus part of a possible bargain to get Germany to support Eurobonds. However, he believes a Debt redemption fund may be considered a potential German fall-back position. Even though marred with problems (requiring Italy to maintain a 4% primary instance for the indefinite future for instance), this may be the most the EU can get from Germany now with respect to debt mutualisation.
The Economist’s Charlemagne writes that much of Europe’s problems in tackling the crisis stem from not knowing whether the EU is more of a multilateral institution such as the UN or a federal “United States of Europe”, where central institutions can commit national governments on economic policies, a precondition for the actual instruments (banking union, Eurobonds) that might then be able to solve the crisis. A Hamiltonian moment, in which the necessity to unify – politically and fiscally – on the central level is understood, is not in sight, as is a European Alexander Hamilton. Two scenarios are deemed possible by Charlemagne: a “long and unnecessarily painful road to recovery” of Europe, but also a long and painful death should Europe find itself unable to agree on political union.
Wolfgang Munchau argues that the conservative narrative of the crisis remains unchallenged by the left, which is now repeating its biggest historic mistake. A solution of the crisis is not consistent with this narrative, whose pursuit is not in Germany’s self-interest as it would lead to ultimate bankruptcy – either a through a break-up or through the pursuit of Merkel’s non-committal policies.
A political union with no citizen involvement
Kenneth Rogoff writes that currency unions cannot survive without political legitimacy, most likely involving region-wide popular elections. Europe’s leaders cannot carry out large transfers across countries indefinitely without a coherent European political framework.
Crooked Timber argues that although we don’t yet know what, if anything, will result from this, the implication seems to be the yet more politics without policy choice. Cutting national sovereignty out of the picture could have lots of unforeseen consequences. Consent through gritted teeth can only be relied on for so long. In one country after another, and not just the countries in loan programs, support for further European integration is growing seriously problematic. EU institution-building was always an elite rather than a popular project – the democratic deficit is built into the woodwork. But people could live with this as long as it produced growth and stability. If ‘EU’ means your national concerns become invisible to your rulers, it’s hard to see how ongoing consent could be assured. If ‘EU’ equates to austerity and recession, the legitimacy of the whole project comes under increasing threat. You might end up trying to force closer integration on ever more fractious and resentful societies.
Kai Konrad argues that the tensions caused by the transfers may be greater threat to the continued existence of the EU than the debt crisis that only threatens the common currency, which is to be held separate from the union. Along a similar line, the Frankfurter Allgemeine’s Rainer Hank attacks the transfers of sovereignty described by Weidmann to the “dictator apparatus” of EU institution as a violation of the principle of “no taxation without representation”.
Eurointelligence points to an interesting article in The Irish Independent comparing the Eurozone crisis with the Scottish Darien scheme (1699-1701), when Scotland lost significant money in a gigantic property speculation scheme in Panama and was bailed out by England in return for political unification.
In his latest book, Jürgen Habermas calls for more democratic legitimacy of EU institutions and less behind-closed-doors decision-making by national leaders under narrow domestic pressures. His advice to the leaders is to abandon their piecemeal approach "steered by experts" and go for an honest and "risky" struggle with the wider public. Habermas argues that the Eurosceptic argument that supranational structures - such as the EU - lack democratic legitimacy does not hold as long as the "peoples" of Europe are directly involved and consulted through parliamentary elections and referendums on all matters decided at that level.