The EU’s Seven-Year Budget Itch

This article was also published by Project Syndicate.

It’s theatre season in the European Union. The play, called budget negotiations, is performed every seven years. It pits the EU’s spenders against its savers, donors against receivers, and reformers against conservatives. After the actors have exhausted themselves with bluffs, bullying, blackmail, and betrayal, everybody agrees on minimal changes. Each government claims victory and EU public spending is set in stone until the next performance.

Drama aside, however, watching the negotiation of the multiannual financial framework, as it is called, is a deeply depressing experience. All countries view it from the perspective of net balances – how much they receive, less how much they pay – without regard for the intrinsic value of spending. And, because wasting money at home is regarded as better than usefully spending it elsewhere, the composition of expenditures bears no relation to the EU’s stated priorities. In 2003, “the Sapir report” on Europe’s economic system called the EU budget a historical relic. Things haven’t improved much since then.

Theater season opened on February 23, when EU leaders held their first talks on the 2021-2027 framework. Optimists hope that it will end before the European Parliament election in June 2019. Realists expect it to last until the actors run out of time – that is, the end of 2020.

Seasoned European observers play down the significance of the show. They note that it is not primarily money, but regulatory policies – governing competition, subsidies, consumer protection, financial safety, or trade – that define the EU. Its budget represents about 2% of total public spending in the EU, and it has actually decreased over time, from 1.25% of GDP in the 1990s to about 1% in the current period. The US federal budget, by contrast, amounts to 20% of GDP. So why bother with a budget that remains small and misused? The EU has bigger problems to solve, critics say.

But this time, there are four reasons why the discussions matter, and why complacency would be misplaced.

The first is Brexit. Because the United Kingdom was a net contributor, it will leave a €15 billion ($18.5 billion) funding gap and force the EU to decide whether to substitute missing revenues or to cut spending. Adding to the drama, the misers’ bloc to which Britain belonged has fractured, with Germany indicating a willingness to be generous, while the Netherlands and Sweden are adamant they will not contribute a penny more.

Second, there is a growing gulf between money and politics. Poland’s net receipts from the EU amount to €10 billion annually, making it the leading beneficiary of the EU budget. But the Polish government’s priorities, and even values, are “increasingly at odds with those of the EU. It opposes taking in asylum-seekers, it faces a European Commission-initiated procedure for threatening the independence of the judiciary, and it has shocked Europe with a law criminalizing allegations concerning Poles’ “complicity in the Holocaust.

These actions have led German Chancellor Angela Merkel to suggest that conditionality be imposed for access to EU funds. This potentially explosive discussion can be avoided only if the EU is willing to shut up and pay, as some in Poland (and also in Hungary) demand. In that case, however, the EU would risk a different explosion. After all, for how long will citizens in the rest of Europe be willing to open their wallets only to be slapped in the face?

The third reason this theatre season is so important is that Europe’s strategic environment calls for new priorities. From Ukraine to the Middle East, Libya, and the Sahel, the EU’s immediate neighbourhood is either unstable or in turmoil. Meanwhile, the United States no longer “provides the reliable shield to which Europeans had grown accustomed. The EU grew up in a world where it could safely concentrate on its own prosperity. That world is gone.

What we are facing is a redefinition of EU public goods, and this must entail deep budgetary consequences. The European Commission has bravely put “some numbers on the table. It proposes to spend about €3-4 billion per year more on border security and a still-modest €5 billion per year on defense, as well as increases for research, innovation, and the Erasmus program. It also envisages annual spending cuts for regional aid and agriculture that could reach €30 billion.

Numbers, at this stage, merely flag issues. But the Commission’s boldness is justified. Regional policy and agriculture comprise nearly three-fourths of the EU budget, and both are questionable. Regional policy fueled eurozone booms in the pre-crisis years, but provided little help to struggling countries afterwards. And it is not granular enough to address the consequences of trade opening for local communities. The Common Agricultural Policy is increasingly ill-suited to guide the transformation of a much more diverse EU farm sector. To recalibrate them and thereby finance new priorities would be fully justified.

The last reason why budget issues matter this time around is that French President Emmanuel Macron has opened a new discussion about establishing a specific eurozone budget. The prime justification for creating one is not that certain public goods should be reserved to the EU’s eurozone members, but that a common fiscal instrument would cushion country-specific shocks and complement the European Central Bank’s monetary policy when facing common shocks. Whereas the EU budget performs no significant macroeconomic role in cross-country stabilization or in aggregate terms, as it does not record surpluses or deficits, the opposite would be expected from a eurozone budget.

There is no agreement yet on the contours of such a budget, especially as Germany is wary of creating a channel for cross-country transfers and joint borrowing. But this does not mean that the discussion has no future. If the EU27 prove unable to agree on sensible reforms of their budget, the eurozone’s 19 members (which include neither Poland nor Hungary) could gradually move toward creating their own. The EU budget would eventually morph into it, or become a small relic.