WIIW The Vienna Institute for International Economic Studies - Wiener Institut für Internationale Wirtschaftsvergleiche

By Philipp Heimberger and Richard Grieveson

While the migration and refugees crises continue to draw a lot of attention, it remains the case that the biggest danger for the EU and its Member States’ economic models – particularly of those countries which heavily depend on exports and are well integrated in the EU production networks - is largely being forgotten: the possible disintegration of Europe, via crisis-prone EU institutions, and a divisive economic policy.

At the European level, intensive debates are underway concerning the direction of economic policy and reforms of EU institutions. First, a comprehensive reform of the institutions in the eurozone is already long overdue, owing to the fact that recent years have mainly been devoted to crisis fighting. Second, the Brexit vote and authoritarian developments in Poland and Hungary have focused additional urgency with regard to the attainment of a solid institutional structure.

Decisive times for the EU

Emmanuel Macron, the president of France, has demanded greater reforms in the eurozone, in particular the creation a eurozone budget and finance minister for the bloc, in order to achieve budgetary mechanisms for adjustment between the eurozone countries. Germany has so far remained hesitant, if not outright hostile. The German chancellor Angela Merkel has made support for Mr Macron’s institutional suggestions dependent on the French president first achieving reform of the French labour market along German lines. The French government has already introduced deregulation measures (accompanied by huge controversy) such as the loosening of protection against dismissal of workers, and is now demanding concession on the EU level from the next German government.

In the meantime, the European Commission has published five scenarios for the future of the EU as well as a roadmap for deepening the European Monetary Union. Commission President Jean-Claude Juncker has indicated a preference for the scenario of all EU member states 'doing more together', which would require an expansion of the bloc’s budget and an increase of Brussels’ socio-political competences. Meanwhile, Mr Macron and Ms Merkel have signalled that they can live with an option where those countries which want to do more move forward together, while those who do not want to remain behind. That would mean an EU of two speeds, with a formal separation between core and periphery.

Upswing is a time for reform, not complacency

In large parts of Europe, the economy is currently booming. That is to be welcomed, but should not distract from the reality of pressing issues that the EU continues to face, in particular the continued very high unemployment rates in much of Southern Europe. Thousands of well educated (and often young) people from Southern Europe have left their countries during the last decade owing to the lack of work at home. The current upswing in growth rates follows on from the very tough years of the crisis and its aftermath, and will sooner or later peter out. Meanwhile the eurozone is institutionally not well equipped for the next crisis. The peripheral eurozone remains vulnerable to turbulence in financial markets, in part because no joint, safe debt instrument has been created (largely owing to German opposition). This makes speculation against the debts of individual countries possible. The fact that there is no joint budget makes it very difficult in times of crisis to put in place an adequate response to help countries which, for example, suffer a sharp spike in unemployment. The euro crisis could again quickly dominate the headlines, potentially with the elections in Italy in the next year, where anti-EU populists currently have to be expected to do well, or during the next negotiations between Greece and its creditors.

The EU is at a crossroads. Many suggestions for institutional reform are on the table. However, the German political stance is a stumbling block in the way of a better functioning EU. Whatever government emerges from current negotiations in Berlin, it must be urged to provide a long-term catch-up perspective for the Southern eurozone states. For these countries, it would not be possible to converge within existing institutional arrangements if there was simply “more of the same” in economic policy (with a focus on fiscal consolidation and labour market deregulation).

A change in budget rules and a “new deal” in industrial policy

Without economic convergence in the eurozone, the bloc could sooner or later break up. Two things are necessary. First, given that the implementation of a common Eurozone budget looks politically unlikely, the focus should instead turn to reform of EU budget rules. In this, the goal should be to restore the primacy of a democratically-legitimate national budget policy, as opposed to continued enforcement of counter-productive pro-cyclical deficit guidelines, which in recent years have exacerbated divergence in the single currency area. Second, the EU needs a “new deal” in industrial policy, via a large-scale investment programme in the countries which have fallen behind. This would not only support the economic convergence of the eurozone, but could also target directly improvements in social and ecological infrastructure.

Translated and adapted by Richard Grieveson from an article that first appeared in Der Standard. The original article is here (in German).

Photo: Roger Smith, CC-BY-NC-ND-2.0