Among the different proposals in the Five Presidents’ Report, that establish a plan to strengthen the Economic and Monetary Union of Europe from 1st July 2015, there was the creation of a European Fiscal Board, which was formally established in October this year. Today we talk about it with Massimo Bordignon, Professor of Economics at the Catholic University of Milan, who was appointed as a member of this new body.
(LD) What are the tasks of the European Fiscal Board?
(MB) The European Fiscal Board should play essentially three tasks. It should contribute to define an appropriate “fiscal stance” for the euro area, i.e. an appropriate aggregate fiscal policy for the whole area. It should advise the European Commission on the application of the fiscal rules as they have been set in the long journey from the Maastricht Treaty to the recent strengthening with the Six-pack and the Two packs. It should collaborate with the national fiscal councils that were introduced as a consequence of these same reforms (in Italy it is the Parliamentary Budget Office).
(LD) What are your expectations on the Fiscal Board?
(MB) There is a widespread perception, as also stressed in the Five Presidents’ Report that the institutional rules and mechanisms that govern the monetary union are not sufficient and that they proved in particular to be seriously insufficient during the financial crisis that started in 2008.
So there is the need to make progress. The Fiscal Board is one of those organisms that are expected to help making this progress and to offer a little more strength and structure to the monetary union. Within the limits dictated by the rules that the member States gave themselves, it should help in making progress trying to reach a better balance between two objectives both relevant. On the one hand, ensure that public finances of all countries that are part of the monetary union are kept under control, in order to avoid negative spill over effects on other countries, for example in the forms of financial contagion that we have observed during the euro crisis. On the other hand, try to make sure that these collective efforts lead to a level of aggregate fiscal policy that is appropriate to the economic conditions of the euro area. Since there are conflicts among countries over the weight to be given to these two objectives, the task of the Board is to help coordinating national fiscal policies, trying to find an interpretation more reasonable and beneficial to all.
(LD) The founding law of the Fiscal Board (October 21st, 2015) issued by the European Commission, asks it to express an opinion over the effectiveness of EU fiscal policy. Many think that the consolidation of public finances should not hurt investment and Mario Draghi wished for a more growth friendly fiscal policy, what is your opinion on the matter?
(MB) My opinion -as Massimo Bordignon, not as member of the Board, although I also believe it is a shared opinion, as it is part of the reasons why the five Presidents have asked to set up this body- is that a monetary union in order to function need different instruments at its disposal. The common monetary policy is certainly one of those. But there is a risk that relying solely on monetary policy to govern the economy might overburdening it, i.e. imposing on it tasks that the monetary policy alone is not able to reach. Monetary unions, or basically any country with monetary autonomy, typically impose fiscal constraints on sub-central governments, be them states, regions or municipalities. This is because the financial instability of these might call into question the financial stability of the whole country or the whole Union, as the costs migrate from the periphery to the centre. However, there is usually also a centre, a treasure that is able to implement an independent fiscal policy, should it become necessary. For example, during an economic crisis, the central or federal government can reduce taxes and increase spending to support a more expansive policy. There is no such a mechanism in the euro area. Firstly, the EU budget, as a whole, counts for only around 1% of GDP while public spending of the countries that belong to the euro area is around 45% to 50% of GDP. In addition, the centre has no debt while the debt belongs to the member countries. This is completely contrary to what happens in other countries. For example, in Italy the cumulative debt of all sub-central entities is near 6-5% of GDP, compared to a total debt near to 130% of GDP. In the absence of automatic stabilization tools, such as a European deposit insurance or European unemployment benefits - which have been discussed, but have not yet been introduced- then it is necessary that fiscal policies made at the national level are set so that from an aggregate point of view they can support the economy in a crisis situation. This has not been the case so far. The 2007-2008 financial crisis has a North American origin, but it is hard to deny that the United States got out the crisis better than Europe did as a whole. The overall output level of the euro area has just reached the level of 2007/2008, while the United States have largely overcome it. The set of policies that have been put up by the first Obama’s presidency to address the crisis contemplated a series of very accommodative monetary policies, the quantitative easing, but also a very expansionary fiscal policy, especially in the early years. In the Euro area we didn’t do the same. Monetary policy took a lot of time, given the institutional constrains, to take an expansive approach, while fiscal policy, except for the very first year of the crisis, has been generally restrictive. In particular, there is the perception that in the years of the euro crisis 2011-2013 fiscal policy was, at the aggregate level for the euro area, overly restrictive. In addition, the specific difficulty of the European case is that the effects of the crisis were very heterogeneous across countries. There is no doubt that the idea of a potentially inadequate fiscal stance comes from the observation that the level of EU recovery as a whole has considerably been worse than the American one. The basic problem is that the fiscal rules (Stability and Growth Pact), which we have put in place since the Maastricht Treaty, refer only to individual countries. But all the countries of the EU are closely interrelated with each other, both financially and in terms of trade pattern, and this strong relationship creates spill over effects among national fiscal policies. The risk is that if you only look at each single country in isolation, the total effect of the national fiscal policies can be overly positive or overly negative with respect to the economic general situation. So in summary: I certainly agree with the statement that the monetary union needs not only a common monetary policy, but also a mechanism on the side of fiscal policy to accompany, complement and allow monetary policy to fulfil its mandate. Particularly in this situation, there is another element that must be considered: the interest rates are near to zero. We are in a case Keynes would have called a liquidity trap, a situation which 20 years ago would have been considered just as a theoretical conjecture, but that now is very concrete problem.
(LD) So do you believe this Fiscal Board may change the austerity line followed so far?
(MB) This statement is too strong, in the sense that the European Fiscal Board has no executive powers of its own; it cannot impose on the Commission or the single States anything. But the hope is that through an independent and external point of view, the EFB may offer a contribution which will encourage fiscal policies to adopt a more coherent position with the economic cycle. My personal feeling, that I do not know to which extent it is shared by other members of the Board, is that during the economic crisis of 2011-3, fiscal policy has been overall too restrictive. If countries like Italy probably couldn’t do differently, since they were subject to a particularly serious financial attack, it would have been useful that other countries in better condition, starting with Germany, didn’t do the same. Since every country restricted the fiscal policy simultaneously, the overall effect, through the interrelationships between countries, was overly restrictive, pushing the area into recession, or to a growth level that was lower than the potential, with significant costs in terms of lost employment and product.
(LD) A few months ago Magrethe Verstager chose to condemn Apple to pay 13 billion in taxes in Ireland. The Fiscal Board will also give an opinion on the phenomenon of tax competition between countries belonging to the Union? What is your opinion about it?
(MB) No, it’s not part of our mandate. The Fiscal Board as such will not deal with these things. My opinion as a professor with respect to these matters is that this is another of those problems we need face within the European Union. We Europeans chose to make the monetary union and before we even abolished controls on capital movements. However, every country has handled the national taxation system in its own way. This has created potential problems of tax competition between countries. It’s a fact that capital and corporate taxation have been reduced in recent years, and it is a fact that the capacity of coordination of tax policies between the different European countries so far has been very limited. This has enabled the maintenance of forms of particular tax advantage for some countries in respect to others. In a federalist perspective, we should try to reduce these differences. The fact that the UK isn’t no longer a part, or at some point, will no longer be a part of the decision-making on taxation, may allow to make some progress in this direction. We did harmonize to same extent the VAT, because it was acknowledged that after removing trade barriers, it was necessary to avoid that the national autonomy in indirect taxation would recreate trade barriers in the form of differential taxation. I think this very line of reasoning should be extended to the taxation of companies and capital income. Ireland historically has had one of the lowest tax rate on corporate income: 12% on the taxation of profits. This was accepted and even somehow welcomed by the European Commission two decades ago, because Ireland was then a poor country in need to attract foreign investments. Now it is one of the richest ones. An aggregate fiscal policy for the euro area should also have among its elements a greater harmonization of taxation on mobile bases. Probably, one could even say that when it comes to business and capital income, tax harmonization should be worldwide. But a European Union with 500 million people, relatively closed with regard to trade with foreign countries, has a strong influence in keeping capital and business income and might disregard tax competition with other countries or areas. Recently, there has been some further steps in terms of information exchange, actually much following what Americans did. In fact, Americans, after the crisis of 2008 and the subsequent public outrage with respect to taxpayers who managed to make a lot of money without paying taxes, have strongly asked to introduce control mechanisms over the income of its residents abroad through the transmission of information. This mechanism has been incorporated in some way by OECD and then received and accepted by the Europeans. Some progress is being done. In a functioning federal system, it is fine that a company may decide to relocate its headquarters in a capital city rather than another for many possible reasons; it is not so acceptable that it does so only for tax reasons.
(LD) In your interview to the Università Cattolica you said that the Fiscal Board goes in the direction of a more federal management of public finances. Do you believe it is a good direction? What other steps forward should the European Union in this regard take?
(MB) The monetary union is a very strange case in the global landscape. There is no example in the world of stable monetary union that is based solely on a common monetary policy, leaving fiscal policies completely decentralized. There is a fundamental problem of allocation of sovereignty and decision powers. All in all, the euro area functioned decently well up to 2007; after that, with the crisis, it was put in serious troubles and had to rush to introduce a series of tools that did not exist before, just think of the European Stability mechanism. So we took some steps forward. In my view, though, these steps are not yet sufficient. It is unthinkable that starting with tomorrow we move to the “United States of Europe”, because there is neither the political will, nor probably the support of the public opinion. These are steps that take time. But some progress must be made right now, without waiting for a hypothetical future political union.
There are steps forward that still need to be done both at the institutional level (with different systems of legitimacy and decision-making mechanisms) and at the fiscal level (with the assignment of resources and competences to the centre). In particular, in the future it would be necessary an institutional change that transferred decision-making powers to the centre through different systems of legitimacy. In fact, for the moment the EU and in particular the European monetary union is not managed in a "federal" way; it’s run by the European Council made up by national leaders, the so called intergovernmental method. These leaders are democratically legitimate, but they represent their national public opinions, there is no one that represents Europe as such. There is the European Parliament that represents European peoples, but the European Parliament has no powers in relation to fiscal policy. It would be necessary a direct system of election of the President of the Union or of the President of the Commission and a greater role for the European Parliament. It is also necessary to introduce more room for decision at the federal level with respect to the European budget and resource utilization. At the moment not only is the European budget limited, only 1% of the total GDP of the area, but it is also extremely rigid. It is constructed and arranged with 7 years in advance by the countries themselves, who decide simultaneously how to finance and where to spend money. The Commission, even if it wanted to do so, does not have much leeway to change spending allocation: the President Junker had to make a very strong effort to peddle the limited resources to co-finance investments with the plan that bears his name.
(LD) Have you already met your new colleagues? What are your expectations over them? Did you already set a date for the first official meeting? Do you know which matter will you address first?
(MB) The quality and intellectual independence is unquestionable. Particularly President Niels Thygesen is a man of great authority, was one of the fathers of monetary union, it is a prominent and respected figure in the world. We already met once and we are putting down the working agenda also based on what are the demands of the Commission and the operation of the European Semester. Since there are different moments in which the role of the EFB can be more or less relevant. Now we will focus more on the part relating to the definition and estimation of the fiscal stance. There are already proposals in the Commission that will be evaluated and ourselves we will make our independent and autonomous assessments. Then later, ex post, there will be the time to value the decisions taken by the Commission with respect to individual countries on the basis of the evaluation that will be made in March of national budgetary laws and their implementation in November.
(LD) What I meant to deepen is what school of economic thought are they closer to.
(MB) The composition of the EFB tries to take account different views and experiences. Clearly, the attempt has been to choose intellectually independent figures who offer assurance in terms of professional capacity. The President Niels Thygesen is a professor emeritus, a long-time academic, Roel Beetsma, Dutch, and I are university professors, Mateusz Szczurek, Polish, was minister of finance in two Polish governments. The French colleague, Sandrine Duchêne, has an ENA formation, has carried out all her career at the French Treasury Ministry and has now an executive role in the private sector. So it's not just a matter of let’s say, “monetarists against Keynesians”. The composition of the Board tries to put together different sensitivities and different type of skills from individuals that come from different countries. The academics, who to some extent look at these issues more in terms of models and with a more abstract orientation, together with figures who have seen the same problems from a different point of view, more directly involved in policy making. As for the operation of the EFB: members seek to find a common position; if we fail there is a voting mechanism, we chose by majority in a situation in which the President of the EFB can never be outvoted.
(LD) After the 2007 economic crisis grew a feeling of discontent towards Europe, accused of excessive technicality. The Fiscal Board may seem yet another entrustment of Union on the opinion of the technicians. How do you respond to these criticisms? What is your opinion over the work of the technicians in the European Union and their relationship with politics?
(MB) Your question has several elements in it. One concerns the overall legitimacy of the European institutions including the Commission. I think this problem is serious. As I’ve already told you I think we need institutional change of the European Union, especially of the monetary union, we need figures that have stronger forms of democratic legitimacy. Because economic policy has elements of discretion and when you're discretionary, you must be accountable with respect to this discretion. I would be in favour of having stronger democratic legitimacy mechanisms, and give more autonomy to European institutions. The European Parliament, for example, should be able to express itself more on issues of fiscal policy. The second point, about the criticism made to the Commission as to be composed only of technical people, I think is a role play -it's pretty annoying, I tell the truth, that there is this role play. Much of this criticism is instrumental; it is useful to national politicians on the one hand to increase consensus at home by attacking Europe; on the other hand, it is useful because they do not want to take responsibility for interventions that they know have to be done. By the way, there are two opposite views. In Italy, the Commission is criticized for being too technical, without having the legitimacy to take its decisions; in Germany, the Commission is seen as excessively politicized, a body that for political reasons challenge previously signed agreements. Moreover, each country, on the one hand, in order to defend its interests, on the other because they were afraid that others could take advantage of it, added more and more exceptions to the fiscal rules. The result is very complicated fiscal governance, hardly understandable to outsiders. So the Commission from this point of view is really between a rock and a hard place. In my opinion, the EFB does not suffer from these problems. First, because it has no executive powers, so it is made up not by technicians who decide, but by technicians who advice. Second, because, differently from Commission that it is bound by the rules that countries gave themselves, the EFB has in its mandate the possibility, at least in terms of reflection, to discuss more freely these same rules. Without overdoing it of course, because it is still a European advisory body to the Commission and it acts inside the same regulatory fiscal framework.