The EU’s Fiscal Mavericks

This month, 25 of the 27 EU member states are signing a new fiscal compact to place effective limits on budget deficits. The era of running huge debt against anticipated export returns will be over.

The compact will be one of the EU’s more successful policies, but 25 out of 27 is not consensus. If the PIIGS were not in such dire straits, they would be dragging their heels. After all, they were enjoying the growth benefits of huge budget deficits until 2008. The Slovaks signed up very reluctantly.  And Nordic support does not really count:  Fiscal discipline is part and parcel of their polity.

The Czech Republic and Great Britain have rejected the treaty, but for very different reasons, a difference that is symptomatic of the Union’s greatest problem. Europe’s peoples have, for too long, been ruled as part of separate nation states or empires.  This, inevitably, has led to the continuing development of diverging cultural and social mores, and expectations of normality, such that political unity in Europe beyond basic principles is unrealistic.

Britain is a good example: From the Act of Union in 1707 until the collapse of its empire, sovereignty was never shared, but merely broadened as the country’s conquests fanned out across the world. The United Kingdom has sought to maintain this imperial idea of sovereignty. The thought of ceding power is anathema to the British mind-set and, under a Conservative government, that sense of independence is fiercer than ever.

Historical precedent aside, there is also a significant economic imperative at stake. A financial transaction tax, which the fiscal compact anticipates, would threaten a lynchpin of the British economy.

Even post-financial crisis trade surplus in the UK financial services sector was a robust 2.6% of GDP in the first three quarters of 2011, as The Economist reported in January. "No other country, not even America," it stated "comes close to matching Britain’s trade balance in finance."

For the Czech Republic, the most threatening is the prospect of losing budget deficit flexibility. While Petr Nečas’s Civic Democratic Party is modelled on Cameron’s Conservatives – committedly eurosceptic and wary of allegiances, (some say legitimately after the strictures of the Warsaw Pact) – their economic constellation is quite different.

The cost of its energy imports from Russia outstrips its annual export returns, for example, but that hasn’t affected the strong growth of its economy. For the Czech budget deficit to be restricted by the fiscal compact would surely affect this adversely.

Moreover, the Czech Republic’s main incentive to agree to the compact may be waning too: the country’s official commitment to joining the euro. The Czech koruna has weathered the recession well. The fact that 99% of household debt was held in koruna meant that the Czech Republic did not suffer from dollar shortages precipitated by the downturn. After a smaller credit crisis in the 1990s, it put its own regulatory framework in place to avoid similar perils.

Since then, high bond yields in the eurozone, and weaker economies holding back the rate of inflation, have kept interest rates low, and the Czech Republic is a direct beneficiary. With Germany its main trading partner, and other eurozone members forming a significant proportion of remaining export partners, the koruna has maintained its value.

With the euro likely to fluctuate in the coming years, this leaves little incentive for the Czech Republic to join the eurozone. Accordingly, on 30 Jan., the Czech daily Lidove Noviny reported Nečas as saying that it would be "right to withhold any Czech entry into the monetary union."

That the fiscal compact has enjoyed a relatively easy ride is highly uncharacteristic of the Union overall; it is a result of political expediency in exceptional circumstances. Member states know that self-implementation of fiscal regulation would be far harder. Once financial woes begin to ease, policymaking will not be about desperate measures.  It will be about possibilities, and that is when the bickering will start up once again.

 

Guy Kiddey is a Cambridge graduate and runs a media strategy and production company. His clients include The Daily Telegraph, Medecins sans Frontieres and academic institutions.