Mon discours au Atlantic Council à Washington

Atlantic Council – 6 october 2016

« How does the Euro Area balance growth and fiscal responsibility: Current practice and prospective reflections »

Ladies and Gentlemen, Dear Andrea,

Thank you for inviting me to this event and for giving me the opportunity to explain where Europe is considering taking its fiscal policy.

In the past, Europe’s partners have aired concerns over the impact of its fiscal rules on growth. I am in Washington, DC for the Annual meeting of the IMF, as well as meetings of the G7 and G20. These are forums where such views have been expressed repeatedly.

These concerns are legitimate.

They are also mirrored in Europe. There is a fierce debate between those who support the continuation of fiscal consolidation and those who consider that boosting growth should be our top priority.

This is even more true in my home country. You may know that France will hold general elections next year. A significant number of candidates for presidential primaries – across the political spectrum – are questioning Europe’s debt and deficit rules. Violating these rules is even an explicit and prominent platform plank for many of them.

There is more to these rules than meets the eye, though. What I would like to explain today is how Europe will continue abiding by these rules, without self-sabotaging.

*

*        *

Let me first go back in time and remind you why Euro area members agreed to cap their debt and deficit levels (60% of GDP for debt, 3% of GDP for deficit).

To put it simply: these rules were the result of a political compromise. The euro currency is a shield: joining the euro area means that you will benefit from conditions that were previously available only to Europe’s strongest economies. In exchange, rules were needed to make sure no member would abuse the system and act as a free rider.

So it was a trade-off: solidarity in exchange for fiscal discipline, i.e. common rules to keep our house in order. And European leaders cared enough about this trade-off to enshrine it in the Treaty – our highest legal order. To put it a little bit more dramatically: these rules are the political condition for the very existence of the euro.

This trade-off is still valid today, even if conditions have changed (growth, inflation, interest rates, resilience of the financial sector…). Amending the rules would require preserving this balance between solidarity and responsibility.

My job, as EU Commissioner for economic and financial affairs, is precisely to address current challenges while working with this balance.

*

*        *

Over the years, Europe has applied itself to design smart fiscal policies, i.e. policies that comply with the rules without crippling growth. Both on paper and in practice.

First, the rules have been gradually refined. They used to be a rather blunt instrument, catering poorly to particular national situations. Over the years they have become « smarter ». The position of a given country in the economic cycle, or its efforts to implement major reforms for instance, are now better taken into account. Smarter rules came with a price tag: complexity. I’ve had Finance ministers confess to me that they are not sure their country is compliant because they do not understand the rules.

Over the past two years we have also implemented these rules as soundly as possible.

Over the past two years we have also implemented these rules as soundly as possible. There is room for flexibility. For instance in January last year, we issued detailed new guidance on how investment efforts should be better taken into consideration within existing rules, in support of jobs and growth.

One example: in July, the Commission proposed not to fine Spain and Portugal. Both countries failed to correct their deficits up to legal requirements, although they rolled out rigorous consolidation measures. This recommendation was made in light of “the challenging economic environment, both countries’ reform efforts and their commitments to comply with the rules of the Pact.”

Some may actually feel that we have become too lenient. Let me put it this way. Yes, political considerations came into play when we decided not to sanction Spain and Portugal. One such political consideration is how low the approval rate of the EU is today. But we did not engage in politicking. No rule was ever broken. No decision was made that did not have the full support of the College of Commissioners, regardless of partisan affiliation.

Smart rules and implementation practices are crucial at the current economic juncture in Europe. Economic recovery is ongoing but is still modest and uneven. Disparities across the Euro area persist. Unemployment is subsiding but is still at unacceptably high levels (above 10% in the euro area). We have turned a corner but this is no time for complacency.

We should not turn exclusively to monetary policy to address Europe’s lingering weaknesses. I fully share Mario Draghi’s view that « monetary policy cannot be the only game in town« .

So what’s left for Europe? Basically, a combination of structural reforms, determined support to investments and of course responsible fiscal policy. I would refrain from calling it a « growth-enhancing fiscal policy » – that is about as frequent in real life as a « temporary tax hike »… So let’s opt for « growth-sparing fiscal policies ».

*

*        *

I see three possible avenues for progress on the fiscal front in Europe.

Looking forward, I see three possible avenues for progress on the fiscal front in Europe.

One is simplification. Complexity is a political problem. It fuels the suspicion that the rules are not applied, or not applied uniformly. And this in turn undermines the credibility of the European Commission. Simpler rules would enhance transparency and democratic oversight. But they would also be blunter. Striking the right balance will be no easy feat.

We refer to this as Europe’s impossible trinity. We cannot have it all. We cannot have at the same time automatic, simple and intelligent rules. Simple yet intelligent rules call for more discretionary power. In other words, decisions would need to be less rule-based and more institution-based. The ECB offers a compelling example of this model. But it does not have to bother as much with this modern-day nuisance that is called democracy…So unless we decide to seek inspiration from the « taxation without representation » car plates I have seen around DC, a fully institutions-based model for fiscal policy is not around the corner for Europe.

The second is flexibility. Investments and far-reaching structural reforms feature more prominently in our implementation doctrine. But new developments bring new questions. What about expenses occurred due to the refugee crisis? What about rising security costs in countries hit recently by terrorist attacks? Rules must be complied with. But they are not sacred or forever set in stone. This is a lively debate in European political circles today and I expect that it will remain so for the near future.

There are different ways to inject more flexibility into the system. One I would call the « six-feet under » way. We could « neutralize » certain categories of expenditures under the rules – for instance defence-related expenditures. This would typically lead to very creative accounting at national level. There is a cleaner avenue: shared resources pooled from national budgets. National contributions to the pool could be neutralized under the Pact. And the « clean » option would have the additional benefit of prefiguring a fully-fledged fiscal capacity for the euro area.

Third: the overall euro area fiscal stance. I have pushed for this notion to feature more prominently in our thinking – even though in some European capitals it is anathema.

The U.S. has a fiscal stance; the euro area does not have one as such. What the euro area has is the ex post combination of seventeen, largely uncoordinated national fiscal stances. In other words, you have a fiscal stance by design; we in Europe have a fiscal stance by chance.

In spite of this flaw a pattern has emerged over the past two years. In my first year of office, the overall fiscal stance was broadly neutral. Today, it is slightly positive. In his annual speech on the state of the European Union in September, president Juncker indicated that the European Commission will « promote, in the next Recommendation on the economic policy of the euro area, a positive fiscal stance for the euro area, in support of the monetary policy of the ECB. » This is a significant – and welcome – departure from past practice.

We will have to take into account significant heterogeneities across the euro area to implement this. Some member states will not be able to contribute to the positive fiscal stance, due to their elevated debt levels (e.g. IT). Some run surpluses over and above what EU rules require but are unwilling to make use of their fiscal room (DE). And some may be both able and willing but constrained under the rules of the Pact (FR).

Designing an overall positive fiscal stance for the euro area will therefore require some dexterity.

Designing an overall positive fiscal stance for the euro area will therefore require some dexterity. Countries with low growth, high unemployment and high legacy debt could contribute to the stance to close the output gap and reduce unemployment – but this will come with heightened risks for their financial stability. Countries with relatively higher growth, low unemployment, and fiscal room for manoeuvre could contribute to keep these risks in check, but it is unclear how this will benefit other EA members in the short run. In other words, we may very well engineer overheating in Germany while failing to support growth in Italy.

Success is possible but not unconditional. Ensuring effective impact will require that utmost consideration is paid no just to the levels of public finances, but to their quality and structure. Spending for the sake of spending is not going to do Europe much good. What we need is spending that is targeted, and that is efficient. This will be within reach when governments will be serious about systematically evaluating the quality of each euro they spend.

*

*        *

Balancing growth and fiscal responsibility in the euro area today is a challenge, but not one we are shying from.

Ladies and gentlemen, dear guests, balancing growth and fiscal responsibility in the euro area today is a challenge, but not one we are shying from. There may be more discussions at G7, G20 or IMF level on this subject in the years to come. This Commission is determined not just to shape the debate, but to make a decisive contribution.  Thank you.