In capitalist democracies, we know that crises are recurrent and that financial crises in particular, are cyclical. Today, the question is not really whether a downturn is going to occur or not, but rather when it is going to occur and what would be its expected magnitude. On other hand, History has shown that most common currency areas only last until a large series of economic and financial imbalances undermine their existence. The European sovereign debt crisis was triggered by the excess sovereign debt in several vulnerable peripheral countries. While the effects of the crisis were still unfolding, the EU brought several reforms into the Euro Area mechanisms. Most EU countries are now following a strict deficit reduction plan. However, the slow-motion of debt reduction coupled with the average periodicity of economic downturns tells us that the EU will hit the next downturn with a level of public debt substantially above the 2008 pre-crisis level.
Following the introduction of the euro, the reduction of interest rate differential and the free flow of capital in the euro area boosted consumption but were not accompanied by a proportionate growth of productive investment in the trade sector. Such movements were translated into a growing current account deficit which further increased the chronic reliance of the European periphery on foreign capital, thus deepening the differences between the so-called Northern and Southern Europe.
EU being the largest economic zone in the world is still very weak in institutional terms. A new economic and governing model for the eurozone is needed. Here’s a ten-step agenda for reforming and pushing up the euro zone:
- Political and governance reform
The creation of a European finance minister, with his own budget, are french proposals that bring velocity and transparency– however, more is needed. Europe needs to urgently decide the model for its Banking Union; to reinforce the assessing mechanism of national budgets and to enforce transparency at closed-door meetings like the Eurogroup sessions. In order to regain trust of citizens leaders must keep these doors open.
- Reinforcement of the EU budget
The European budget is financed by up to 1,24% of the national GDP. A reduction in this national contribution is needed, while allowing for the creation of European taxes to be applied on digital businesses or on the large-scale use of artificial intelligence algorithms as a trade-off. This new reinforcement of the European budget could be channeled to sectorial areas focused on creating a homogeneous economic region that evolves at a single pace.
- Euro zone corporate tax harmonization
Corporate Tax harmonization in the EU is an essential element to provide mechanisms to combat corporate tax arbitrage and tax evasion. It is a matter of justice, equity and solidarity between member-states. For each member state a clear limit of the corporate tax policy should be assigned, as well as the limitation of the indiscriminate creation of special economic zones.
- Transposing the balanced budget rules into a current account treaty
The existence of member-states with trade surpluses of over 6% GDP provokes serious imbalances in other member states with chronic trade. With a view to mitigating the impact of countries with high intra community trade surplus, the Commission should apply sanctions to countries with surpluses. These amounts would then be integrated into the funds destined for productivity support in transactional sectors in countries with persistent trade deficits to increase their competitiveness.
- Transposing rules of excess public indebtedness to the external total debt – rebalancing the external account
High external debt must be subject to specific rules of adjustment, as a Trade Treaty based on the model of the Stability and Growth Pact, and dedicated to external debt with intra-annual adjustment metrics. This would motivate a net external debt reduction supported by an increase in the trade balance. Additionally, those countries with persistent trade deficits must have a set of specific policies which aim to support its trade balance (e.g. increase in production quotas in the agricultural and fisheries sectors – it is incomprehensible that since countries such as Portugal joined the EU, they have seen their trade deficits in the primary sector grow by almost 50%).
- Re-levelling the levels of productivity
Disparities in productivity within the EU can be very large and generate an asymmetrical competitiveness landscape among member-states. On top of monitoring macroeconomic imbalances, it is necessary to monitor and correct the major drivers of those imbalances such as productivity.
- The need to enhance a savings incentive in member-states with large net external liabilities
Every mechanism that can encourage citizens to save a portion of their disposable income into a long-term investment account that can be taken until retirement should be incentivized using tax credits which should be awarded under the guarantee that this retirement investment account is not mobilized ahead of retirement. Bank savings accounts free of taxes are a solution.
- Re-centring the EU Investment agenda into the tradable sector
Productive investment is a key factor for future growth. The recent crisis penalized the more vulnerable countries aggravating their competitiveness gap. The EU investment agenda should be focused on softening the gaps of competitiveness of different regions in the European block and in overcoming the macroeconomic unbalances within the EU – which can mostly be achieved enhancing the productivity of industries focused in the tradable sector.
- Mutualisation of long-term public debt management
The asymmetries in the cost of financing within the euro zone turn the euro area into a sub optimum monetary union. It is thus necessary to harmonize the cost of financing of the different sovereign states which, in many cases, continues to represent a benchmark for the cost of financing the economies of the various member states. So, for member states who comply with the balanced budget rules and so as to guarantee the increase in the average maturity of public debt, the possibility should be given of issuing long term debt with the guarantee of a European Fund which would then be gradually capitalized (e.g. with funds from the European Central Bank).
- Encouraging diversification of sources of corporate short and long-term financing
Europe should incentivize a good asset liability management of its corporate sector in order to avoid the vulnerabilities of its investment agenda to the volatility of market financing conditions. Ideally every stakeholder, investor or bank should be incentivized to assure the match between projects future cash flows and the maturity of the financing instruments.
To wrap it all up, one thing must be said: if the euro area is to exist, and survive the next downturn, major changes in the governance and political model of the monetary union must be made urgently. And they should be on the next European elections agenda.
Miguel Pinto Luz is the Vice-Mayor of Cascais.