European Fiscal Assistance: Only with Conditions

Axel Weber made an interesting speech last night. He recognises that European fiscal assistance to a member state may be possible, but only under extreme conditions. Moreover, in order to comply with the ‘no bailout’ clause, any loan would have to be conditional (he does not specify the list of conditions).

Key part of the speech:

“It should be emphasised that the “no-bail-out” rule, as stipulated in the EC Treaty, is an indispensable instrument for preventing moral hazard behaviour by the member states. With that in mind, issuing blank cheques would definitely be the wrong course of action.

Yet, EMU is our common destiny. If any kind of help for a member state were necessary in the improbable case of an extreme emergency, the clear conditionality of such support would be essential in order to comply with the Treaty.”

5 replies on “European Fiscal Assistance: Only with Conditions”

Well, now, what might those conditions be in Ireland’s case?

1) Corporate tax harmonisation

2) A plan for medium-term fiscal rebalancing

3) Yes to Lisbon

4) And … um …. did we mention corporate tax harmonisation?

Doesn’t this assume that moral hazard is the responsible actor here (article 103) and not circumstances beyond the Member State’s control (article 100.2)? How is this decided other than by political fudge?

It is worthwhile to keep in mind the intellectual climate around the question of appropriate conditionality. After the Asian crisis, there was something of a backlash against the intrusive conditionality — especially non-macroeconomic “structural” conditionaity — then favoured then by the IMF/US Treasury. Although one might wonder at what a German-driven version might look like, I would venture that it would focus on the size of the budget deficit and not attempt to dictate the structure of the tax system. The IMF now even goes softly in demanding fiscal retrenchment in a recession (witness Iceland). There are good reasons to minimise the risks of needing a bailout from anyone, but fears of an extensive loss of sovereignty strike me as a red herring.

The Maastricht Treaty “no bailout” rules are a poor guide to future EU action. These rules contain a balance between two conflicting aims: firstly, to reassure the Germans that the Euro would not become a mechanism to allow unreliable governments (the Italians) to tap into German funds but, secondly, to ensure that no Eurozone country would actually go bankrupt. The need for unanimity, except in cases of natural disaster, also reassured Germany that it could control any bailout. In practice, I think these rules will only apply if a Eurozone member cannot raise finance. Ireland is not an early candidate for such a crisis as the International markets will lend to Ireland so long as our overall debt/GDP ratio is manageable.

The real issue for Ireland is the Excessive Deficit Procedure. The Commission has already issued a report in accordance with SGP procedures in which the Commission held that the Irish GDP/Deficit ratio of 6.3% in 2008 while exceptional was not temporary; a reasonable finding in light of the Government’s “Addendum” document, which envisages a 9.5% deficit this year. While the EDP rules were softened in recent years, we are now on a path which could lead the Council to insist that we take such measures as are judged necessary by the Council in order to remedy the deficit. If we fail to keep to our 9.5% target this year (i.e. fail to bring in drastic measures next month), we will move rapidly along this dangerous path.

As interesting as Axel Weber’s remarks are per se is the fact that he chose to make them. This is after all an area where he has no legal competence: Mark is right – decisions relating to bail-outs and their conditionality and any other forms of fiscal assistance that might come into the reckoning will be made by politicians, not by central bankers.
When Bundesbank officials make public statements on matters that fall outside their remit, it is often because they have reason to fear that the politicians are moving towards a decision that they don’t like.
In this regard I am reminded of the public campaign led by one of Weber’s predecessors, Karl-Otto Poehl, against a generous Ostmark conversion rate in the context of GEMU back in 1989-90. In the event, the outcome was determined by political logic, helped along by the tide of history.
If BUBA couldn’t dictate the terms of GEMU, it’s not going to shape the future of EMU.

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