Last Monday Spain and the Netherlands surprised friend and foe by presenting a joint discussion paper on the EU’s fiscal framework. When it comes to the Eurozone, the Netherlands are seen as the leader of the ‘Northern’ or fiscally conservative bloc while Spain is firmly in the South. As a proud Dutchman and former happy resident of Spain, any cooperation between the two countries is certain to arouse my interest. You may remember we were once one country. Both Spain and the Netherlands were led by Emperor Charles the fifth (or Carlos the first) from his palace in Brussels. He is known to have said Quot linguas calles, tot homines vales: you are worth a person for every language you know. It was not to last: there were religious disagreements and the Dutch were unwilling to pay the tax needed to support the empire.
Much like then, the Dutch are still unwilling to pay for shortfalls in other European states. As much so that the Netherlands is one of the members of the ‘frugal four‘, along with Sweden, Austria and Denmark. Regardless of rhetoric, the foursome has more bark than bite, only willing to show its teeth with support of Germany. Although they had been opposed to any common European debt they did give their approval to the Next Generation EU fund worth 750 billion. For the first time the European commission is allowed to issue its own bonds. The EU has no own tax base to repay these bonds, but that is a problem we will solve later on.
Instead of taking its usual role as opposition to new proposals, the Dutch government has reached out to the Spanish to come up with a joint proposal. A surprising turn of events, perhaps to be explained by a surprising choice for Dutch minister of finance. Career diplomat Sigrid Kaag is respected for her work at the UN, most notably in the dismantling of Syria’s chemical weapons program. More recently, she had to step down as Dutch foreign minister after the disastrous retreat from Afghanistan. In the new government formed early this year she has the role of finance minister, the first person without any economic education or background to hold the post. Perhaps in the Eurogroup diplomatic tact is more useful than financial acumen. Regardless, I am going to critique her position paper. Her Spanish counterpart, María Jesús Montero, is a medical doctor. I hope she will be able to make some cuts to the Spanish budget.
The paper consists of seven points, point one is a nod to the current state of the world, including the war in Ukraine and the enduring effects of the pandemic. Points six and seven reaffirm commitment to the banking and capital market unions, processes started as a response to the 2007-8 crisis. It is in points two to five that the interesting points are made.
In point two the paper calls for ‘reinforcing fiscal sustainability in a more effective and efficient manner’, so far so good. Member states should work towards creating ‘fiscal buffers’ to weather the next economic storm. As all member states are consistently spending more than they have coming in, the idea of a buffer seems far-fetched. What the authors mean in my opinion is not a rainy day fund, but a fiscal policy which allows for additional borrowing when needed. In other words, member states should pursue a fiscal policy with only moderate deficits. Once again a reasonable objective. However, the authors assert that any strategy must be ‘compatible with economic growth and job creation’, and here it seems the finance ministers are looking to have their cake and eat it too. Any improvement in a state’s finances has to include either higher income or lower expenditure. Aiming to raise taxes and cut government spending while being unwilling to accept any impediment to economic growth seems a fool’s errand.
Any cuts in spending seem even more remote if we take into account the ‘sizeable investments effort needed to honor our ambitious commitments, particularly for the green and digital transitions.’ It is going to be quite a challenge to pull this off, while renewing fiscal responsibility and keeping up strong economic growth and full employment. Moreover, one wonders how this avalanche of public money will influence the dynamism of the EUs business sector. The paper’s authors are looking to ‘crowd-in private investments’. Although I know a bit about economics, I have to admit that I had to look this up. The crowding out effect is well known in economics: it states that an increase in government investment will replace private investment, thus having a limited net effect. The crowding in effect can happen if an economy is in recession or below capacity, in such a situation government investment can restore private confidence and thus drive more investments. It seems strange to mention this effect in the current situation when the stock market is reaching all-time highs, real estate has never been as expensive and there are enormous shortages of labor.
The fourth paragraph is the most important one. In this paragraph the authors rightfully assert that the current approach to fiscal responsibility does not work: member states simply ignore the rules. Even the notoriously frugal Germans seem to have forgotten their experience with hyperinflation in 1923. Or perhaps they are setting up 2023 as a 100 year homage to the creative central bankers of interbellum Germany. The paper is proposing a solution: ‘National governments could be better held accountable if they are also empowered to propose country specific … fiscal plans.’ In other words, we are going to let governments set their own goals.
Even then, these goals should not be too strict. Paragraph five calls for ‘well-defined escape clauses for extraordinary events outside of governments’ control’. I safely predict that 2023 will see the outbreak of a new war, a failed soybean harvest or a another unforeseen event. In other words, there will be ‘events outside of governments’ control’. I am willing to make the same prediction for 2024, 2025 and all other years up to 2341.
The paper aims to prevent members breaking the rules by getting rid of the rules altogether. Spain and the Netherlands taking a diplomatic initiative to solve Europe’s financial woes is to be commended. The position paper itself would be an embarrassment if it was the watered-down end result of a conference of all 27 member states. As a starting point of the discussion, it has as much value as a snowflake in a hot-tub.