ANALYSIS OF EUROZONE GOVERNANCE

The economic governance framework of the European Union could be said to be one of the most (discussed) "controversial" structures for a long time. It has the unenviable task of managing the tension between a highly integrated Economic and Monetary Union (EMU) and a decentralized national fiscal and economic policy.

Given the sheer scale of this challenge, the framework itself has naturally evolved over the years into a complex edifice of detailed rules and exceptions. This structure has received considerable criticism from both sides of the divisive debate on EU fiscal policy. Experts accuse her of not reducing high debts and enforcing non-transparent austerity and excessively flexible enforcement and inhibition of investments. At the same time, these debates often also included calls for greater solidarity among member states, which oppose calls for fiscal responsibility. In addition, the Union (over the years) has also been called upon to coordinate an increasingly wide range of economic policy priorities, from the dual digital and green transition to social investments.

In short, to make everything easier to understand, it is necessary to start from the beginning and look at the history of its creation. The Economic and Monetary Union began to be "(established)" in 1969 at the summit in The Hague. A group led by the then Prime Minister of Luxembourg, Pierre Werner, prepared a report according to which the economic and monetary union should be fully realized within ten years based on a multi-stage plan. The ultimate goal was the complete liberalization of the movement of capital, the complete exchangeability of the currencies of the member states and the irrevocable determination of exchange rates[1]. After several fluctuations, breakdowns and adjustments, the EU has been in the economic and monetary union since January 1, 1999, according to the official interpretation of the Commission. Since then, all EU member states participate in EMU, even if they have not yet entered the euro area and adopted the euro as a common currency. This means that the ten new member states, including Slovenia, participated in the EMU from the moment they entered the EU. Briefly, today, the Economic and Monetary Union (EMU) represents the process of coordinating the economic policies of the EU member states and is based on the euro and the common monetary policy, the main objective of which is to maintain price stability.

All in all, therefore, it encompasses the closely coordinated economic policies of the member states and is based on the common market. The condition is compliance with criteria in the area of price stability, healthy public finances and economic growth. The introduction of the euro means the transfer of monetary policy authority to the euro system, but it also brings certain macroeconomic and microeconomic benefits. Only the monetary policy of the euro area is determined and implemented by the euro system. Its main goal is to maintain price stability, i.e. keeping the inflation rate close to 2% in the medium term. The aforementioned also carries out foreign exchange transactions and manages the foreign exchange reserves of the countries of the euro area and supports the smooth operation of payment systems. The euro system itself, which consists of the European Central Bank and the 13 national central banks of the euro area countries, is managed by decision-making bodies at the ECB.

The effectiveness itself, according to the review of the framework of economic management, I could say that it is undoubtedly "mixed". There are a dozen common concerns about, for example, the operation of the Stability and Growth Pact[2], such as:

Many highly indebted countries have not successfully reduced their debt shares after the Eurozone crisis (2011-2013), despite their compliance with deficit and expenditure criteria having improved significantly.

The SGP rules also led to pro-cyclical dynamics. Many member states failed to build fiscal buffers during relatively good economic times (i.e. 2003-2007 and during the post-Eurozone crisis and the COVID-19 outbreak[3]), while the EU as a whole engaged in highly pro-cyclical consolidation during the Eurozone crisis.

The reference values themselves are not based on economic criteria, but rather reflect the average macroeconomic conditions of the 90s[4].

The complexity of the "Stability and Growth Pact" rules undermines their credibility and transparency and contributes to weak enforcement. After the reforms of 2005 and 2011, the "Stability and Growth Pact" has become a complex system of overlapping indicators, with several derogations justifying the implementation of "ad hoc" flexibilities. In practice we see that, for example, compliance with preventive work was considered sufficient to ensure compliance with the debt criterion. Therefore, excessive deficits have not been opened despite the fact that the debt shares are not being reduced by one-twentieth[5].

There is a large gap between the fiscal framework and the actual budgetary process of the Member States. The fiscal aggregates used, especially the output gap, are not easily translated into budget conditions, further complicating enforcement. Countries with a weaker budget framework are particularly prone to fiscal deviation[6].

Due to the lack of central fiscal capacity together with the centralized monetary policy of euro area countries with higher debt burdens, they may not have the fiscal room to respond to country-specific shocks,…

We also see from the EC documents that the composition of public expenditures is affected by the lower political costs of reducing public investments during consolidations. Public investment has declined since the 2011 eurozone crisis, particularly in southern Europe (Figure 1).

Despite the strong potential of high-quality social services and social infrastructure to generate economic returns, reduce inequality and increase social cohesion, cuts have also been directed at social investments[7].

Moreover, as the European Fiscal Board (EFB)[8] points out, the use of flexibility and discretion does not encourage Member States to improve the composition of public finances. In general, the implementation of the "Stability and Growth Pact" was biased against investment. Overall, in sharp contrast to the prevailing conditions in the 1990s, persistently lower interest rates in 2010 made higher debt levels more sustainable. Combined with low growth and (before COVID-19) low inflation, fiscal policy has become a necessary complement to monetary policy at the zero lower bound[9].

One of the main criticisms of the Stability and Growth Pact framework is its consistent unresponsiveness to these changes in the macroeconomic environment. Attempts to introduce more flexibility and discretion into the framework have generally not deterred this, focusing more on temporary annual deviations than structural targets. Interesting…

There is also considerable debate about the sustainability of this macroeconomic environment, especially given the recent rise in inflation and the macroeconomic implications of the green transition[11]. It should also be noted that an important component of the fiscal space gained in the low interest rate environment is related to purchases by the European Central Bank (ECB).

However, if I comment on the economic impact and response to COVID-19 itself, I could say that the EU has responded decisively to manage the economic impact of COVID-19. In March 2020, the European Commission activated the GEC, enabling member states to respond to an unprecedented health and economic crisis[12]. As countries with higher debt burdens saw their borrowing costs skyrocket, the ECB responded decisively through its Pandemic Emergency Purchase Program, creating the necessary fiscal space to act. The level of fiscal coordination and complementarity between fiscal and monetary policy stands in stark contrast to the events of the 2011 Eurozone crisis.

Two important innovations in the EU's economic governance architecture corresponded to these national efforts and those of the ECB. The RRF, financed by EU central borrowing, directs investments to the most affected regions of the Union to speed up their recovery following national stabilization measures. Meanwhile, the European Instrument for Temporary Support to Reduce Unemployment Risks in Emergency (SURE) provides low-cost loans to national unemployment schemes[13].

These measures have helped member states' economies in critical times and the EU has virtually returned to pre-pandemic production levels, with better-than-expected recovery in hard-hit countries such as Italy.

According to the latest data, in the third quarter of 2021 the ratio between the deficit and GDP of the EU27 was -3.3%, and the total debt reached 90.1% of GDP (97.7% in the euro area) (Figure 2). The EPC Working Group generally agreed that the fiscal rules should be reactivated (probably in 2023) and without changes (or without highly flexible interpretations) would likely be politically, socially and economically unsustainable in countries with high levels of debt. Given the growing debt burden in the worst-hit countries, a one-size-fits-all approach to debt reduction is increasingly unrealistic. COVID-19 may also have long-term consequences that exacerbate macroeconomic imbalances between member states.

The pandemic has also highlighted the continued vulnerability of countries with high debt levels to shocks despite the general environment of low interest rates and their continued dependence on the ECB to create the necessary fiscal space[14].

1. If we look at last year (2022), we see that the economic situation after the pandemic and all the consequences of the war in Ukraine, mainly in the form of a sharp increase in energy prices, led to an unexpected increase in inflation in the euro area.

The Euro system completely changed its monetary policy, reduced the volume of purchases of securities and raised interest rates. In response to fears that the government bonds of countries with high debt will have excessive yield differences, the ECB also announced an "anti-fragmentation instrument" (TPI) in July 2022.

The EU's economic governance framework needs to be adapted to ensure fiscal sustainability and macroeconomic stability while simultaneously promoting the Union's strategic objectives and respecting the balance of EU and national competences. To be effective, any reforms must balance flexibility with effective governance and enforceability to overcome any lack of confidence on the part of member states. Only in this way will the economic governance framework be suitable for dealing with the pressing challenges facing the Union.

At the same time, the issue of globalization also arises, on which smaller countries (such as Slovenia) especially depend? How to act in these "difficult" times? And predict in which direction globalization will develop? After reading sources from The Guardian to the Financial Times to The New York Times, of course no one has a good answer. Everyone is merely observing current events and making hypotheses.

Some talk about deglobulisation, others guarantee that the current globalization will only be transformed. And because companies want to protect themselves, they are creating alternative supply chains that are supposed to be more resistant to political shocks[16]. The third, such as UN Secretary General Antonio Guterres[17], warns against the bipolarization of globalization (which we also mentioned in the lectures), i.e. that due to the separation of the USA and China, we will get two parallel systems of globalization, with two sets of rules, two dominant currency systems, two internets etc.

Among others, Niall Ferguson (who could be said to be a provocateur among historians), believes that we can start talking about re-globalization only when de-globalization takes place? A lot of interesting points of view (individuals), so...

My opinion regarding globalization is that we (urgently) need it. It allows specialization so that countries can specialize where they are best, it allows less developed countries to pull themselves out of poverty through specialization, and small resource-constrained countries can fully develop. A real case (or problem) is just unfolding. The war in Ukraine, limited energy supply chains, limited supply of materials, labor shortages, etc. It is better for China, USA and Russia to trade with each other than to fight for energy and natural resources like before WWII. Of course, the USA still needs to be convinced of this, for which the current globalization, which they designed and directed themselves, suddenly no longer suits...

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Ur?ka Kalan

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[1] https://www.europarl.europa.eu/factsheets/sl/sheet/79/zgodovina-ekonomske-in-monetarne-unije, 06.06.2023

[2] For a comprehensive overview of the operation of the Stability and Growth Pact following the six- and two-pack reforms, see European Fiscal Board (2019), op.cit.

[3] Schuknecht, Ludger; Philippe Moutot; Philipp Rother; and Jürgen Stark (2011), “The Stability and Growth Pact: Crisis and Reform”, Frankfurt aM: European Central Bank. European Fiscal Board (2020), Annual Report 2020, Brussels: European Commission.

[4] See Buti, Marco and Vitor Gaspar, “Maastricht values”, VoxEU, 08 July 2021. Blanchard, Olivier; álvaro Leandro; and Jeromin Zettelmeyer (2021), “Redesigning EU fiscal rules: From rules to standards”

[5] European Fiscal Board (2019), op.cit.

[6] Rodríguez, Lucía (2021), “The role of the Independent Fiscal Institutions in assessing the sustainability of high public debt in the post-Covid era”, Brussels: The Network of Independent Fiscal Institutions.

[7] Rayner (2021), op.cit.

[8] Thygesen et al. (2020), op.cit

[9] The zero lower bound refers to the situation where interest rates are at or near zero, limiting the ability of central banks to lower interest rates further to stimulate growth and inflation. European Central Bank (2021), Monetary-fiscal policy interactions in the euro area, Frankfurt aM; Blanchard, Olivier (2019), “Public Debt and Low Interest Rates”, American Economic Review, Volume 109, Number 4, pp.1197-1229; Furman, Jason, “The New View of Fiscal Policy and its Application”, VoxEU, 02 November 2016.

[10] Source: Brasili et al. (2021)

[11] Thygesen, Niels; Roel Beetsma; Massimo Bordignon; Xavier Debrun; Mateusz Szczurek; Martin Larch; Matthias Busse; Mateja Gabrijelcic; Laszlo Jankovics; and Stefano Santacroce, “High debt, low rates, and tail events: Rules-based fiscal frameworks under stress”, VoxEU, 08 March 2021. Francová et al. (2021), op.cit.

[12] The general escape clause is an interpretative construction of the country-specific severe economic downturn clause, illustrating the Stability and Growth Pact’s interpretative flexibility

[13] Verwey, Maarten and Allen Monks (2021), “The EU economy after COVID-19: Implications for economic governance”, VoxEU, 21 October 2021.

[14] Francová et al. (2021), op.cit.

[15] Authors’ calculations based on Eurostat, “General government gross debt – quarterly data [TEINA230]” (accessed 27 January 2022); Eurostat, “General government gross debt [SDG_17_40]” (accessed 27 January 2022).

[16] ? De-Globalization or Re-Globalization? #WEF23 #Davos - YouTube, 06.06.2023

[17] Secretary-General's remarks at the World Economic Forum | United Nations Secretary-General, 06.06.2023