The hot phase with regard to the reform of the EU fiscal rules is underway. A legislative proposal by the European Commission to change the rules that set deficit and debt limits for budget policy in Austria and all other EU member states is on the table. In addition to a few sensible elements, there is a need for improvement in three central points in particular: insufficient scope for public climate investments, a lack of parliamentary involvement and insufficient fiscal policy coordination between the member states.
Legislative proposal of the European Commission
After a long wait, the European Commission will have theirs at the end of April 2023 proposed law on the reform of the EU fiscal rules. The proposals shift the focus of attention from the annual development of public finances to a longer-term perspective. In future, multi-year budget plans (of at least four years) are to be drawn up between the Commission and the respective national government on the basis of an analysis of debt sustainability. It projects the government debt ratio over a period of more than ten years in the future in order to derive a reference path for fiscal adjustment that is consistent with a decreasing or stabilizing government debt ratio. On the one hand, this is intended to ensure that the budget deficits remain below three percent of economic output and that the debt ratio is stabilized at a maximum of 60 percent of economic output in the long term; on the other hand, however, short-term budget cuts, which would be economically, socially and ecologically counterproductive, should also be a thing of the past.
A rocky road
The road to a negotiated agreement among EU member states remains rocky, and the timeline for a conclusion ahead of the 2024 EU elections remains tight. The meeting of EU finance ministers on June 16, 2023 will deal with controversial points. Because in some areas the views of the governments continue to differ. The German government is still demanding stricter rules on debt reduction, although the European Commission is already accommodating Germany in the legislative proposal by making stricter requirements than originally provided for in the reform guidelines. A focus on tougher debt rules could be counterproductive if the rules require fiscal policy to be more crisis-prone in the future, thereby damaging debt sustainability.
The planned transition to an individual debt and budget analysis can offer more leeway for shaping the fiscal policy course. This could increase the respective government’s chances of ensuring debt sustainability while at the same time taking into account the national economic and social challenges. However, the legislative proposal of the European Commission is in key points needs improvement.
Insufficient scope for public climate investments
The transformation of the energy and transport systems in the EU to achieve the climate goals requires additional public investments of at least 146.5 billion euros per year; this corresponds to one percent of the economic output of the EU. However, it is to be expected that significant parts of the required climate investments will not have any positive debt effects. The Commission’s legislative proposal and the application of the technical analysis framework, with its focus on ensuring falling public debt ratios, is therefore likely to lead to insufficient public investment at national level.
Member States can commit to a range of investments and reforms to lengthen the fiscal adjustment path if the Commission agrees that investments are compatible with debt sustainability. However, details on the evaluation framework for “good” and “bad” investments remain unclear. Quantitatively analyzing the medium-term impact of investment on public finances and growth, which underpins the longer adjustment period, is difficult and potentially politically conflicting.
It is already obvious that – if national governments want to take their climate and energy targets seriously – compliance with the newly regulated EU fiscal rules will only be possible with further measures. This might set up an additional EU investment fund to finance investments in climate and energywhich is currently not part of the Commission’s fiscal rules package.
Lack of parliamentary involvement
The Commission would gain additional power with the planned reform. If the Commission’s technical assessments lead to an unfavorable assessment of Austria’s debt sustainability, the democratic scope for budgetary policy in this country would be severely restricted. If the debt sustainability analysis reveals a “significant debt challenge”, then by default the government could be subject to tighter surveillance and face sanctions. This would lead to an increase in interest costs on government debt and reduce the scope for fiscal policy decisions at the national level.
However, the Commission’s assessments of the debt sustainability of individual member states are always based on assumptions about the future development of economic growth, interest rates, inflation and fiscal policy. These assumptions, on which the bilateral negotiations on multi-year budget plans with the member states would also be based, should be subject to democratic scrutiny. However, the legislative proposal of the European Commission does not provide for co-decision of the European or the respective national parliaments. In addition, it remains unclear what leeway new government constellations have to renegotiate the multi-year budget plans.
Insufficient EU-wide coordination of fiscal policy
Unfortunately, the Commission has learned too little from the mistakes of the past, such as a lack of fiscal policy coordination between the member states the euro crisis deepened. Let’s imagine a situation like the current one, in which the technical analysis carried out by the European Commission derived output paths Require cutbacks in a number of (large) euro area countries to comply with fiscal rules. Simultaneous public budget cuts in several member states could have negative cross-border effects the negative growth and employment effects of the austerity policy tighten. With the slowdown in economic growth, public debt ratios could come under even more upward pressure than initially anticipated by the Commission.
The legislative proposal of the European Commission does not take sufficient account of the problems in coordinating fiscal policy between the member states. The reform of fiscal rules currently envisaged falls short when it comes to improving the ability to steer the fiscal stance of the eurozone as a whole. However, this ability to steer is crucial if the common economic and monetary area is to function for all member states. It should therefore be mandatory for the Commission to consider the effects of the budget paths derived from the technical debt analyzes of the individual member states on the fiscal policy course of the euro area as a whole. For their part, individual member states would have to consider the impact on the euro area when negotiating country-specific plans with the European Commission.
Inadequate fiscal rule reform would repeat past mistakes
The existing EU fiscal rules are not future-proof and need to be reformed. The current legislative proposal from the European Commission contains a number of useful elements that enable better budgetary policy. The political negotiations are now in the hot phase. Austria should play a constructive role by not obsessing over positions that could affect the future stability of the common currency area. In addition, it must actively work to expand the scope for future investments, such as for climate protection.
Improvements to the Commission’s proposals are needed in a number of areas. A focus should be placed on the following three points:
- Increasing the currently insufficient scope for public climate investments, without which the achievement of the ambitious climate goals for the coming decades will be a long way off.
- Obligatory democratic legitimacy in the creation of multi-year budget plans through greater involvement of parliaments.
- More coordination of fiscal policy between the individual member states, because otherwise new economic imbalances would build up, laying the seeds for future crises.