Cause and Effect in European Politics and Law

The Structural Reforms Bark but the Deficit Moves On

Adelina Marini, March 13, 2015

There is no doubt that the eurozone crisis is now in the past since the Commission and the Council have approved, without objections, the violations of fiscal rules to begin again. This happened in the end of February when the European Commission confirmed what we expected in the autumn, which is that France will again get away and the EU ministers of finance adopted this decision during their regular March meeting. All this in the context of the newly infected relations with Greece, which has created an odd paradox - the Commission plays it soft with France whereas the Eurogroup plays a hard ball with Greece. It is true that the problems with Greece are rather ideological, but, generally, the essence is precisely in sticking to the rules. This decision practically dashes out the three-year long efforts of the institutions, the member states and the European Parliament to update, upgrade and enhance the economic governance of the European Union and the eurozone and could send a very bad signal to the investors, especially at a time when the Commission is investing its entire energy in promoting its most important product - the investment plan.

France - high above the rules with low growth

The first signal that it is possible France to again get away was given in the end of last year when the previous European Commission refused to make a decision on the two-pack - the legislation for closer coordination of the budgetary plans in the euro area - and passed the ball to the new Commission of Jean-Claude Juncker, where on the key position of economic and financial affairs commissioner stood the former French finance minister Pierre Moscovici. Despite the assurances that no member state will receive special treatment, the Commission has denounced its own self last year when it gave two months extension to France, Italy and Belgium to "complete" their budgetary plans because, according to the Commission, they were not sufficiently clear so as to apply the entire severity of the law.

Two months later the Commission decided not to trigger an excessive deficit procedure against Belgium, Italy and Finland because it takes into account the specific environment in which these countries are finding themselves in. And France is getting another two years extension - until 2017 - to correct its excessive deficit. How did France deserve more than the others? With promises. "France has committed in April to come forward with further 4 billion euros cuts. In May, more detailed plans to reform the economy", explained Eurogroup chief Jeroen Dijsselbloem, who supported the softer approach toward France. "The Commission will be extremely diligent because this is a question of the credibility of the Stability and Growth Pact. It's a credibility matter", added Pierre Moscovici.

According to his predecessor Ollie Rehn, however, this decision is eroding the confidence in the euro area rules and means that the Commission does not have "the guts and sense" to say "no effective action" to France even though it is obvious "to any even slightly informed observer". However, it was Olli Rehn who first "softened" to France two years ago when Paris received its first extension. This happened mainly because of the newly broken conflict between EU and IMF regarding the methods to calculate the effect of austerity. In addition, two years ago it was still not certain whether the end of the crisis was near.

But although they are loosening the grip around France's neck, the Commission and the Council do not leave this without some conditionality. The Commission raised for France the level under the macroeconomic imbalances procedure to 5. At the same level the Commission raised the procedure for Bulgaria as well. In a macroeconomic imbalances procedure the member state has to present a corrections plan and the Commission enhances the surveillance through regular reports. In cases of non-compliance for the first time the member state is imposed an interest-bearing deposit and for a second failure this deposit could be transformed into a fine of up to 0.1% of the guilty country's GDP.

The in-depth review of the European Commission of the French economy reveals, again, the same problems - the growth is too slow, the unemployment is not expected to decline and stands at a high level of 10.2%, no matter the compromises made for Paris by far, the budget deficit remains high and this has in no way contributed to the growth of the gross domestic product. The deficit was last year 4.3% and the public debt reached 95.2% of GDP. The Commission expectations are the debt to continue to grow. Despite some partial improvement, France has lost 13% of its export markets share in the past five years. And, again, the provision of extensions had not helped this to change. The hampers in the services market are not removed, the administrative burden is high, the tax burden is huge despite some alleviation recently. The state in 2014 was huge - 57% of GDP.

There is almost no progress also in the reform of the labour market which is quite restrictive, the system of unemployment benefits is not reformed, neither are improved the opportunities for work of older workers. The Commission greatest concern is that the bad development of the French economy could have a significant impact on other euro area members. A concern that has been expressed many times by far by neighbouring Germany. "The French economy has strong trade, financial and banking linkages with other Member States. Failure to effectively address the French structural challenges may thus affect adversely euro area partners. Conversely, a recovery of consumer confidence in France would benefit the euro area as a whole", the report on France says.

The situation around France has confirmed also the expected tension between Vice President Valdis Dombrovskis (Latvia, EPP), who is a supporter of strict fiscal discipline and fast but deep structural reforms, and Pierre Moscovici (France, S&D). The differences between them emerged for the first time during the Greek 2.0 crisis but when the reports of the Commission under the European Semester were presented, the discords between them were completely confirmed. The former Latvian prime minister openly said that the decisions related to the implementation of the Stability and Growth Pact and the macroeconomic imbalances have to be made generally by them both. "Nevertheless, given the importance of the subject we felt it's important to also discuss it in the College". "As regards the situation in France, it was obviously the most complicated case to be discussed today", he added. In the end, all the 28 commissioners voted on the decision on France which reveals that there were serious discords in the Commission and ultimately the loosening of the rules prevailed.

Moscovici defended the decision pointing out that France announced several reforms in the past few days. It is then logical to ask why the last few days, since it was given a last chance two months ago? And although the Council is not inclined to apply indulgence to Greece, the attitude to France is definitely different. In the voted by the 28 finance ministers recommendation it is explained that granting just one additional year to France could be too demanding against the backdrop of the current weak economic environment and would require further correction of the structural balance of more than 1.0% of GDP, which is above the average. Given the promised by France plans for structural reforms and its national reforms programme, the Council believes it adequate to grant France two more years to correct its budget deficit. This means that France should reduce its deficit to 4% this year, to 3.4% in 2016 and in 2017 to reduce it to 2.8%. This means that the annual structural effort will be 0.5% of GDP this year, 0.8% next year and 0.9% in 2017.

The Council sets also deadlines for the implementation of specific tasks by France. By 10 June 2015 the second largest economy in the eurozone has to undertake effective actions and to report in detail on a fiscal consolidation strategy. This includes also an additional structural effort of 0.2% this year, which is the4 billion euros of additional savings promised by the French government and President Francois Hollande. These 0.2% at the epicentre of the dispute between the Commission and Paris last year. In addition, France has to report to the Commission and the economic and monetary affairs committee of the European Parliament. Its report for this year has to be presented for the first time on 10 December 2015 and then it has to be made every six months. Reporting to the European Parliament is a very strong "punishment" for France because, during the hearing of Pierre Moscovici in the economic committee, many MEPs criticised him that in his capacity of a finance minister he never showed for a regular monetary dialogue, which is also part of the changes of the economic governance.

The rules are dead, long live the rules!

It is a fact that both the Commission and the Council have changed the approach and the compromise is accompanied by a conditionality never required so far. Nevertheless, a sufficiently convincing economic argumentation of this decision is missing, bearing in mind that France never took advantage of previous extensions either to do structural reforms or to increase its competitiveness. Two years later, its economic growth is due rather to inertia than to real economic drivers. The last year the French gross domestic product grew by just 0.4%. It remains unclear why the Commission refused to apply to France the new guidelines for the flexibility of the fiscal rules. It is possible that it is because France announced that it will take part in the future investment fund with 8 billion euros.

This participation was one of the conditions to apply more flexibility to the fiscal rules. In its interpretation of the Stability and Growth Pact the Commission points out that no excessive deficit procedure will be triggered for countries that participate with additional money into the investment fund if that has a negative effect on their deficit. France, however, already is in a procedure. This means that it is possible the Commission to have decided, in exchange for the 8 billion euros, to not impose sanctions for missing the deadlines for correction.

 Last but not least, the decision to give another extension makes pointless the debates that are currently taking place in EU on whether there is a need of reform of the economic governance of the EU and the euro area in particular and what should they be. It also questions the need the four presidents to write another report on the future of the euro area since it is already clear that there will always be special treatment for some countries. This is something Lithuania's President Dalia Grybauskaite warned of last year when she recalled that France and Germany violated the Stability and Growth Pact several times in the past and that under the pressure of these two countries the rules were weakened. According to her, this contributed to the crisis.

The main conclusion from all this is that the EU is united and strict to its own self only when it is under pressure (a crisis). When there is no pressure, there is business as usual. When could we expect a return of the crisis then? Soon. Sooner than we would like because Europe continues not to be an attractive place for investments, it is in a hard geopolitical situation and the euroscepticism is knocking at the door. Alas, this time only the crisis will return not the economic boom that preceded it because there are no conditions for such a boom.