If there is one theme that unites European responses to the global financial crisis, it is national responsibility and not European solidarity. There have been moments of solidarity to be sure. The creation of first temporary and then permanent bailout funds was the most obvious; the unconventional monetary policies of the European Central Bank (ECB) and ECB President Mario Draghi’s ‘whatever it takes speech’ count as well. Nevertheless, with the exception of the European Stability Mechanism (ESM), these moments of solidarity have been exceptional, temporary and transitional. They bought time for governments to restructure their banks, consolidate their finances, reform their market institutions, and prepare for an uncertain future so that another round of crisis summits and rushed institution-building will no longer be required. Once this transition period is over, cross-border redistribution and burden-sharing can be kept to a minimum. That is the objective.
The pillars of this Europe of national responsibility are the fiscal compact, the macroeconomic imbalances procedure, the banking recovery and resolution directive, and the conditionality requirements attached to any support provided by the ECB and the ESM. The fiscal compact requires governments to write a doctrine of fiscal responsibility into binding legislation. The overriding aim of the compact is to ensure governments maintain sound finances at the national level. The agreement provides little room for counter-cyclical demand stabilization and it makes no mention of cross-border externalities. It is not a ‘European’ fiscal policy in macroeconomic terms. It is a guideline for national performance.
The macroeconomic imbalances procedure has a national focus as well. The goal of the procedure is to encourage reform measures that will help governments maintain a current account position that is close to balance or in surplus. The procedure suggests there should be some check on surpluses that are excessive, but it is clear that the bias is against running deficits. Here again the focus is on the national balance of payments rather than on Europe as a whole. If every country in the European Union runs a marginal surplus, then the policy would be considered a success – despite the fact that the cumulative surplus would create a significant macroeconomic imbalance for the world as a whole.
What the macroeconomic imbalances procedure accomplishes for net balance of payments financing requirements, the banking recovery and resolution directive (BRRD) achieves for gross cross-border capital flows. The purpose of the BRRD is to protect tax payers from carrying the burden of bank bailouts. Investors in equity and subordinated debt instruments should absorb the first losses; senior debt holders and large depositors offer a second line of defense. In a closed market situation, there is a certain financial logic to this rank-ordering of creditors ahead of tax payers. In an open market situation, however, this bailout structure creates a disincentive for cross-border investments. This was an obvious problem for Ireland and Cyprus but for different reasons. In Ireland, the rest of Europe did not want the Irish government to bail-in foreign investors for fear that this would create contagion that would spread across the Continent; in Cyprus, the Cypriot government worried that burden-sharing with foreign investors would bring an end to the country’s specialization in financial services. The solution to both problems is to reduce the volume of cross-border financial flows so that national responsibility could extend to banks as well as trade and public finances.
The emphasis on national responsibility does not preclude solidarity at the European level but it does condition that solidarity in order to avoid creating ‘moral hazard’ – which is understood as the conditions within which national authorities will behave irresponsibly. The conditionality attached to ESM support illustrates this principle. Governments that hope to benefit from European support much demonstrate the capacity to reform their public sector and market institutions in accordance with European supervision. That qualification applies to ECB support in the form of open market transactions as well. Governments that request ECB purchases to stabilize sovereign debt markets must accept to participate in an ESM program or some type of more limited conditional credit arrangement. That way any risk absorbed onto the balance sheet of the European Central Bank is mitigated by a commitment to national responsibility.
There are a range of other, smaller areas where the emphasis on national responsibility is apparent. You can see it in the debate about common standards for deposit insurance and in the country-specific risk provisions built into the ECB’s large scale asset purchasing program. It can be found in the discretion given to national financial regulators within the Single Supervisory Mechanism as well. The effect is to change the structure of financial market integration with broad implications for the functioning of the internal market. In the 1980s and early 1990s, European wanted to see the internal market completed; now they want to see it constrained.Follow @Erik_Jones_SAIS
This essay was originally written in early January as a contribution to the Vox E-book Quo Vadis? Identity, policy and the future of the European Union edited by Thorsten Beck and Geoffrey Underhill. That book contains a number of other essays and can be freely downloaded from the Vox website.