After tough negotiations between 7 and 9 April—including a 16-hour marathon session— the Eurogroup proposed a comprehensive rescue package. The European Council will discuss its implementation and possible further measures in a videoconference on 23 April. Joint action is imperative in view of the massive financial burden that states have to bear due to COVID-19. They have to not only incur massive costs in the short term due to healthcare, but also in the long term because of the necessary but costly fiscal stimuli to support an economic recovery to counter the predicted sharp slump in the Eurozone's GDP. To avoid public debt crises and secure Eurozone stability, EMU-wide measures to protect sovereigns need to be taken. This post assesses the respective elements of the rescue package, and explores what potential further measures might look like and if the EU Budget could play a greater role in the future. In the author’s opinion, the proposed rescue package is a positive start, but by no means a conclusive solution.
The struggle for a common fiscal response to COVID-19
The expansive fiscal policy required to combat the negative economic consequences of COVID-19 comes with a sharp increase in sovereign debt and may lead to deteriorating sovereign financing conditions. This threatens to impair Member States’ access to capital markets or, in extreme cases, cut it off altogether, hampering their ability to support a robust economic recovery. Also, in terms of sovereign debt, the legal construction of the EMU makes its Member States special. They finance themselves in a currency over which they have no direct (monetary) control, which makes default, on paper, more likely. Member States’ finances remain closely intertwined with national banking sectors. This is driven by the privileged treatment of sovereign exposures in EU banking regulation (see Art. 114 (4) CRR), significant home bias in bank balance sheets and the absence of a common safe asset for the Eurozone. Sovereign and bank risks may still be transmitted via direct and indirect channels and reinforce each other (vicious circle). Monetary Policy alone is not enough. It operates indirectly via the monetary transmission mechanism and sometimes has asymmetrical effects. It is not certain that the monetary impulses ultimately reach the real economy in each Member State. Thus, the Eurozone Members need to look for common fiscal measures to combat the crisis and to use their combined financial strength to allow weaker Member States access to cheaper funding and higher volumes than they could currently obtain on the market on their own (even after ECB interventions).
Eurogroup and Council discussions so far reveal profound divergences and a core political problem: the sometimes emotionally charged focus on terms and concepts that are by some actors perceived as toxic. The ESM is associated with harsh macroeconomic adjustment programmes, whereas Eurobonds, Coronabonds, etc are associated with taxpayers in the North bearing the burden of lax fiscal policies of the South. These perceptions are deeply rooted in public consciousness and reveal the most recent experiences of the euro crisis as well as profound fundamental differences in economic policy views. However, this reasoning is not always entirely justified by factual, legal and economic arguments. To further the debate, it is necessary to distance it from this emotionally charged topic.
Why the proposed rescue package is not sufficient (yet)
The proposal adds important pieces to the necessary comprehensive economic policy response to COVID-19: support for workers (SURE) and businesses (through EIB) as well as sovereigns (through ESM). On the sovereign front it resorts to an existing instrument for precautionary financial assistance based on Art. 14 ESM-Treaty and the related Guideline on Precautionary Financial Assistance: the Enhanced Conditions Credit Line (ECCL). The volume is up to 2% of the respective Member States’ GDP. The only access condition is that the money needs to be spent on healthcare-related costs. The main advantages are that it can be deployed relatively fast (albeit after the approval by national parliaments, in the German case based on § 4 (1) No. 1 ESM Financing Act), offers a high degree of legal certainty, and uses the existing institutional framework. However, the ECCL provides only for health-care related costs via short term loans of up to two years. After that they must be repaid and thus refinanced. Thus, additional common fiscal measures are needed. In this respect the wording of the Eurogroup report on the proposed rescue package is deliberately vague and requires further development: it envisages ‘a Recovery Fund [...] providing funding through the EU Budget’ and possibly financed by ‘innovative financial instruments’ as well as ‘a central role’ for the upcoming multiannual financial framework (MFF).
The possible ways forward and their legal implications
Basically, there are two main options: a greater role for the ESM and the creation of a recovery fund, both accompanied by tailoring the upcoming MFF to the specific circumstances of the recovery from the crisis.
From the beginning of the discussion a new ESM-instrument such as the dedicated ESM-Covid-Credit-Line (CCL) has been proposed. This would provide for a simple solution, as it builds on the existing institutional framework and offers a high degree of legal certainty. The main goal would be to provide loans with greater volume and longer maturity than currently possible under the ESM-Treaty. To achieve this, the ESM-Treaty would have to be modified through mutual agreement by the ESM Board of Governors (Art. 19, 5 (6) (i) ESM-Treaty). Against the backdrop of Art. 125 (1) TFEU, Art. 12 (1) ESM-Treaty imposes conditionality. Especially long-term loans would have to take the applicant’s fiscal position into account.
However, a CCL is not mentioned in the rescue package proposal. Instead, it proposes to examine the feasibility of a Recovery Fund to provide funding through the EU Budget. Its main source of funding are contributions by Member States; much less comes from VAT-based and other sources. Without EU fiscal capacities to generate revenue through taxes this will not be sufficient and additional market financing is needed (backed by Member States to achieve appropriate conditions and volume). Various proposals for such instruments exist. Parts of the created funds could be spent on common European projects, other parts would be disbursed via loans to the Member States. The crucial points regarding the latter are the volume, maturity and conditions stipulated in the loan agreements. The creation of common funds backed by common liability or guarantees raises— resolvable—questions regarding its compatibility with Art. 125 (1) TFEU as well as regarding a sufficient legal basis in the TFEU. It is very controversial, whether Art. 122 (2) TFEU would be enough. Thus Art. 352 (1) TFEU comes into play, which requires a— practically hard to achieve— unanimous vote in the Council. It is proposed to overcome this obstacle by forming an international treaty between the participating Member States. Since this involves complex political decision-making it faces practical hurdles. E-Bonds in comparison, albeit initially proposed as a permanent mechanism, offer many advantages and their issuance may face less hurdles.
As all options include some transfer of fiscal capacities from the national to the EU level or changes to fiscal policy on the national level respectively, national constitutional law will require parliamentary approval in some Member States (in the German case by the Bundestag because its overall fiscal capacity is concerned).
In its crucial points, the proposed rescue package is deliberately vague to leave room for discussion in the Council. The deployment of the ESM-ECCL is a start and the only solution which comes without difficult legal questions, but it will hardly be sufficient to effectively protect Member States` finances and Eurozone stability. A precisely coordinated and calibrated mix of short and long-term measures is needed, even if more legally complex. There are a lot of sensible and legally feasible economic proposals on the table. However, they come up against political limits. Nevertheless, one thing is clear: the later solutions are agreed on, the more expensive they will be for everyone in the long run. In an extremely interconnected EMU, even countries with strong finances depend for their swift rebound on a robust recovery of all other Member States. Short-term thinking in national categories is not appropriate in this extraordinary situation.
Julian Pröbstl is a Research Associate at the Max-Planck-Institute for Tax Law and Public Finance, Munich and PhD Candidate at the University of Passau.