The European Commission unveiled an ambitious plan in November 2022 to revamp the current economic governance system for the EU fiscal rules, which involves significant innovations in both the process of developing national budgetary plans and the governance framework that underpins them.
This article makes the case that, while the Commission is correct to view NextGeneration EU fiscal as a successful example of economic cooperation, we must think boldly about taking additional steps toward a political and fiscal union in light of a new set of fiscal rules that go in this direction.
The European Commission unveiled an ambitious plan to update the current EU fiscal rules and economic governance framework in November of last year. The plan incorporates substantial reforms in the governance framework that underpins national fiscal plans as well as how they are created (for other comments on the proposal, see for example Buti et al. 2022 and Wyplosz 2022).
The current set of mathematical regulations is virtually abandoned. It is replaced by a system in which nations develop medium-term plans that are evaluated using debt sustainability analysis, and in which the route of net primary expenditure serves as the sole operational goal to achieve debt stability (i.e. expenditure excluding interest and unemployment benefits).
This is a positive innovation in terms of macroeconomic stabilization. A method based on long-term goals and an expenditure rule typically produces adjustment routes that are less sensitive to the state of the economy.
The proposal provides the opportunity for member states to gain extended adjustment periods if they undertake reform and investment plans beneficial to long-term growth, so the adjustment routes may also be more responsive to the quality of spending. In other words, the proposal’s methodology gives more latitude for tailoring fiscal adjustment to a country’s specific circumstances, including both its cyclical characteristics and the policy decisions that will influence future growth.
The recent experience of the Next Generation EU recovery plans, as a paradigm of successful economic cooperation in the EU, has certainly had an impact on the Commission’s thinking. This effect may be seen in the way the four-year plans that form the foundation of the new system were designed. The emphasis on investment and reforms is also clear evidence of it.
It is helpful to compare Next Generation EU fiscal rules (NGEU) and the Stability and Growth Pact (SGP) as two different examples of collective economic governance. The SGP primarily defers to member states’ strategic economic judgment and only imposes a standard set of norms, ensuring that these decisions are in line with a shared goal of monetary/financial stability.
While exercising substantial freedom in the creation of national plans and in tailoring them to the institutional realities of each member state, NGEU is instead primarily motivated by the joint definition of common goals (green transition, digitalization, and reducing inequality).
The models’ approaches to enforcement also varied significantly. The SGP’s corrective arm has primarily achieved its goals through moral persuasion. Although they are theoretically a part of the enforcement process, fines have never been used. On the other hand, NGEU has the benefit that failure to uphold the promises made in the national plans may be easily penalized by suspending funding.
This has functioned as a credible threat thus far in the NGEU experience. For instance, Italy, the country that receives the most NGEU funding, has altered legislation proposals several times to accommodate the Commission’s wishes. Think about these two instances from the history of Italy. Individual performance reviews are traditionally disliked by Italian teachers, and the Italian educational system only considers seniority when promoting employees.
The Commission requested that the careers of Italian teachers be based more on evaluations as part of the reform package tied to NGEU, which includes significant spending programs planned for schools. Italy and the Commission had been at odds over this issue, which was only resolved when Italy agreed to implement teacher evaluations.
In the realm of public procurement, there is another illustration. Italian towns frequently establish internal service firms to get around pro-competition EU legislation that demands competitive tendering for outside services. In order to abide by NGEU requests, this practice has been severely restricted.
How to incorporate the positive aspects of NGEU into a revised fiscal framework is still an unresolved subject. Overall, we concur that NGEU demonstrates the Commission’s and member states’ ability to work together to develop economic policies, even when doing so requires a great deal of specificity.
This kind of collaboration so far seems to have produced more results than previous discussions about formal compliance with the numerical SGP criteria. However, there are significant design distinctions between NGEU and fiscal regulations that, in our opinion, provide two major difficulties.
Initially, Next Generation Being able to build from well-stated strategic goals at the EU level is a huge benefit. Then, the negotiated national strategies are created to work toward those shared objectives. There is no such combination of EU fiscal rules objectives and national programs in the area of fiscal regulations.
Particularly, it follows that national governments continue to define the strategic objectives of national budgetary policy. The Commission will, however, have more influence over crucial national decisions once we make the routes for primary spending potentially a consequence of multi-year pledges on investment and reforms.