The five hundred billion euro rescue package agreed by E.U. Finance Minister, subject to approval from their national governments, has received a lukewarm reception.
The compromise was forged in typical EU fashion at the third attempt after the Dutch Finance Minister led stiff resistance to a push from France, Spain, Greece and Italy for a ‘corona bond’, programme involving direct grants to those countries hardest hit by the pandemic.
The package is mainly made up of an emergency credit line worth 240 billion euros along with a 100 billion euro work subsidy plan. There are plenty of loose ends to be tied up – not least precisely how the rescue fund will be paid for.
North v South
The deal comes amid signs that the Union could itself be coming apart at the seams, with growing popular disillusionment with the project in southern Europe.
The Spanish Prime Minister, Pedro Sanchez, did not pull his punches when he warned his EU colleagues recently : ‘Either we respond with unwavering solidarity, or our Union fails.’
Of the large European states, Spain has suffered more deaths than any other on a per capita basis, though the horrors visited on northern Italy – the powerhouse of the Italian economy – stand out as a warning to us all.
Southern Europe is also heavily exposed economically. All the Mediterranean countries depend on tourism. The evisceration of the travel trade will hit them particularly hard. Coming into this crisis, Italy was particularly exposed, with a stagnant economy and a national debt of around 135 per cent of gross national product.
The Covid-19 crisis has brought back to the surface many of the intra national tensions that blighted relationships within the EU during the long sovereign debt crisis.
Once again, the so called thrifty northern member states led by Germany and Holland, with Finland and Austria in the background, find themselves facing down the group of southern European states including Spain, Italy, Portugal and Greece. A decade ago, they fell along with Ireland into a club of financially stressed states known as the PIGS.
French Switch
The Irish Government – steered by the caretaker Finance Minister, Paschal Donohue, has quietly been making common cause with the southern European group on the core issue of fiscal solidarity. However, the big switch of sides has involved France. That country – mighty in EU terms – adopted a hard line stance back in 2010 towards Ireland, acting in concert with the German Government.
With backing from the then Central Bank Governor, Jean Claude Trichet, the Irish Government was forced to sign on to a bailout where enormous bank debts were taken onto the books by the sovereign.
These days, France is far less well placed. The pandemic has hit home with savage effect. Its banking system is exposed to that in Italy.
It is now counting on a degree of solidarity at the heart of the Union which would have been unthinkable a decade ago when President Sarkozy worked side by side with Chancellor Merkel – a rare survivor from that period.
Post-Brexit U.K.
So how should one rate the response of European institutions and Governments to the Covid-19 crisis since it erupted on the Continent more than two months ago? It may be worth looking at how the U.K. has engaged with the economic threats posed.
In public health terms, the London Government failed to grasp the scale of the crisis and it has been playing catch up ever since. But one bright spot to date has been the decisive approach since mid-March of the new Chancellor of the Exchequer Rishi Sunak.
When he unveiled his Budget, his initial measures did not capture the full scale of the looming tsunami in human and financial terms. However, he has proved himself to be pretty adaptable. Sunak committed to pumping in thirty billion euros in his March Budget, soon following this up with a £30bn ‘furlough’ scheme to compensate employers who hold on to their employees in the crisis.
Recently, the Chancellor went further, effectively strong-arming the Bank of England into making an announcement that it would directly finance the operations of the British Treasury. While the Bank has insisted that the expansion in its balance sheet will not be permanent, the move is regarded as historic.
It is a move that would be considered as unthinkable by most officials in the German Bundesbank.
Since then, he has thrown the kitchen sink in an effort to staunch the flow of blood out of the economy. Economists have calculated that the package of tax reliefs, grants and business loans amount to £350 billion.
Perilous Period
Across Europe, national Governments have moved to tackle the crisis by propping up incomes. Northern European states tend to have efficient bureaucracies and reasonable resilient national balance sheets. But even in places such as prosperous Denmark, there are concerns that many businesses will not reopen after what is increasingly looking like a long shut down.
The picture in Southern Europe is as mentioned much more bleak. In Italy and Spain, there is a real sense of let down amid the crisis, though better off nations like Germany have latterly moved to show solidarity by sending supplies and flying some patients from Eastern France and northern Italy to their hospitals for treatment.
The recently appointed President of the European Central Bank, Christine Lagarde caused consternation when she suggested that the Bank would not bail out any Eurozone member state running up a large deficit. These were remarks her predecessor, the sure-footed Italian central banker, Mario Draghi, would never have uttered.
Lagarde was backed up at the time, by the Bundesbank head, Jens Weidmann, although she reversed her position, soon after.
Since then, the Bank has unveiled a series of measures aimed at propping up demand and supporting the countries hardest hit in the crisis, but Lagarde’s misstep will not have been forgotten.
The Commission
The European Commission under its new President, Ursula van der Leyen, has appeared to grasp the scale of the crisis, acting quickly to suspend the normal state aid procedures and relaxing the rules on national government deficits. It has deployed much of its budgetary resources, but its fire power is limited as Ms Van der Leyen has made clear.
Mario Draghi has entered the debate with a call for a ‘huge stimulus’ aimed at preventing a depression: ‘Countries risk permanently lower employment and capacity unless they flood their economies with liquidity using bond markets, banks, even post offices.’
He warns that sharply higher levels of public debt will become a ‘permanent feature of our economies.’
Banks must rapidly lend funds at zero cost to companies prepared to save jobs. Given that the banks would be acting as vehicles of public policy, the Government should guarantee all additional overdrafts or loans that they make.
The ECB has taken action by launching a €750 billion bond buying programme.
Charles Grant, director of the Centre for European Reform, describes this move as ‘impressive’, but cautions that such action will not suffice by itself. ‘The EU needs to take on a role in fiscal policy.’
Many have joined calls for the launch of a so called ‘Corona bond’. The Irish academic, Brigid Laffan Director of the European University institute in Florence, argues that what is required is ‘the largest deployment of public finance and public power in peacetime in Europe.’
Domino Effect
The response to date from E.U. Governments – where effective decision-making is concentrated – has been less than inspiring. The Dutch Finance Minister Hoekstra caused particular annoyance in Madrid, Rome and Paris over his rather brutal dismissal of the ‘Corona bond’ proposal.
Matters were not helped by a headline in a leading Dutch tabloid following the conclusion of the ‘rescue’ deal: ‘The Netherlands wins European battle’ crowed the newspaper.
The splits go right to the top. The E.U. Commissioners, Thierry Breton and Paulo Gentiloni, have called for the creation of an Economic Recovery Fund, pointing out that ‘no European state has its own means enabling it to deal with the shock alone.
While E.U. governments have put in place contingency plans aimed at meeting the short-term cash flow needs of businesses, the scale of the crisis is only now being appreciated.
The French economist, Jean Pisani Ferry, has warned that the fall in economic activity as a result of Covid-19 could approach fifty per cent, with any recovery from a relaxation in the confinement likely to be both gradual, and subject to big interruptions.
The Belgian economist, Paul de Grauwe, warns that without coordinated action, we could be about to witness a domino effect, as the financial virus spreads from the corporate into the banking sector, and on to the sovereigns.
In his view the only solution is for E.U. Governments and institutions to think outside the box. The ECB, he argues, must follow the Bank of England in indicating a preparedness to buy Government bonds in primary markets, effectively issuing money to fund members state deficits.
Were this to happen, other leading central banks would follow suit and a 1930s-style meltdown could be averted. The alternative scenario does not bear thinking about.