Merkel and Sarkozy Meet (16 August): Markets Shrug

When you think about options for the eurozone (EZ) – they read as such:

1. Strengthen economic governance – better coordinate EZ economies (from labour markets and tax structures upward…)

2. See point 1

So, no surprise then that the 16 August bilaterial talks between German Chancellor Merkel and French President Sarkozy has resulted in media hysteria over proposals over a ‘new eurozone government!’

The plan they’ve come up with includes the following:

  1. Eurozone ‘economic council’ led by EU president Herman van Rompuy (for now, before proper elections later)
  2. Constitutional changes to force balanced budgets aka ‘debt brakes’ in the EZ (led by French/German example)
  3. EZ Financial transaction tax from September 2011
  4. Franco-German harmonization of Corporate tax rates by 2013

Whats been ruled out?

Eurobonds (fiscal integration must come first)

The Reaction?

Ignore the hysteria. Economic governance and fiscal integration both must be achieved if the eurozone is to proceed in tact without fracturing into 2 or more pieces. Thats a fact. As President Sarkozy said yesterday “We have to converge. The status quo is impossible.”

Everytime there is a meeting between eurozone leaders, thats your benchmark. Has anything been proposed to achieve these two goals?

  1. No. The ‘economic council’ sounds stealthlike but as to how much change this brings in is unknown. Whats the difference between that and the meeting of the eurogroup? How is decisionmaking to be altered? Will there be more majority decisions rather than unanimity? Early proposals suggest it will meet every 6 months, and consist of heads of states/government with a president elected every 2.5years.
  2. Yes. An excellent proposal, in theory. Nation states will be able to enshrine a balanced budget proposal in their constitution and therefore separate the economics from political interference, as Chancellor Merkel herself has said ‘lifting it above the day to day politics’  (i.e. stop allowing governments to illict support through tax breaks and deficit spending on the public sector and hallmark infrastructural projects). A definitive move to ‘living within our means.’ But constitutional changes require either a) referenda – which will be difficult to pass with anti-EU fervor gripping the zeitgeist  b) Parliamentry approval – easy enough in France, Germany, Italy (a good start) but less certain in other countries, notably those with razor thin government majorites or governments relying on eurosceptic parties (Slovakia) or mindful of a eurosceptic oppostion (Finland).
  3. Maybe. It depends. Whats this in aid of and how will it be levied? Is it Europe dipping its toe into the waters of ‘federal taxation’ using financial institutions are guinea pigs? They remain mercilessly unpopular so it would likely find favour among the EU/eurozone publics. But, of course, these things have to be agreed at national level by national government first – and this is very likely to be very difficult to achieve. Plus if it applies merely to the EZ-17 not the EU-27 financial hubs like London will benefit over Frankfurt (which isnt exactly good for keeping investment in the EZ-17). Theres no WAY the UK will agree to it.
  4. Yes. But….this isnt popular. Competitive corporate tax rates are vital for weaker PIIGS to reignite their economies – with a case in point being, of course, Ireland. Again, leading by example, the Franco-German alliance can use this as a bargaining tool later but using economic weapons at a time of strict austerity in the PIIGS will likely just sour relations further among both the EZ publics and governments.

All in all, details are very weak. And what detail has been given has not recieved a very positive response. The search for a real European economic solution (and better European leadership) continues.

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