Challenge to the World

Challenge to the World

Giancarlo Strocchia
Interview with Guntram B. Wolff, director of Bruegel, the Bruxelles-based economic think tank, believes the single greatest success of the EU has been the creation of a single market, the integration of goods, capital, labor and data across borders powers

This is not an easy time for the team of economists working in Bruxelles. There are numerous issues to be resolved in view of the upcoming approval of the post-2020 Multiannual Financial Framework (MFF). The banking union has to be completed, and there is a need for governance reform and for strengthening the EU’s internal trade mechanisms, which need to be restructured in order to tackle the potential shortfalls in financial resources that may result from Brexit. Obviously, every economic chapter has ripple effects of varying degrees on the public’s confidence in and level of approval for continental institutions. But what are the priorities to which the European Union’s politicians and technocrats will have to attend, in the short and medium term, in order to strengthen the European position, including with respect to the major global players? We asked Guntram B. Wolff, the Director of Bruegel, the important international think-tank based in Bruxelles, to analyze the current situation within the European Union, including from an energy perspective, to understand what paths Europe’s economic policy may take moving forward.

Guntram B. Wolff

Guntram B. Wolff

He is the Director of the think-tank Bruegel and a member of the International Advisory Board of the Solvay Brussels School. Regularly testifies to ECOFIN (the European Union's Economic and Financial Affairs Council), the German Bundestag and the French Assemblée Nationale. He was a member of the French's Conseil d'Analyse Economique.

Director Wolff, what are the priorities in terms of economic governance reforms that Europe must urgently address in the coming years?

I think the immediate priority is finishing the banking union. We started the banking union, but we haven’t finished it, in particular the third pillar, deposit insurance. While it is very controversial, I think there’s a broad understanding that we need to finish it at some stage. And so that’s the first priority. The second priority is a discussion on the European Stability Mechanism (ESM), and another key question is governance. Can we move away from a unanimous decision-making system to some decision-making system where not every country can veto? I doubt that this will be possible. And the other question related to the ESM, is whether we can improve the usefulness of various instruments, be it bank recapitalization, precautionary lending and so on? And the third priority to my mind is EU budget reform, the MFF, the budget of the European Union. We know that many expenditures are neither effective nor political priorities. It’s important to show that we can actually improve and make the European Union more effective, and that improvement will increase the trust of citizens whenever someone calls for more Europe.

Does improving governance also mean moving towards a more energy-efficient Europe?

There are a number of dimensions to this question. One is interconnections across borders, the single market for energy. Can we do more to involve ourself in these kinds of support investments, into interregional, inter-country connections? But perhaps an even more important question: how much priority, how much money, will we put on the table to support, let’s say, the digital revolution, the research and development that will be needed to transform the way our energy system works? Because our energy system will, over the next seven years, become even more digital than it is already. It will be even more dependent on renewable energy, meaning it will be better interconnected, need to be smarter, and so on and so forth. How much can EU money help support that process? I don’t have a precise idea how much money would be useful, but I certainly think that is one priority.

The exit of the United Kingdom from the European Union is estimated to produce a budgetary shortfall of around 13 billion euros per year. Do you see any further consequences resulting from this exit in terms of political stability or order, or any other kinds of problems connected with the United Kingdom leaving the EU?

We don’t have a deal so the negotiation is still in full swing. And especially in Northern Ireland - I mean, in Ireland the situation looks very, very complicated and very difficult to come to an agreement that would allow for a broader deal. So there is a nontrivial probability that there will be Brexit without any proper exit agreement and any proper deal. And that would, of course, mean if money is missing in the EU budget in the current MFF, there’s a lot of distortion for businesses that operate on both sides. Value chains would be heavily affected. So the risk is quite significant. It’s not that it will be the end of the world, but it certainly would be very ugly for a number of companies, including in the energy sector, that would all of a sudden have to face the fact that Ireland would essentially drop out of the single market for energy. Just to give you one example, Ireland’s interconnection with the European market for energy goes through the U.K. So without any deal, all of a sudden energy providers in Ireland wouldn’t have access to the European electricity grid. And these facilities would have to be built and so on and so forth. So a lot of things can go wrong as regards Brexit. My baseline is still that there will be a deal, but it’s not at all guaranteed. Now, if you ask me about European stability, I think the European political system has quite cut itself off from the Brexit debate. I don’t think anybody seriously fears that Brexit will lead to contagion so that another country would say, “Oh, great. What the U.K. has done has dramatically improved the prospects for the U.K. as a political and economic leader.” I think on the contrary. People regard Brexit as pretty much a political and economic (especially political) disaster, and so I don’t think there’s a lot of appetite to follow.

The results of political elections that have taken place in some member countries, including Italy, of course, have highlighted the advance of forces that are strongly critical of the current EU structure. How, in your view, the EU could immediately intervene to improve European citizens' perception of the Union?

I think the skepticism that is expressed in some of the elections is not primarily related to the euro. The euro, certainly five years ago, was a fragile construction and increased economic hardship for many people, including in Italy. But by now, it has become a fairly robust construction, which of course, still depends on political stability. But it has brought back growth and job creation that is actually quite significant. I think the make-or-break political topic at this stage for Europe is immigration, which is putting a lot of pressure, a lot of strain, on our societies, a lot of nervousness, and it’s something we know will not disappear and will probably increase as a trend over the next 20 or 30 years. We live right next to the African continent, which will experience a very large demographic increase in the next 20 to 30 years, so migration pressure will be there. And the question is: Will we as a European Union find a way of dealing with it collectively, or will each of us go for our own solution? If we follow the latter route, it will severely distort and affect the European project.

What, in your opinion, is the greatest success in terms of economic policy that can be ascribed to the European Union? I could mention, for example, the banking union. What is the necessary step forward to improve the current situation, in your opinion?

On the economic side the main success of the European Market is not banking and not the euro. I think the main success is the single market, meaning the integration of goods, capital, labor and data across borders. That’s very, very important and certainly positive for growth. Having said that, it’s not easy. I mean, the single market is not finished Service sector integration is still quite imperfect, labor mobility is positive and is actually increasing quite a bit and is, I think, perceived as being quite different from immigration from third countries. So we can see in opinion surveys that citizens consider intra-EU mobility for labor markets overall as a positive thing, and much more favorably, certainly, than extra-EU immigration into the EU. So I think that’s certainly a plus. But of course, it has also raised some political backlash, including the Brexit vote that was somewhat related to immigration from Central and Eastern Europe. So it still has some backlash, but, is economically positive overall. As for the single market for services, there’s still a lot to do, but progress in that arena would significantly improve our economic performance. Again, markets for goods and capital are often taken for granted, but I would say this integration program, while it also creates some concern, is probably our best opportunity in the 21st century to stand up to the global forces and leave us able regulate our own economy according to the way we want it to be regulated, not be a rules-taker but be the rules-maker we currently are. It is, even after Brexit, one of the biggest markets in the world. So this is very important, and we can probably make more progress, including on the issue of data protection.

According to you, could Europe do something more to improve its global competitiveness and be able to face the increasing competition from the major global players such as the United States and China, for example? What do you think about the possible new import taxes that the United States intends to introduce?

There’s the internal story; that’s the single-market story. We need to work hard to improve our internal trade and the internal functioning of our markets. That will be a strong boost to our global competitiveness, including, as I said, on the digital single market, whereI we are really lagging. But then there’s the relation to third countries, in particular China and the U.S. In relation to China I would certainly emphasize the need to more strongly work together and have,and speak with one voice vis-à-vis China. China will not transform its economic model into one that we think as Westerners is a free-market-economy-driven model where economic power and political power are separated. China will remain and will follow its own economic model, one where the state, the party, and economic power are absolutely indistinguishable, and where economic actors, companies, go to Europe and buy companies here with the significant support of the Chinese Government and the Chinese Communist Party. This totally distorts the level playing field if, in one country, companies have to compete for funds and are subject to tough competition rules and do not get state aid, while in China the opposite is true and these Chinese companies can operate here. So the first thing is to apply our competition policy framework and our state-aid framework very rigorously towards Chinese companies. Also on security issues, we need to do more and become less naive when we think of China and Chinese investment here. Now, then, there is the United States. Our relation with the United States is extremely deep and the cross-Atlantic FDI (Foreign Direct Investments) stocks are absolutely huge. The damage that could be done by doing something crazy like starting a trade war would be huge, so we should consider very carefully the optimum response. We should be ready to retaliate but in a moderate way, in a mannered way, to any aggression that Donald Trump might think of. As a last point you mentioned taxation law. The U.S. has passed major tax reform, which will make investment into the United States more attractive. We should probably not follow the line of just driving down our tax rates, as that would be a race to the bottom. But I think we do need to improve investment conditions, possibly by improving depreciation allowances for corporate capital investment.

The euro has been under threat and a threat to Europe itself the past eight years. Now it looks like things are better. What does the Eurozone need in order to become stronger, and are we safe now or are more structural reforms needed? What about a common fiscal policy, for example?

We need all of it. We need continued structural reforms to increase productivity growth. We need both European structural reforms - that’s the single-market agenda - as well as national reforms. Both are certainly important. This is important for the countries’ own sake, but also for the countries’ standing in the community of the Euro area and for the likelihood of increasing measures of risk-sharing and/or improving measures of risk-sharing. In addition, there is the whole risk-sharing fiscal policy agenda. We can move a little bit, but to really move to a new level, we need a significant step of political cohesion, political convergence, which would be very difficult to achieve. So the best bet at this stage would be to finish banking union and improve the coordination capacities in the Euro group on national fiscal policies. Do the homework and create some form of a rainy-day fund or, you know, a small borrowing facility which would be a great addition. Unfortunately, I think it’s going to be politically difficult to get a borrowing capacity.

The European Central Bank (ECB) is preparing to revise the euro support mechanism implemented during the hardest years of the economic crisis. How could these decisions affect the continent's economic stability and growth prospects?

The quantitative easing program is very important although unwinding it and ending it will certainly create, depending on how you do it, some volatility in the financial markets. The question is: How much? If you do it in a smart way and if you keep the sovereign bonds on the balance sheets of the ECB until they mature, I think the damage can be limited. If you prematurely and aggressively end the program and sell bonds again, then we could see quite some dislocation in financial markets and financial instability.