by Philip Whyte
The financial crisis is often portrayed as the product of weak regulation in the Anglosphere. But it is more accurate to think of it as the result of flawed thinking (and policy) across the global financial system as a whole. One reason is that countries outside the Anglosphere have also experienced unsustainable credit and housing market booms. Another is that differences in regulatory systems are smaller than is often supposed. The lesson of the crisis is not, as Nicolas Sarkozy and Jean-Claude Juncker seem to think, that Anglo-Saxons must move in a European direction. It is that all countries must converge on a new regulatory model.
It is not hard to see why the attention of European politicians should have zeroed in on regulatory flaws in the US – it is, after all, where the financial crisis broke out. There are unquestionably important lessons to be learned from the US experience – particularly in relation to the ‘shadow banking system’ and securitisation (the process of originating loans, then packaging them up as securities and selling them on to the market). But the financial crisis has done more than simply expose flaws in the US’s regulatory model. It has also called into question the very principles on which institutions the world over have been supervised.
The first flaw that the crisis has exposed is the ‘pro-cyclicality’ of financial regulation. Regulation did nothing to mitigate the expansion of leverage, credit and house prices. Capital adequacy rules did not become more constraining during the upswing, while accountancy rules exacerbated the downswing by forcing firms to sell assets at distressed prices. So the regulatory framework did not provide enough of a check on banks at the top of the credit cycle – but compounded their problems when the cycle turned. Lesson: the regulatory framework must be redesigned so that it mitigates, rather than exacerbates, the credit cycle.
A second problem brought to light by the crisis is that regulators were not paying enough attention to liquidity. For the past twenty years or so, international discussions between regulators have concentrated overwhelmingly on solvency – that is, how much capital financial institutions should hold to cushion themselves against losses on their banking and trading books. But many of the institutions that were brought low by the crisis (such as Northern Rock and Lehman Brothers) ran into trouble because their sources of funding dried up. In effect, regulators had spent the past twenty years preparing for a right hook, but ended up being floored by an upper cut. Liquidity will loom larger in regulation than it has done to date.
A final flaw that the crisis exposed is the belief that the stability of a financial system follows inexorably from the soundness of its individual constituents. What this belief ignored was that institutions were more interconnected (and hence vulnerable) than was previously realised; and that actions by individual institutions to maintain their own stability could, when copied by all their peers, push the system itself to collapse. In short, regulatory regimes paid too much attention to the supervision of individual institutions (micro-prudential regulation) and not enough to the system as a whole (macro-prudential regulation). Macro-prudential supervision will be one of the key innovations to emerge from the crisis.
A major overhaul of financial regulation is in prospect, both in the Anglosphere and Europe. It will not involve the supposedly unregulated Anglo-Saxon systems converging on existing European models, but Anglo-Saxon and European models converging on an entirely new model, with novel rules and institutional structures. Will the new system regulate future crises out of existence? Almost certainly not. Financial systems will always be prone to periodic crises because of the nature of their function – borrowing short and lending long – and because they rely on fickle human traits such as confidence and trust. But if the new system can limit the scale of future crises, it will have done its job.
Philip Whyte is a senior research fellow at the Centre for European Reform.
Thursday, April 23, 2009
Wednesday, April 08, 2009
Towards a better EU migration policy
by Hugo Brady
Over the last decade, EU countries have experienced a rapid rise in both legal and illegal migration, mostly from Turkey, Morocco, Albania, Algeria and Serbia. Each spring and summer, Mediterranean member-states struggle to cope as migrants perish attempting to reach Europe from North Africa in unseaworthy and over-crowded boats. The deaths of 300 people, who drowned while trying to reach Italy from Libya, marked a particularly grim beginning to this year’s ‘smuggling season’.
Unsurprisingly, then, migration has supplanted terrorism and crime as the top priority for European interior ministers. Ministers think that collective EU action is essential if migration is to be managed better. That includes making European border management more effective and technologically advanced; integrating migration issues – visas, border controls, the resettlement of refugees and the return of illegal immigrants – into EU foreign policy; and helping Europe to fill the 50 million skilled vacancies that Europe’s retiring baby boomers will leave behind by 2060.
European policies to tackle these challenges are in their infancy, such as the Union's rather weak scheme to attract more skilled workers with an EU working visa or 'blue card'. One reason for this is that ministers have to work around major knowledge gaps about the specific foreign labour needs of the single market and about the movement of migrants into and around the EU, a free movement area. Governments have little idea where migrants go next after entering the UK from Pakistan, Spain from Ecuador or Poland from Brazil. For example, how many move to other EU countries; how many go back home; and how many are granted residency? Similarly, policy-makers are not yet certain about how good the EU’s border controls are. How many visas to the EU’s passport-free area result in illegal overstays or how many travellers are allowed in, refused at the border or returned home? Officials say they need to properly understand such movements before they can agree serious migration policies.
In many cases, such data is available but the patterns have not yet been analysed to draw concrete conclusions. The European Commission, which might be expected to have such information readily to hand, is over-burdened. Its directorate-general dealing with migration issues also has a plethora of other responsibilities, ranging from commercial law to terrorism. To overcome this lack of analytical capability, Commission officials often emphasise technological solutions such as biometric databases for visas and law enforcement. But these have tended to be subject to long development delays and will not, in any case, cut out the need to synthesise vast amounts of information.
One idea to help address such knowledge gaps would be to create national ‘immigration profiles’. The idea – already floated by the Commission – would be to maintain a precise and detailed picture of migration and border management in each member-state at any given moment. The Commission would also be able to ascertain the foreign labour needs of each member-state, by identifying skill shortages by sector and occupation, though member-states would still control the issuance of work visas. Similar profiles of non-EU countries could help identify the skills composition of different migrant communities and to provide analysis to EU policy-makers negotiating with migrants’ home governments on visa facilitation, border controls and the return of illegal immigrants. The member-states think that the EU speaking with one voice in such negotiations would be a significant improvement on national efforts.
The compilation of national immigration profiles is not a panacea for solving all of Europe's migration challenges. But if implemented effectively, the profiles could help to ensure that future migration policies are properly evidence-based and, therefore, more effective. However, if the Commission wants the job of providing such analysis, it will need to create a separate department for migration or to boost the resources of its current directorate-general for justice, liberty and security.
Hugo Brady is a research fellow at the Centre for European Reform.
Over the last decade, EU countries have experienced a rapid rise in both legal and illegal migration, mostly from Turkey, Morocco, Albania, Algeria and Serbia. Each spring and summer, Mediterranean member-states struggle to cope as migrants perish attempting to reach Europe from North Africa in unseaworthy and over-crowded boats. The deaths of 300 people, who drowned while trying to reach Italy from Libya, marked a particularly grim beginning to this year’s ‘smuggling season’.
Unsurprisingly, then, migration has supplanted terrorism and crime as the top priority for European interior ministers. Ministers think that collective EU action is essential if migration is to be managed better. That includes making European border management more effective and technologically advanced; integrating migration issues – visas, border controls, the resettlement of refugees and the return of illegal immigrants – into EU foreign policy; and helping Europe to fill the 50 million skilled vacancies that Europe’s retiring baby boomers will leave behind by 2060.
European policies to tackle these challenges are in their infancy, such as the Union's rather weak scheme to attract more skilled workers with an EU working visa or 'blue card'. One reason for this is that ministers have to work around major knowledge gaps about the specific foreign labour needs of the single market and about the movement of migrants into and around the EU, a free movement area. Governments have little idea where migrants go next after entering the UK from Pakistan, Spain from Ecuador or Poland from Brazil. For example, how many move to other EU countries; how many go back home; and how many are granted residency? Similarly, policy-makers are not yet certain about how good the EU’s border controls are. How many visas to the EU’s passport-free area result in illegal overstays or how many travellers are allowed in, refused at the border or returned home? Officials say they need to properly understand such movements before they can agree serious migration policies.
In many cases, such data is available but the patterns have not yet been analysed to draw concrete conclusions. The European Commission, which might be expected to have such information readily to hand, is over-burdened. Its directorate-general dealing with migration issues also has a plethora of other responsibilities, ranging from commercial law to terrorism. To overcome this lack of analytical capability, Commission officials often emphasise technological solutions such as biometric databases for visas and law enforcement. But these have tended to be subject to long development delays and will not, in any case, cut out the need to synthesise vast amounts of information.
One idea to help address such knowledge gaps would be to create national ‘immigration profiles’. The idea – already floated by the Commission – would be to maintain a precise and detailed picture of migration and border management in each member-state at any given moment. The Commission would also be able to ascertain the foreign labour needs of each member-state, by identifying skill shortages by sector and occupation, though member-states would still control the issuance of work visas. Similar profiles of non-EU countries could help identify the skills composition of different migrant communities and to provide analysis to EU policy-makers negotiating with migrants’ home governments on visa facilitation, border controls and the return of illegal immigrants. The member-states think that the EU speaking with one voice in such negotiations would be a significant improvement on national efforts.
The compilation of national immigration profiles is not a panacea for solving all of Europe's migration challenges. But if implemented effectively, the profiles could help to ensure that future migration policies are properly evidence-based and, therefore, more effective. However, if the Commission wants the job of providing such analysis, it will need to create a separate department for migration or to boost the resources of its current directorate-general for justice, liberty and security.
Hugo Brady is a research fellow at the Centre for European Reform.
Friday, April 03, 2009
The G20 summit – a distraction?
By Simon Tilford
The good news first. The summit delivered more than expected. The trebling of the funds available to the IMF goes well beyond anything expected and is very welcome. From a European perspective it increases the likelihood of further crises in central and Eastern Europe being handled through the IMF, rather than the EU having to get involved in the politically fraught business of setting conditionality. A renewed commitment to resist protectionism, together with an additional $250 billion for trade finance and $250 billion in special drawing rights are positive moves, as is the agreement to use the proceeds from IMF gold sales to help the poorest countries.
The agreements to extend financial regulation to all systemically important financial institutions and to establish a Financial Stability Board (FSB) to replace the existing Financial Stability Forum (FSF) also represent progress. The FSB will include FSF members along with G20 countries that are not FSF members, Spain and the European Commission. It will be in charge of identifying systemic risks and will collaborate with the IMF to provide an early warning system for future crises. The FSB will also implement FSF principles on bankers' pay and insure appropriate capital adequacy ratios. The deal represents a necessary democratisation of the international financial system.
Now the bad news. The agreement does little to address the immediate challenges facing the global economy – dealing with toxic debt and the contraction of aggregate demand. In this respect, the summit and the grandiose statements accompanying it were probably a distraction. There is little in the agreement that will help "restore confidence, growth and jobs" or "repair the financial system and restore lending", as claimed by the summit communiqué. Over time, the agreement might help to “strengthen financial regulation and rebuild trust” and could help to ‘prevent future crises’. But it is unlikely to help "overcome this crisis."
The absence of additional national measures to stimulate demand comes as no surprise, but it is no less disappointing. Perhaps the most important moment at the summit was when President Obama reminded the world that it can no longer expect the US to provide a disproportionate share of the growth in global demand. While condemning the US for its profligacy and talking about the advent of a fairer, more multilateral world, many countries seem to be relying on the US continuing to perform the role of 'consumer of last report'. This is either hypocritical or parochial or both.
Across much of Europe, the summit agreement is being portrayed as victory over the 'Anglo-Saxons'. This is rather puzzling. The agreement will not lessen the economic crisis facing Europe. Listening to French and German criticism of US proposals for a co-ordinated stimulus, anyone would be forgiven for thinking that the US would have had most to gain from such a package. In fact, the countries that stand to lose most from the collapse in global trade and the prospect of several years of exceptionally weak growth in global demand are the countries running big trade surpluses. The Japanese understand this and the need for stimulus; the German government does not. Europe as a whole will pay the price.
Similarly, the G20 agreement will do very little to address the problem of frozen credit markets. The Europeans are right to stress that strengthened regulatory oversight will be needed in order to put the financial sector on a more stable long-term footing. Indeed, everyone recognises this. But the more immediate problem is dealing with toxic debt. Agreeing to tighten regulation once the recession is over will not persuade financial institutions to lend now. The agreement to "provide significant and comprehensive support to our banking systems to provide liquidity, recapitalise financial institutions, and access address decisively the problem of impaired assets" means little. Too many European governments remain in denial over the extent of the problem, and will not take the necessary action to remove toxic debt from their banking systems.
The deal will not prevent the economic slump in Europe from deepening. This will lead to the further weakening of public finances that many European governments are anxious to prevent. Moreover, even the strengthening of multilateral control over the global financial system might have unintended consequences for some European countries. One systemic risk the FSB is almost certain to flag up is the persistence of huge, structural current account deficits, and the destabilising impact these have on the global financial system. A more regulated global financial system will involve more obligations for the big surplus countries, such as Germany.
Simon Tilford is chief economist at the Centre for European Reform
The good news first. The summit delivered more than expected. The trebling of the funds available to the IMF goes well beyond anything expected and is very welcome. From a European perspective it increases the likelihood of further crises in central and Eastern Europe being handled through the IMF, rather than the EU having to get involved in the politically fraught business of setting conditionality. A renewed commitment to resist protectionism, together with an additional $250 billion for trade finance and $250 billion in special drawing rights are positive moves, as is the agreement to use the proceeds from IMF gold sales to help the poorest countries.
The agreements to extend financial regulation to all systemically important financial institutions and to establish a Financial Stability Board (FSB) to replace the existing Financial Stability Forum (FSF) also represent progress. The FSB will include FSF members along with G20 countries that are not FSF members, Spain and the European Commission. It will be in charge of identifying systemic risks and will collaborate with the IMF to provide an early warning system for future crises. The FSB will also implement FSF principles on bankers' pay and insure appropriate capital adequacy ratios. The deal represents a necessary democratisation of the international financial system.
Now the bad news. The agreement does little to address the immediate challenges facing the global economy – dealing with toxic debt and the contraction of aggregate demand. In this respect, the summit and the grandiose statements accompanying it were probably a distraction. There is little in the agreement that will help "restore confidence, growth and jobs" or "repair the financial system and restore lending", as claimed by the summit communiqué. Over time, the agreement might help to “strengthen financial regulation and rebuild trust” and could help to ‘prevent future crises’. But it is unlikely to help "overcome this crisis."
The absence of additional national measures to stimulate demand comes as no surprise, but it is no less disappointing. Perhaps the most important moment at the summit was when President Obama reminded the world that it can no longer expect the US to provide a disproportionate share of the growth in global demand. While condemning the US for its profligacy and talking about the advent of a fairer, more multilateral world, many countries seem to be relying on the US continuing to perform the role of 'consumer of last report'. This is either hypocritical or parochial or both.
Across much of Europe, the summit agreement is being portrayed as victory over the 'Anglo-Saxons'. This is rather puzzling. The agreement will not lessen the economic crisis facing Europe. Listening to French and German criticism of US proposals for a co-ordinated stimulus, anyone would be forgiven for thinking that the US would have had most to gain from such a package. In fact, the countries that stand to lose most from the collapse in global trade and the prospect of several years of exceptionally weak growth in global demand are the countries running big trade surpluses. The Japanese understand this and the need for stimulus; the German government does not. Europe as a whole will pay the price.
Similarly, the G20 agreement will do very little to address the problem of frozen credit markets. The Europeans are right to stress that strengthened regulatory oversight will be needed in order to put the financial sector on a more stable long-term footing. Indeed, everyone recognises this. But the more immediate problem is dealing with toxic debt. Agreeing to tighten regulation once the recession is over will not persuade financial institutions to lend now. The agreement to "provide significant and comprehensive support to our banking systems to provide liquidity, recapitalise financial institutions, and access address decisively the problem of impaired assets" means little. Too many European governments remain in denial over the extent of the problem, and will not take the necessary action to remove toxic debt from their banking systems.
The deal will not prevent the economic slump in Europe from deepening. This will lead to the further weakening of public finances that many European governments are anxious to prevent. Moreover, even the strengthening of multilateral control over the global financial system might have unintended consequences for some European countries. One systemic risk the FSB is almost certain to flag up is the persistence of huge, structural current account deficits, and the destabilising impact these have on the global financial system. A more regulated global financial system will involve more obligations for the big surplus countries, such as Germany.
Simon Tilford is chief economist at the Centre for European Reform
Wednesday, April 01, 2009
The Europeans at the London summit
by Katinka Barysch
Christine Lagarde, the French finance minister, threatens to walk out of the London G20 summit unless France gets its way on tougher financial regulation. The toppled Czech Prime Minister, Mirek Topolanek, who happens to hold the EU presidency, describes the US fiscal stimulus as “the road to hell”. Not one EU leader deems it necessary to support Gordon Brown publicly when he tries to drum up support for a more concerted international effort to revive the global economy. The Dutch and the Spaniards are turning the G20 itself into a misnomer by insisting on their own place at the table, and raising the number of the already over-represented Europeans (The fact that there will be six European governments represented, plus the Czech presidency, plus the European Commission, not counting the European heads of the World Trade Organisation and the International Monetary Fund, attracts deserved ridicule from other countries).
So is the G20 just another opportunity for the Europeans to show how weak, divided and status-conscious they are?
In fact, the Europeans have not done as badly in the run-up to the summit as some media reports (and occasional outbursts by stressed prime ministers) suggest.
EU leaders managed to thrash out a reasonably coherent position at their spring summit on 20th -21st March. The meeting’s final communiqué has a special section on the agreed line for the London summit. The words in this section are vague but represent a workable compromise which could allow the Europeans to speak with one voice at the G20.
G20 finance ministers had already reached a kind of truce on the issue of more fiscal stimuli at their meeting on March 14th. Not surprisingly, EU leaders, at their spring summit a week later, also rejected calls for an immediate increase in budgetary spending. So why some commentators are still speculating whether the G20 may come up with a new, co-ordinated package is a bit of a mystery. There needs to be a firm pledge from all G20 countries to assess critically the fiscal efforts they have made so far, and then to revisit the issue of a co-ordinated stimulus at their next summit, probably later this year.
At the March 20th–21st summit, EU leaders called only for swift implementation of those packages already announced. This, and the fact that the communiqué also calls on the EU countries to prepare for “an orderly reversal of macro-economic stimuli” and to “ensure consistency with longer term objectives such as sustainable public finances” represents a victory for Berlin and other capitals worried about inflationary pressures and the stability of the euro.
The Europeans supported global efforts to make more money available for the poorer and more vulnerable countries around the world. They started at home, by doubling the size of the EU’s own emergency fund for Central and Eastern Europe to €50 billion. The Europeans also agreed to raise an additional €75 billion as their contribution to a significant increase in the IMF’s war chest, to at least $500 billion. Since Japan had already pledged $100 billion, the onus is now on the US and China to chip in.
China, of course, will be cautious about committing money to an unreformed IMF. Here the EU’s position is lame. The communiqué only calls for a “reform of the IMF so that it reflects more adequately relative economic weights in the world economy”. The Europeans should have made it clearer that they are prepared to decrease their own voting shares and representation on the IMF’s management board. But diplomats say that the strongest opposition to thorough IMF reforms currently comes from the US – reluctant to give up its de facto ability to veto IMF decisions – rather than Europe.
On financial market regulation, the EU’s position is quite far advanced, much more so than the American one. The EU summit communiqué list all the measures that the EU wants to take – on regulating credit agencies, hedge funds, credit default swaps and so forth – and attaches deadlines to each. There has been a great deal of convergence within Europe, chiefly between Germany, France and others that want to see tighter rules and supervision of financial markets, and the UK, which has abandoned its belief in ‘light touch’ regulation. There are a lot of similarities between the recommendations of the recent reports from Jacques de Larosiere, which the EU wants to use as a basis for its legislative programme, and Adair Turner, head of the UK’s Financial Services Authority. Both, for example, call for more co-ordination between the supervision of individual banks and the monitoring of the stability of the financial system as a whole. The emerging US position as presented by US Treasury Secretary Timothy Geithner on March 26th also calls for more centralised supervision of US financial services, as well as a reform of capital adequacy and accountancy rules (in line with EU demands). Geithner for the first time acknowledged that hedge funds and other hitherto lightly regulated but systemically important finance vehicles need at least some supervision.
Of course the devil is in the detail and the London summit cannot and will not agree on more than the broad principles of further regulation and supervision. The debate about a new supervisory system in the US is only just beginning. It will be long and politicised. The EU’s deadlines for new legislation run from May until the end of 2009. Since the European Parliament will be re-elected in June and the European Commission will step down in October (although it could be extended to the end of the year), comprehensive new rules are unlikely before 2010.
The EU has looked weak and divided in the run-up to the G20 summit. Its reluctance to make more commitments to increase fiscal stimuli is rightly open to criticism. But the Europeans have actually managed to agree a reasonably coherent position and in many respects, their positions are as, or more, polished than the US ones.
Katinka Barysch is deputy director of the Centre for European Reform.
Christine Lagarde, the French finance minister, threatens to walk out of the London G20 summit unless France gets its way on tougher financial regulation. The toppled Czech Prime Minister, Mirek Topolanek, who happens to hold the EU presidency, describes the US fiscal stimulus as “the road to hell”. Not one EU leader deems it necessary to support Gordon Brown publicly when he tries to drum up support for a more concerted international effort to revive the global economy. The Dutch and the Spaniards are turning the G20 itself into a misnomer by insisting on their own place at the table, and raising the number of the already over-represented Europeans (The fact that there will be six European governments represented, plus the Czech presidency, plus the European Commission, not counting the European heads of the World Trade Organisation and the International Monetary Fund, attracts deserved ridicule from other countries).
So is the G20 just another opportunity for the Europeans to show how weak, divided and status-conscious they are?
In fact, the Europeans have not done as badly in the run-up to the summit as some media reports (and occasional outbursts by stressed prime ministers) suggest.
EU leaders managed to thrash out a reasonably coherent position at their spring summit on 20th -21st March. The meeting’s final communiqué has a special section on the agreed line for the London summit. The words in this section are vague but represent a workable compromise which could allow the Europeans to speak with one voice at the G20.
G20 finance ministers had already reached a kind of truce on the issue of more fiscal stimuli at their meeting on March 14th. Not surprisingly, EU leaders, at their spring summit a week later, also rejected calls for an immediate increase in budgetary spending. So why some commentators are still speculating whether the G20 may come up with a new, co-ordinated package is a bit of a mystery. There needs to be a firm pledge from all G20 countries to assess critically the fiscal efforts they have made so far, and then to revisit the issue of a co-ordinated stimulus at their next summit, probably later this year.
At the March 20th–21st summit, EU leaders called only for swift implementation of those packages already announced. This, and the fact that the communiqué also calls on the EU countries to prepare for “an orderly reversal of macro-economic stimuli” and to “ensure consistency with longer term objectives such as sustainable public finances” represents a victory for Berlin and other capitals worried about inflationary pressures and the stability of the euro.
The Europeans supported global efforts to make more money available for the poorer and more vulnerable countries around the world. They started at home, by doubling the size of the EU’s own emergency fund for Central and Eastern Europe to €50 billion. The Europeans also agreed to raise an additional €75 billion as their contribution to a significant increase in the IMF’s war chest, to at least $500 billion. Since Japan had already pledged $100 billion, the onus is now on the US and China to chip in.
China, of course, will be cautious about committing money to an unreformed IMF. Here the EU’s position is lame. The communiqué only calls for a “reform of the IMF so that it reflects more adequately relative economic weights in the world economy”. The Europeans should have made it clearer that they are prepared to decrease their own voting shares and representation on the IMF’s management board. But diplomats say that the strongest opposition to thorough IMF reforms currently comes from the US – reluctant to give up its de facto ability to veto IMF decisions – rather than Europe.
On financial market regulation, the EU’s position is quite far advanced, much more so than the American one. The EU summit communiqué list all the measures that the EU wants to take – on regulating credit agencies, hedge funds, credit default swaps and so forth – and attaches deadlines to each. There has been a great deal of convergence within Europe, chiefly between Germany, France and others that want to see tighter rules and supervision of financial markets, and the UK, which has abandoned its belief in ‘light touch’ regulation. There are a lot of similarities between the recommendations of the recent reports from Jacques de Larosiere, which the EU wants to use as a basis for its legislative programme, and Adair Turner, head of the UK’s Financial Services Authority. Both, for example, call for more co-ordination between the supervision of individual banks and the monitoring of the stability of the financial system as a whole. The emerging US position as presented by US Treasury Secretary Timothy Geithner on March 26th also calls for more centralised supervision of US financial services, as well as a reform of capital adequacy and accountancy rules (in line with EU demands). Geithner for the first time acknowledged that hedge funds and other hitherto lightly regulated but systemically important finance vehicles need at least some supervision.
Of course the devil is in the detail and the London summit cannot and will not agree on more than the broad principles of further regulation and supervision. The debate about a new supervisory system in the US is only just beginning. It will be long and politicised. The EU’s deadlines for new legislation run from May until the end of 2009. Since the European Parliament will be re-elected in June and the European Commission will step down in October (although it could be extended to the end of the year), comprehensive new rules are unlikely before 2010.
The EU has looked weak and divided in the run-up to the G20 summit. Its reluctance to make more commitments to increase fiscal stimuli is rightly open to criticism. But the Europeans have actually managed to agree a reasonably coherent position and in many respects, their positions are as, or more, polished than the US ones.
Katinka Barysch is deputy director of the Centre for European Reform.
Monday, March 23, 2009
What if the eurozone broke up?
by Tomas Valasek
The future of the euro may not be secure, warned the CER’s Simon Tilford in a January 2009 essay. The current economic crisis threatens to exacerbate the tensions within the eurozone, and an insolvent member-state... could default and leave the eurozone. Since January, the economic crisis has deepened further, and the eurozone’s weakest economies have come under even greater strain. This does not make their exit from the eurozone inevitable there is a strong argument in favour of keeping the eurozone together at any cost. But what if it did happen? What would leaving the eurozone mean in practice? What happens to the physical currency in circulation in the afflicted country?
There is a considerable body of precedents. Most historical currency unions have broken up. The most recent examples come from Central and Eastern Europe. Since the end of the Cold War, three countries with national currencies the Soviet Union, Yugoslavia, and Czechoslovakia have fallen apart, forcing their constituent parts to hastily adopt national currencies. To find out what the separation entailed, the CER spoke to an architect of one of those transitions: the former member of the board of the Slovak National Bank, Ján Mathes.
We asked him what a country leaving the eurozone would use instead of the euro. Several options are possible, Mathes said. Members of the eurozone have not kept a stock of national currencies in reserve so they would need to print and mint replacements. But if a country is in a hurry to leave the euro, there may not be enough time. Minting a sufficient number of new coins takes months. Producing today's high-tech, secure banknotes, from design to the printing stage, took Slovakia nearly a year. Even though eurozone members would need less time they would presumably revert to the design they used before adopting the euro printing hundreds of millions of notes still takes many months.
If a country left the eurozone abruptly, it would need to find temporary ways to separate its share of the euros from the rest. In the early 1990s, the Czech Republic and Slovakia chose to stick distinguishing stamps on their banknotes. We had thousands of people working day and night, putting tiny stamps on nearly 80 million old Czechoslovak banknotes, Mathes said. The Czechs affixed different stamps to their portion of the old notes and the currency was thus divided. Each side eventually printed its own currency, and the stamped notes were withdrawn and destroyed.
But what worked for the Czechoslovak koruna may not work for the euro. Stamps are easy to remove and the temptation to remove them would be strong. The value of the currency of the country leaving the eurozone is certain to plunge vis-à-vis the euro, so its citizens would remove stamps en masse, thus converting them to the more valuable original euros. Another physical solution, Mathes says, it to laser-engrave distinguishing marks onto the portion of the euros, which would have been allocated to the country departing the eurozone. This can be done relatively quickly and would make the currencies irreversibly different, said Mathes, adding “but I suspect that the European Central Bank will not look kindly on a state burning holes in its currency.
In many ways, the birth of the new currency would only mark the beginning of its troubles. A country would only resort to leaving the eurozone if it was in deep economic crisis but this guarantees that its currency will inspire little confidence. There is a risk that the currency’s value would slide uncontrollably. To prevent such a scenario, the new money would have to be introduced in tandem with a thorough stabilisation and recovery programme overseen and financed by the IMF or the World Bank.
But the same reforms, if introduced early, would also reduce the chances of a country dropping out of the euro in the first place. And the rest of the eurozone members will have strong interest to prevent anyone from leaving, because of the risks to the rest: a member's departure would weaken the credibility of the euro, deepening the sense of crisis and possibly forcing other countries to drop out. Self-interest may drive the rest of the eurozone to prop up the ailing country’s economy at nearly any cost. It is probably too early for ordering replacement currencies or burning holes in the euro.
Tomas Valasek is director of foreign policy and defence at the Centre for European Reform.
The future of the euro may not be secure, warned the CER’s Simon Tilford in a January 2009 essay. The current economic crisis threatens to exacerbate the tensions within the eurozone, and an insolvent member-state... could default and leave the eurozone. Since January, the economic crisis has deepened further, and the eurozone’s weakest economies have come under even greater strain. This does not make their exit from the eurozone inevitable there is a strong argument in favour of keeping the eurozone together at any cost. But what if it did happen? What would leaving the eurozone mean in practice? What happens to the physical currency in circulation in the afflicted country?
There is a considerable body of precedents. Most historical currency unions have broken up. The most recent examples come from Central and Eastern Europe. Since the end of the Cold War, three countries with national currencies the Soviet Union, Yugoslavia, and Czechoslovakia have fallen apart, forcing their constituent parts to hastily adopt national currencies. To find out what the separation entailed, the CER spoke to an architect of one of those transitions: the former member of the board of the Slovak National Bank, Ján Mathes.
We asked him what a country leaving the eurozone would use instead of the euro. Several options are possible, Mathes said. Members of the eurozone have not kept a stock of national currencies in reserve so they would need to print and mint replacements. But if a country is in a hurry to leave the euro, there may not be enough time. Minting a sufficient number of new coins takes months. Producing today's high-tech, secure banknotes, from design to the printing stage, took Slovakia nearly a year. Even though eurozone members would need less time they would presumably revert to the design they used before adopting the euro printing hundreds of millions of notes still takes many months.
If a country left the eurozone abruptly, it would need to find temporary ways to separate its share of the euros from the rest. In the early 1990s, the Czech Republic and Slovakia chose to stick distinguishing stamps on their banknotes. We had thousands of people working day and night, putting tiny stamps on nearly 80 million old Czechoslovak banknotes, Mathes said. The Czechs affixed different stamps to their portion of the old notes and the currency was thus divided. Each side eventually printed its own currency, and the stamped notes were withdrawn and destroyed.
But what worked for the Czechoslovak koruna may not work for the euro. Stamps are easy to remove and the temptation to remove them would be strong. The value of the currency of the country leaving the eurozone is certain to plunge vis-à-vis the euro, so its citizens would remove stamps en masse, thus converting them to the more valuable original euros. Another physical solution, Mathes says, it to laser-engrave distinguishing marks onto the portion of the euros, which would have been allocated to the country departing the eurozone. This can be done relatively quickly and would make the currencies irreversibly different, said Mathes, adding “but I suspect that the European Central Bank will not look kindly on a state burning holes in its currency.
In many ways, the birth of the new currency would only mark the beginning of its troubles. A country would only resort to leaving the eurozone if it was in deep economic crisis but this guarantees that its currency will inspire little confidence. There is a risk that the currency’s value would slide uncontrollably. To prevent such a scenario, the new money would have to be introduced in tandem with a thorough stabilisation and recovery programme overseen and financed by the IMF or the World Bank.
But the same reforms, if introduced early, would also reduce the chances of a country dropping out of the euro in the first place. And the rest of the eurozone members will have strong interest to prevent anyone from leaving, because of the risks to the rest: a member's departure would weaken the credibility of the euro, deepening the sense of crisis and possibly forcing other countries to drop out. Self-interest may drive the rest of the eurozone to prop up the ailing country’s economy at nearly any cost. It is probably too early for ordering replacement currencies or burning holes in the euro.
Tomas Valasek is director of foreign policy and defence at the Centre for European Reform.
Thursday, March 19, 2009
How serious is the threat to the single market?
by Simon Tilford
There has been a lot of anguished talk about how the EU’s single market is under threat. Much of this alarm has focused on government support for struggling car firms and public bail-outs of crisis-ridden banks. An erosion of the EU’s competition rules would be every bit as debilitating as the impact of the financial crisis and the resulting recession. But how serious is the risk to the single market?
On the face of it, there is plenty to worry those who see the single market as key to Europe’s future prosperity. First, any hope that the impact of the financial crisis on the ‘real economy’ would be limited has ended. In the face of huge falls in industrial output this year and the prospect of several years of very weak economic growth, many European industrial firms will go bankrupt. Wage subsidies and short-time working, and all the other strategies currently being employed to cope with the collapse of demand, can only be sustained for so long. Many of the firms that go bust will be fundamentally competitive, or at least appear so. EU governments will be under huge pressure to intervene to protect such companies. The way in which they intervene will be crucial. The Commission will have a real fight on its hands to ensure that competition is not distorted. It should be strong enough to enforce the rules. But much will depend on whether member-state governments support the Commission and on who is appointed to be the next EU commissioners for competition and the internal market.
Second, the landscape of European banking has changed fundamentally over the past year and competition policy in this sector has effectively been suspended. A number of the biggest EU banks have been nationalised in all but name and governments have moved to provide public guarantees for bank loans. The shot gun marriage of Britain’s Lloyds TSB with another high street British bank, Halifax Bank of Scotland (HBOS), has left the combined group controlling around a third of the entire UK market for consumer banking services. The German, Dutch and Belgian governments have bailed out financial institutions, while governments across the EU have recapitalised banks.
The dramatic increase in government influence over the lending process will need to be reversed if potentially serious distortions are to be avoided. There is a risk that pressure will be put on banks to maintain funding for national champions and to avoid lending to companies based in other EU states. Such politicised lending would undermine the efficient allocation of capital throughout the EU by protecting inefficient companies and reducing available funds for more competitive firms. Once the financial sector has stabilised and normal levels of financial intermediation have been restored, the Commission will have to get serious about ensuring that the EU does not retreat into such ‘capital protectionism’.
Third, a further deepening of the single market can be ruled out. Crucially, faster action to liberalise and integrate service sectors across the EU now looks out of the question. It was hard enough to gain consensus in favour of radical moves to dismantle obstacles to the integration of service sectors before the crisis, but it will be impossible in the face of the backlash against liberalisation. This is bad news. Service sectors account for around two-thirds of economic activity across the EU. Service sector productivity has been extremely weak for a number of years now, holding back economic growth. More competition at both national and European level would do much to change this, and boost economic growth.
The lack of service sector integration will be particularly damaging for the eurozone. Countries that decide to forego exchange rate flexibility as a tool of economic adjustment need to ensure that their economies can be flexible in other ways. If countries such as Spain and Italy are to recover their competitiveness within the currency union, they will have to boost their productivity. This, in turn, requires more competition in service industries. The alternative route to greater competitiveness – wage cuts – would condemn their economies to stagnation. And such wage deflation might not be possible in any case, as Germany is heading for deflation. It will be extremely difficult to cut costs relative to Germany, if German costs are falling.
The legal underpinnings of the single market appear robust. But there are real reasons for concern. The steady progress in reducing state-aid has been halted and is likely to be put into reverse. The partial renationalisation of bank lending is inimical to the emergence of a single capital market. And progress towards deepening the single market in services has ground to a halt. All this bodes ill for Europe’s growth prospects and the stability of the eurozone. All EU governments profess to be committed to upholding the single market. The next couple of years will determine the strength of that commitment. If member-states do not respect the Commission’s right to enforce those rules, the single market could indeed come under threat.
Simon Tilford is chief economist at the Centre for European Reform.
There has been a lot of anguished talk about how the EU’s single market is under threat. Much of this alarm has focused on government support for struggling car firms and public bail-outs of crisis-ridden banks. An erosion of the EU’s competition rules would be every bit as debilitating as the impact of the financial crisis and the resulting recession. But how serious is the risk to the single market?
On the face of it, there is plenty to worry those who see the single market as key to Europe’s future prosperity. First, any hope that the impact of the financial crisis on the ‘real economy’ would be limited has ended. In the face of huge falls in industrial output this year and the prospect of several years of very weak economic growth, many European industrial firms will go bankrupt. Wage subsidies and short-time working, and all the other strategies currently being employed to cope with the collapse of demand, can only be sustained for so long. Many of the firms that go bust will be fundamentally competitive, or at least appear so. EU governments will be under huge pressure to intervene to protect such companies. The way in which they intervene will be crucial. The Commission will have a real fight on its hands to ensure that competition is not distorted. It should be strong enough to enforce the rules. But much will depend on whether member-state governments support the Commission and on who is appointed to be the next EU commissioners for competition and the internal market.
Second, the landscape of European banking has changed fundamentally over the past year and competition policy in this sector has effectively been suspended. A number of the biggest EU banks have been nationalised in all but name and governments have moved to provide public guarantees for bank loans. The shot gun marriage of Britain’s Lloyds TSB with another high street British bank, Halifax Bank of Scotland (HBOS), has left the combined group controlling around a third of the entire UK market for consumer banking services. The German, Dutch and Belgian governments have bailed out financial institutions, while governments across the EU have recapitalised banks.
The dramatic increase in government influence over the lending process will need to be reversed if potentially serious distortions are to be avoided. There is a risk that pressure will be put on banks to maintain funding for national champions and to avoid lending to companies based in other EU states. Such politicised lending would undermine the efficient allocation of capital throughout the EU by protecting inefficient companies and reducing available funds for more competitive firms. Once the financial sector has stabilised and normal levels of financial intermediation have been restored, the Commission will have to get serious about ensuring that the EU does not retreat into such ‘capital protectionism’.
Third, a further deepening of the single market can be ruled out. Crucially, faster action to liberalise and integrate service sectors across the EU now looks out of the question. It was hard enough to gain consensus in favour of radical moves to dismantle obstacles to the integration of service sectors before the crisis, but it will be impossible in the face of the backlash against liberalisation. This is bad news. Service sectors account for around two-thirds of economic activity across the EU. Service sector productivity has been extremely weak for a number of years now, holding back economic growth. More competition at both national and European level would do much to change this, and boost economic growth.
The lack of service sector integration will be particularly damaging for the eurozone. Countries that decide to forego exchange rate flexibility as a tool of economic adjustment need to ensure that their economies can be flexible in other ways. If countries such as Spain and Italy are to recover their competitiveness within the currency union, they will have to boost their productivity. This, in turn, requires more competition in service industries. The alternative route to greater competitiveness – wage cuts – would condemn their economies to stagnation. And such wage deflation might not be possible in any case, as Germany is heading for deflation. It will be extremely difficult to cut costs relative to Germany, if German costs are falling.
The legal underpinnings of the single market appear robust. But there are real reasons for concern. The steady progress in reducing state-aid has been halted and is likely to be put into reverse. The partial renationalisation of bank lending is inimical to the emergence of a single capital market. And progress towards deepening the single market in services has ground to a halt. All this bodes ill for Europe’s growth prospects and the stability of the eurozone. All EU governments profess to be committed to upholding the single market. The next couple of years will determine the strength of that commitment. If member-states do not respect the Commission’s right to enforce those rules, the single market could indeed come under threat.
Simon Tilford is chief economist at the Centre for European Reform.
Friday, March 13, 2009
The real G20 agenda
by Katinka Barysch
Finance ministers from the G20 countries are meeting in London this weekend to prepare for the global economic summit at the start of April. Expectations are high. But what will the summit be about? Judging by recent comments from European leaders, the agenda will include clamping down on tax havens, regulating hedge funds and cutting bankers’ bonuses. Most commentators agree that these questions are not the most pressing for restoring financial stability and economic growth. Martin Broughton, president of the UK employers’ federation CBI, rightly dismissed them as “red herring issues”.
World leaders must focus two things: how best to work together to prevent an even deeper global recession; and how to avoid future crises of such magnitude.
The first issue is as pressing as it is divisive. While the US administration is pushing for more fiscal spending, the Europeans are reluctant, and most emerging powers are keeping quiet. Many countries are loath to commit to more budget spending before they know whether and how their existing emergency packages are working. The second part of the agenda is longer term and fiendishly complicated. No-one should expect an unwieldy group of 25 or so (G20 has become a misnomer) heads of state to discuss the minutiae of capital adequacy ratios or cross-border supervision. The G20 is a process, not an event, and this summit is a political exercise, not a technical one.
What the April meeting is really about is maintaining faith in multilateral solutions at a time when the temptation for go-it-alone and beggar-thy-neighbour policies is growing. If leaning on Liechtenstein or forcing disclosure onto hedge funds helps this cause then so be it. But in terms of confidence building two issues appear paramount: the role of the International Monetary Fund and governments’ commitment to avoid protectionism.
Since September 2008, the IMF has lent over $50 billion to countries ranging from Pakistan to Ukraine. It urgently needs more cash. The US and EU governments are supporting a doubling of the Fund’s resources to $500 billion. They appear less willing, however, to redress their own over-representation in international financial institutions. This would be a precondition for emerging powers such as China to contribute significantly to an increase in IMF resources, and – perhaps more importantly – accept its legitimacy at the heart of the global financial system.
The IMF needs enhanced legitimacy to fulfil other functions that will be equally essential for future financial stability. First, the world needs better surveillance of national macro-economic and exchange rate policies to address the kind of global imbalances that have contributed to the current crisis. The IMF already has such mechanisms in place but they need to be strengthened. Second, the Fund needs to expand its new, $100 billion short-term, conditionality-light lending facility for emerging markets that are well run. It could also encourage such countries to pool their foreign exchange reserves to make them available for emergency lending.
Without easily available emergency finance, emerging markets will conclude that the best insurance against future pain is to accumulate more reserves. They will do this by keeping their currencies down and running big external surpluses. This kind of policy, as practiced by China, has already caused lots of friction. In an environment where global trade is shrinking, it would fuel a nasty protectionist backlash in the West. That is why the G20 summit needs to produce a firm commitment to increasing the IMF’s role and resources while setting in train a thorough reform of its governance structures.
There are already some signs that protectionism is rising. World Bank economists have counted 47 new trade restrictions since late 2008. More than a third have been put in place by the G20 countries that pledged to avoid such measures at their November 2008 summit. But the real risk is not a return to a 1930s-style tariff war but what Richard Baldwin and Simon Evenett (in a recent CEPR paper) call “murky protectionism”: industrial subsidies, requests that banks lend to only local companies, or the use of environmental arguments to discriminate against foreign goods and services. Examples abound, such as the ‘buy American’ provisions in the US stimulus programme or Nicolas Sarkozy’s idea that French car companies should make cars only in France. Encouragingly, in these instances international outrage ensued and the governments in question backtracked. The risks, however, remain high.
Therefore, G20 leaders need to broaden the ‘no protectionism’ pledge from last November to cover non-tariff measures. And they need to task international organisations such as the OECD and the WTO with alerting the world to national measures that could be harmful for that country’s trading partners.
Katinka Barysch is deputy director of the Centre for European Reform.
Finance ministers from the G20 countries are meeting in London this weekend to prepare for the global economic summit at the start of April. Expectations are high. But what will the summit be about? Judging by recent comments from European leaders, the agenda will include clamping down on tax havens, regulating hedge funds and cutting bankers’ bonuses. Most commentators agree that these questions are not the most pressing for restoring financial stability and economic growth. Martin Broughton, president of the UK employers’ federation CBI, rightly dismissed them as “red herring issues”.
World leaders must focus two things: how best to work together to prevent an even deeper global recession; and how to avoid future crises of such magnitude.
The first issue is as pressing as it is divisive. While the US administration is pushing for more fiscal spending, the Europeans are reluctant, and most emerging powers are keeping quiet. Many countries are loath to commit to more budget spending before they know whether and how their existing emergency packages are working. The second part of the agenda is longer term and fiendishly complicated. No-one should expect an unwieldy group of 25 or so (G20 has become a misnomer) heads of state to discuss the minutiae of capital adequacy ratios or cross-border supervision. The G20 is a process, not an event, and this summit is a political exercise, not a technical one.
What the April meeting is really about is maintaining faith in multilateral solutions at a time when the temptation for go-it-alone and beggar-thy-neighbour policies is growing. If leaning on Liechtenstein or forcing disclosure onto hedge funds helps this cause then so be it. But in terms of confidence building two issues appear paramount: the role of the International Monetary Fund and governments’ commitment to avoid protectionism.
Since September 2008, the IMF has lent over $50 billion to countries ranging from Pakistan to Ukraine. It urgently needs more cash. The US and EU governments are supporting a doubling of the Fund’s resources to $500 billion. They appear less willing, however, to redress their own over-representation in international financial institutions. This would be a precondition for emerging powers such as China to contribute significantly to an increase in IMF resources, and – perhaps more importantly – accept its legitimacy at the heart of the global financial system.
The IMF needs enhanced legitimacy to fulfil other functions that will be equally essential for future financial stability. First, the world needs better surveillance of national macro-economic and exchange rate policies to address the kind of global imbalances that have contributed to the current crisis. The IMF already has such mechanisms in place but they need to be strengthened. Second, the Fund needs to expand its new, $100 billion short-term, conditionality-light lending facility for emerging markets that are well run. It could also encourage such countries to pool their foreign exchange reserves to make them available for emergency lending.
Without easily available emergency finance, emerging markets will conclude that the best insurance against future pain is to accumulate more reserves. They will do this by keeping their currencies down and running big external surpluses. This kind of policy, as practiced by China, has already caused lots of friction. In an environment where global trade is shrinking, it would fuel a nasty protectionist backlash in the West. That is why the G20 summit needs to produce a firm commitment to increasing the IMF’s role and resources while setting in train a thorough reform of its governance structures.
There are already some signs that protectionism is rising. World Bank economists have counted 47 new trade restrictions since late 2008. More than a third have been put in place by the G20 countries that pledged to avoid such measures at their November 2008 summit. But the real risk is not a return to a 1930s-style tariff war but what Richard Baldwin and Simon Evenett (in a recent CEPR paper) call “murky protectionism”: industrial subsidies, requests that banks lend to only local companies, or the use of environmental arguments to discriminate against foreign goods and services. Examples abound, such as the ‘buy American’ provisions in the US stimulus programme or Nicolas Sarkozy’s idea that French car companies should make cars only in France. Encouragingly, in these instances international outrage ensued and the governments in question backtracked. The risks, however, remain high.
Therefore, G20 leaders need to broaden the ‘no protectionism’ pledge from last November to cover non-tariff measures. And they need to task international organisations such as the OECD and the WTO with alerting the world to national measures that could be harmful for that country’s trading partners.
Katinka Barysch is deputy director of the Centre for European Reform.
Tuesday, March 10, 2009
Economic crisis and the 'eastern partnership'
by Tomas Valasek
In two months, at a summit in Prague on May 7th, the European Union will launch a new policy for Eastern Europe – an 'eastern partnership'. It will increase EU assistance to the region, open the EU’s markets to the neighbours’ goods and gradually remove visa requirements, among other things. The idea is to give the neighbouring countries stronger incentives to adopt European norms and rules, to integrate their economies with the EU's, and thus to make the region more prosperous and stable. The concept is sound – but the initiative as well as the EU’s overall policy for Eastern Europe will suffer unless the EU takes more visible steps to assist its neighbours through the economic crisis.
The crisis hit Eastern Europe hard. Ukraine’s currency, the hryvnia, lost over 50 per cent of its value, and economists warn of a possible default. Belarus, too, is in trouble. Much of the economy is driven by exports of machinery to Russia, where demand has collapsed. Armenia, another member of the eastern partnership, is in equal difficulty, and will probably need an IMF emergency loan soon.
The economic crisis poses a three-fold challenge to the EU's eastern policy. The first risk is that of rising nationalism and protectionism on both sides of the EU’s borders, which is hampering economic integration. The European Union and Ukraine are negotiating a new free trade agreement but senior EU officials say that Ukraine has become more protectionist since the crisis broke out. It insists on keeping a number of controversial tariffs, which has caused the talks to stall. The EU, too, is far less open to eastern workers and visitors these days. The member-states are unwilling to ease visa requirements for the partner states, fearing an influx of illegal workers. If the EU and its partners fail to deepen economic integration and make travel to the EU easier, the eastern partnership’s main goal – a gradual alignment of the partner states with the EU – will be in trouble.
The second risk stems from the perception that the EU is not doing enough to help the eastern partners through the crisis. President Vladimir Voronin of Moldova recently dismissed the eastern partnership-related grants as “candy”, suggesting they were not serious enough to warrant attention. He is unfair to the EU: it is not the eastern partnership's purpose to bail out the partners' economies. It has only a modest financial component; its grants amount to a few hundred million euro, and are meant mainly to help improve governance and expand people-to-people contacts. There are other tools the EU can use to assist its eastern neighbours through the crisis, like the International Monetary Fund, which recently made a $15 billion emergency loan to Ukraine. But Voronin’s words signal a broader problem for the EU’s eastern policy: the EU is not perceived to be helping its eastern neighbours; they see the IMF but not Europe. And perceptions are important: if the EU’s eastern partners think that the EU is failing them at the time of their greatest need, most of the goals of the eastern partnership will come to nought.
The third risk relates to the economic weakness of many new EU member-states in Central Europe. It is they who, along with Sweden, have most strongly advocated greater EU engagement with its eastern neighbours. And in the EU, which has many diverse members and interests, an initiative only succeeds when a strong state or a group of states devote serious time and attention to winning EU-wide support for it. But will the new member-states push for more financial assistance for Eastern Europe? It could mean keeping less of the much-needed money for themselves, and that is a tough political decision to make. Will they have the energy to fight the political battles in Brussels with EU governments less interested in Eastern Europe? Some new member-states like Latvia are reducing diplomatic staffs across Europe, and they will find it difficult to pursue multiple foreign policy goals simultaneously. Also at risk are the myriad of small grants which the new member-states' governments give to non-governmental groups in the neighbouring countries, and the training programmes they organise for East European administrators or journalists. These programmes are just as important as the eastern partnership itself: they expand the circle of people in the Eastern Europe who have a vested interest in closer relationship with the EU. So it matters that these activities are now at risk because of recession-related budget cuts.
The economic crisis represents a crisis of sorts for the EU's eastern policy. But there are ways of minimising the damage or even turning a problem into an opportunity.
Some EU government-financed initiatives for eastern neighbours will no doubt fall victim to the economic crisis. But instead of all Central European governments cutting all their training or advisory programmes, they should pool some of the initiatives. For example, rather than recalling advisors who are helping to reform key Ukrainian ministries, the new member-states could agree to withdraw some and co-finance the remaining ones. The same should apply to training programmes in the EU for East European administrators and to the very useful conferences organised in Latvia and Estonia to raise the profile of the EU’s eastern initiatives: some will be cut but there ought to be ways to share resources to save the remaining ones.
The top priority for the EU’s eastern policy, however, must be to take steps to more visibly help its eastern neighbours through the economic crisis. It is simply not true, as president Voronin suggested, that European aid to the east is peanuts – the IMF, in which EU member-states play a strong role, gave a $15 billion loan to Ukraine, and a further $2 billion loan to Belarus. The trouble is that the EU as such is not getting the credit. And in the eyes of the Eastern Europeans, the EU’s perceived stinginess compares unfavourably with the far greater amounts which Russia is willing to spend on bailing out Eastern Europe (it set aside $7.5 billion for the task).
The situation calls for creative solutions. The EU should not compete with the IMF in providing balance-of-payment loans directly to governments: the IMF has a better capacity to raise the necessary funds and to oversee the reforms, which the recipient states undertake in order to qualify for IMF loans. But the EU could expand its €25 billion emergency fund for the new member-states to include the eastern neighbours as well. And it should use the money to co-finance IMF assistance with targeted loans or grants to soften the social impact of the economic crisis. For example, it could finance job retraining programmes in Belarus or Ukraine.
The EU should also speed up the payment of its eastern partnership grants. They are small compared to the amounts disbursed through loans but if targeted well, could have real impact. The EU should direct them towards helping the most vulnerable parts of East European societies and towards regions hardest hit by the crisis. There is a real risk that some of the money could be misdirected or stolen – the ability of East European government to properly ‘absorb’ EU aid is in question. But EU officials have worked with the eastern neighbours for many years now; they have a good idea which parts of their administrations are competent and which are corrupt, and can reduce the risk of theft by targeting the aid carefully.
Building EU-wide support for these proposals will not be easy. All EU governments, including the most prosperous ones, are going to run up massive debt in the coming years. Money will be in very short supply, so the member-states will be reluctant to expand assistance to Eastern Europe. Also, the EU is getting fed up with Ukraine in particular, because the leadership is so weak and divided – the IMF even halted the disbursement of its loan because the government in Kyiv failed to agree the necessary reforms. And because Ukraine has been at the heart of the eastern partnership, its woes undermine support among EU member-states for the whole region.
But the EU has no choice but work with Ukraine; it is the largest and most important country in the eastern partnership. And while the economic crisis will consume most European effort and attention; the EU must be able to pursue different objectives simultaneously. The economic crisis creates an opportunity for the EU's eastern policy. Ukraine and other neighbours will be looking for help to stave off the crisis and lessen the social tensions it will create. The EU should become 'the friend in need', and built lasting loyalties.
Tomas Valasek is director of foreign policy and defence at the Centre for European Reform.
In two months, at a summit in Prague on May 7th, the European Union will launch a new policy for Eastern Europe – an 'eastern partnership'. It will increase EU assistance to the region, open the EU’s markets to the neighbours’ goods and gradually remove visa requirements, among other things. The idea is to give the neighbouring countries stronger incentives to adopt European norms and rules, to integrate their economies with the EU's, and thus to make the region more prosperous and stable. The concept is sound – but the initiative as well as the EU’s overall policy for Eastern Europe will suffer unless the EU takes more visible steps to assist its neighbours through the economic crisis.
The crisis hit Eastern Europe hard. Ukraine’s currency, the hryvnia, lost over 50 per cent of its value, and economists warn of a possible default. Belarus, too, is in trouble. Much of the economy is driven by exports of machinery to Russia, where demand has collapsed. Armenia, another member of the eastern partnership, is in equal difficulty, and will probably need an IMF emergency loan soon.
The economic crisis poses a three-fold challenge to the EU's eastern policy. The first risk is that of rising nationalism and protectionism on both sides of the EU’s borders, which is hampering economic integration. The European Union and Ukraine are negotiating a new free trade agreement but senior EU officials say that Ukraine has become more protectionist since the crisis broke out. It insists on keeping a number of controversial tariffs, which has caused the talks to stall. The EU, too, is far less open to eastern workers and visitors these days. The member-states are unwilling to ease visa requirements for the partner states, fearing an influx of illegal workers. If the EU and its partners fail to deepen economic integration and make travel to the EU easier, the eastern partnership’s main goal – a gradual alignment of the partner states with the EU – will be in trouble.
The second risk stems from the perception that the EU is not doing enough to help the eastern partners through the crisis. President Vladimir Voronin of Moldova recently dismissed the eastern partnership-related grants as “candy”, suggesting they were not serious enough to warrant attention. He is unfair to the EU: it is not the eastern partnership's purpose to bail out the partners' economies. It has only a modest financial component; its grants amount to a few hundred million euro, and are meant mainly to help improve governance and expand people-to-people contacts. There are other tools the EU can use to assist its eastern neighbours through the crisis, like the International Monetary Fund, which recently made a $15 billion emergency loan to Ukraine. But Voronin’s words signal a broader problem for the EU’s eastern policy: the EU is not perceived to be helping its eastern neighbours; they see the IMF but not Europe. And perceptions are important: if the EU’s eastern partners think that the EU is failing them at the time of their greatest need, most of the goals of the eastern partnership will come to nought.
The third risk relates to the economic weakness of many new EU member-states in Central Europe. It is they who, along with Sweden, have most strongly advocated greater EU engagement with its eastern neighbours. And in the EU, which has many diverse members and interests, an initiative only succeeds when a strong state or a group of states devote serious time and attention to winning EU-wide support for it. But will the new member-states push for more financial assistance for Eastern Europe? It could mean keeping less of the much-needed money for themselves, and that is a tough political decision to make. Will they have the energy to fight the political battles in Brussels with EU governments less interested in Eastern Europe? Some new member-states like Latvia are reducing diplomatic staffs across Europe, and they will find it difficult to pursue multiple foreign policy goals simultaneously. Also at risk are the myriad of small grants which the new member-states' governments give to non-governmental groups in the neighbouring countries, and the training programmes they organise for East European administrators or journalists. These programmes are just as important as the eastern partnership itself: they expand the circle of people in the Eastern Europe who have a vested interest in closer relationship with the EU. So it matters that these activities are now at risk because of recession-related budget cuts.
The economic crisis represents a crisis of sorts for the EU's eastern policy. But there are ways of minimising the damage or even turning a problem into an opportunity.
Some EU government-financed initiatives for eastern neighbours will no doubt fall victim to the economic crisis. But instead of all Central European governments cutting all their training or advisory programmes, they should pool some of the initiatives. For example, rather than recalling advisors who are helping to reform key Ukrainian ministries, the new member-states could agree to withdraw some and co-finance the remaining ones. The same should apply to training programmes in the EU for East European administrators and to the very useful conferences organised in Latvia and Estonia to raise the profile of the EU’s eastern initiatives: some will be cut but there ought to be ways to share resources to save the remaining ones.
The top priority for the EU’s eastern policy, however, must be to take steps to more visibly help its eastern neighbours through the economic crisis. It is simply not true, as president Voronin suggested, that European aid to the east is peanuts – the IMF, in which EU member-states play a strong role, gave a $15 billion loan to Ukraine, and a further $2 billion loan to Belarus. The trouble is that the EU as such is not getting the credit. And in the eyes of the Eastern Europeans, the EU’s perceived stinginess compares unfavourably with the far greater amounts which Russia is willing to spend on bailing out Eastern Europe (it set aside $7.5 billion for the task).
The situation calls for creative solutions. The EU should not compete with the IMF in providing balance-of-payment loans directly to governments: the IMF has a better capacity to raise the necessary funds and to oversee the reforms, which the recipient states undertake in order to qualify for IMF loans. But the EU could expand its €25 billion emergency fund for the new member-states to include the eastern neighbours as well. And it should use the money to co-finance IMF assistance with targeted loans or grants to soften the social impact of the economic crisis. For example, it could finance job retraining programmes in Belarus or Ukraine.
The EU should also speed up the payment of its eastern partnership grants. They are small compared to the amounts disbursed through loans but if targeted well, could have real impact. The EU should direct them towards helping the most vulnerable parts of East European societies and towards regions hardest hit by the crisis. There is a real risk that some of the money could be misdirected or stolen – the ability of East European government to properly ‘absorb’ EU aid is in question. But EU officials have worked with the eastern neighbours for many years now; they have a good idea which parts of their administrations are competent and which are corrupt, and can reduce the risk of theft by targeting the aid carefully.
Building EU-wide support for these proposals will not be easy. All EU governments, including the most prosperous ones, are going to run up massive debt in the coming years. Money will be in very short supply, so the member-states will be reluctant to expand assistance to Eastern Europe. Also, the EU is getting fed up with Ukraine in particular, because the leadership is so weak and divided – the IMF even halted the disbursement of its loan because the government in Kyiv failed to agree the necessary reforms. And because Ukraine has been at the heart of the eastern partnership, its woes undermine support among EU member-states for the whole region.
But the EU has no choice but work with Ukraine; it is the largest and most important country in the eastern partnership. And while the economic crisis will consume most European effort and attention; the EU must be able to pursue different objectives simultaneously. The economic crisis creates an opportunity for the EU's eastern policy. Ukraine and other neighbours will be looking for help to stave off the crisis and lessen the social tensions it will create. The EU should become 'the friend in need', and built lasting loyalties.
Tomas Valasek is director of foreign policy and defence at the Centre for European Reform.
Friday, February 27, 2009
Financial regulation: Is the Channel narrowing?
by Philip Whyte
On February 25th, a Commission-appointed taskforce headed by Jacques de Larosière published its much-awaited report on financial supervision in the EU. By coincidence, a parallel (but less widely reported) event took place the same day on the other side of the Channel: Lord Turner, the chairman of the UK’s Financial Services Authority (FSA), gave evidence to a parliamentary committee. What light does Lord Turner’s evidence shed on the UK’s likely reception of the Larosière report?
London’s status as a financial centre has long played an important role in Britain’s complex relationship with the EU. Although the UK has been a strong supporter of the single market, it has been suspicious of any moves that might undermine London’s position as Europe’s pre-eminent financial centre. London’s status has partly rested on the UK’s ‘light touch’ regulatory regime. And many in the UK have long worried that the survival of that regime is threatened by the encroachment of EU rules – particularly as countries such as France and Germany, which aspire to ‘repatriate’ business to Paris and Frankfurt, have never had the City of London’s best interests at heart. This explains why the City, the most cosmopolitan economic cluster anywhere in the EU, is relatively Eurosceptic. And it partly explains successive British governments’ reticence to EU integration.
However, the financial crisis is transforming some longstanding British assumptions. It is not that the crisis has reduced domestic Euro-scepticism. Domestic opposition to joining the single currency remains as strong as ever. But the crisis has called into question the merits of ‘light touch’ regulation. Popular feeling against financiers is running high. A backlash is in full swing. Bankers have fallen even lower in the public’s esteem than politicians, journalists and estate agents. Given the epic scale of the profits which have been privatised and the losses which have been socialised, the opprobrium financiers are attracting is understandable. All the main political parties are going along with the public mood. But it would be wrong to dismiss the recent furore as politicians pandering to the mob. For the change in British assumptions seems to run deeper: it is intellectual, as well as political.
Take Lord Turner’s evidence to the Treasury select committee. What did he say? In essence, he said that the era of light touch regulation was over. He promised a ‘revolution’ in financial regulation that would include tougher capital rules for banks, and capital and liquidity rules for previously large, unregulated institutions such as hedge funds. Asked about the way in which the FSA had supervised a bank which had to be bailed out in 2008 with taxpayers’ money, he said that it “was a competent execution of a philosophy of regulation that was, in retrospect, mistaken”. Lord Turner is no populist, so his testimony represents one of the strongest repudiations of the philosophy of light touch regulation to date. It would be wrong to conclude that the British have converted to the French and German view of financial markets. But the intellectual distance across the Channel has narrowed.
What of the British view on pan-European regulatory structures? The government has opposed periodic calls for the establishment of a pan-European regulator. And there is no reason to believe that the financial crisis has made it anymore keen on the idea. It will continue to oppose any blueprint that smacks of supranationalism. The question is: does the Larosière report propose institutional structures that the UK could accept? It is not yet clear. The Larosière group is not recommending that a single regulator be established. It has recognised that this would be unrealistic, given the absence of political appetite in the UK and some other member-states. So it has proposed building two separate structures: one dealing with traditional micro-prudential supervision (the oversight of individual institutions) and another with macro-prudential issues (risks to the financial system as a whole).
Micro-prudential supervision would build on existing institutional arrangements by establishing a European System of Financial Supervisors. The day-to-day supervision of institutions would be left to national regulators, and international colleges of regulators would continue to oversee cross-border banks. But there would be greater central coordination. The so-called Level 3 committees, which currently try to coordinate national regulatory approaches across the EU, would be given more powers and turned into new authorities for the banking, insurance and securities industries. Macro-prudential supervision would be carried out by a European Systemic Risk Council. This new body would be chaired by the European Central Bank (ECB), but composed of national central banks and regulators. It would collate and analyse information relating to system risk and financial stability.
Could the British government sign up to the institutional architecture proposed by the Larosière report? Although the report does not recommend the establishment of a single, pan-European regulator the British government may still find it difficult to cede new powers to EU bodies. The governing Labour Party is domestically weakened and, with only a year before the next general election, is trailing the opposition Conservative Party by a huge margin in opinion polls. The political context is important because Labour will not want to expose itself to accusations from Eurosceptic Conservatives that it has “given powers away to Brusssels”. The Channel may have narrowed, therefore. But it is far from clear that it has done so sufficiently to allow the Larosière report to be implemented. This is a shame, because there may be no other way to reconcile political constraints with the needs of the moment.
Philip Whyte is a senior research fellow at the Centre for European Reform.
On February 25th, a Commission-appointed taskforce headed by Jacques de Larosière published its much-awaited report on financial supervision in the EU. By coincidence, a parallel (but less widely reported) event took place the same day on the other side of the Channel: Lord Turner, the chairman of the UK’s Financial Services Authority (FSA), gave evidence to a parliamentary committee. What light does Lord Turner’s evidence shed on the UK’s likely reception of the Larosière report?
London’s status as a financial centre has long played an important role in Britain’s complex relationship with the EU. Although the UK has been a strong supporter of the single market, it has been suspicious of any moves that might undermine London’s position as Europe’s pre-eminent financial centre. London’s status has partly rested on the UK’s ‘light touch’ regulatory regime. And many in the UK have long worried that the survival of that regime is threatened by the encroachment of EU rules – particularly as countries such as France and Germany, which aspire to ‘repatriate’ business to Paris and Frankfurt, have never had the City of London’s best interests at heart. This explains why the City, the most cosmopolitan economic cluster anywhere in the EU, is relatively Eurosceptic. And it partly explains successive British governments’ reticence to EU integration.
However, the financial crisis is transforming some longstanding British assumptions. It is not that the crisis has reduced domestic Euro-scepticism. Domestic opposition to joining the single currency remains as strong as ever. But the crisis has called into question the merits of ‘light touch’ regulation. Popular feeling against financiers is running high. A backlash is in full swing. Bankers have fallen even lower in the public’s esteem than politicians, journalists and estate agents. Given the epic scale of the profits which have been privatised and the losses which have been socialised, the opprobrium financiers are attracting is understandable. All the main political parties are going along with the public mood. But it would be wrong to dismiss the recent furore as politicians pandering to the mob. For the change in British assumptions seems to run deeper: it is intellectual, as well as political.
Take Lord Turner’s evidence to the Treasury select committee. What did he say? In essence, he said that the era of light touch regulation was over. He promised a ‘revolution’ in financial regulation that would include tougher capital rules for banks, and capital and liquidity rules for previously large, unregulated institutions such as hedge funds. Asked about the way in which the FSA had supervised a bank which had to be bailed out in 2008 with taxpayers’ money, he said that it “was a competent execution of a philosophy of regulation that was, in retrospect, mistaken”. Lord Turner is no populist, so his testimony represents one of the strongest repudiations of the philosophy of light touch regulation to date. It would be wrong to conclude that the British have converted to the French and German view of financial markets. But the intellectual distance across the Channel has narrowed.
What of the British view on pan-European regulatory structures? The government has opposed periodic calls for the establishment of a pan-European regulator. And there is no reason to believe that the financial crisis has made it anymore keen on the idea. It will continue to oppose any blueprint that smacks of supranationalism. The question is: does the Larosière report propose institutional structures that the UK could accept? It is not yet clear. The Larosière group is not recommending that a single regulator be established. It has recognised that this would be unrealistic, given the absence of political appetite in the UK and some other member-states. So it has proposed building two separate structures: one dealing with traditional micro-prudential supervision (the oversight of individual institutions) and another with macro-prudential issues (risks to the financial system as a whole).
Micro-prudential supervision would build on existing institutional arrangements by establishing a European System of Financial Supervisors. The day-to-day supervision of institutions would be left to national regulators, and international colleges of regulators would continue to oversee cross-border banks. But there would be greater central coordination. The so-called Level 3 committees, which currently try to coordinate national regulatory approaches across the EU, would be given more powers and turned into new authorities for the banking, insurance and securities industries. Macro-prudential supervision would be carried out by a European Systemic Risk Council. This new body would be chaired by the European Central Bank (ECB), but composed of national central banks and regulators. It would collate and analyse information relating to system risk and financial stability.
Could the British government sign up to the institutional architecture proposed by the Larosière report? Although the report does not recommend the establishment of a single, pan-European regulator the British government may still find it difficult to cede new powers to EU bodies. The governing Labour Party is domestically weakened and, with only a year before the next general election, is trailing the opposition Conservative Party by a huge margin in opinion polls. The political context is important because Labour will not want to expose itself to accusations from Eurosceptic Conservatives that it has “given powers away to Brusssels”. The Channel may have narrowed, therefore. But it is far from clear that it has done so sufficiently to allow the Larosière report to be implemented. This is a shame, because there may be no other way to reconcile political constraints with the needs of the moment.
Philip Whyte is a senior research fellow at the Centre for European Reform.
Tuesday, February 24, 2009
Why enlargement is in trouble
by Katinka Barysch
It is five years since the EU admitted eight Central and East European countries, followed by another two in 2007. To celebrate this anniversary, Commissioner Olli Rehn has just released a report that explains how these countries have benefited from integrating into the EU. But any jubilant mood was dimmed by the current economic crisis in Central and Eastern Europe; and by the bleak outlook for further accessions.
There are long-standing and well-known reasons why enlargement to Turkey and the Western Balkans is proceeding so slowly: the political instability and economic backwardness of most of the current applicants; the enlargement fatigue of many West Europeans; the specific questions that Austrian, French and other politicians ask about Turkey’s European destiny.
But there is another, more specific reason why enlargement is in trouble just now: various existing EU members are holding enlargement hostage to bilateral issues they have with some applicant or other. EU governments have always thrown their specific worries or pet projects into accession negotiations. But the boldness with which some now hold up the entire process to get what they want is almost unprecedented.
The most blatant example is Slovenia’s spat with Croatia over a stretch of Mediterranean border. Croatia was hoping to wrap up its accession negotiations this year so that it can join in 2010. But while 26 EU countries (and the European Commission) wanted to open ten new ‘chapters’ in the negotiations in 2008, Slovenia vetoed all but one. Since then, the political atmosphere between Ljubljana and Zagreb has become so poisonous that the EU has called in Nobel Prize winning diplomatic Martti Ahtisaari to find a way out.
Cyprus, meanwhile, is blocking several chapters in Turkey’s accession talks, probably in the hope of gaining leverage in the peace talks that are going on in the divided island. France is also holding up the talks, but for more profound reasons: since Nicolas Sarkozy prefers a ‘privileged partnership’, he argues that Turkey need not bother with those chapters of the acquis that are only relevant for full members.
Meanwhile, the Dutch government is vetoing an EU-Serbia ‘stabilisation agreement’ (an important step on the path towards candidate status) because it wants Belgrade to first deliver Ratko Mladic to the war-crimes tribunal in The Hague. Greece is holding Macedonia’s application hostage to its long-running dispute over the country’s proper name. Although Macedonia has had official candidate status since 2005, the Council has not yet asked the Commission for an ‘opinion’ on the country’s readiness. Without this report, the negotiations cannot start. Already, Brussels-watchers speculate which EU nation could impose a veto over a possible application from Iceland, perhaps over fishing rights.
One high-level Commission official warns that bilateral issues could “suffocate the enlargement agenda”. This would be a dangerous development in what is going to be a crucial year for accession. Albania, Bosnia and Serbia are planning to hand in their formal applications for membership this year, as Montenegro already did at the end of 2008. The EU needs to stand ready to respond in an encouraging and constructive way, not with the stony silence that has met recent advances from countries in the Western Balkans.
Turkey’s accession could also be heading for trouble this year. The EU is due to review the implementation of the ‘Ankara protocol’ under which Turkey is obliged to open up its ports and airports for ships and planes from Cyprus. Turkey is unlikely to comply unless there is progress in the peace talks between northern and southern Cyprus – a faint prospect after 40 years of divisions. Some EU governments will insist that Turkey’s accession process will be put on hold. Even if there were no such demands, there are now so many bilateral vetoes on different bits of the Turkish accession talks that the EU would simply run out of chapters to negotiate with Ankara.
Only a big political push can resolve these multiple deadlocks. But most EU members are not keen on moving enlargement along. West Europeans will be even more fearful of cheap competition from eastern newcomers now that their economies are in recession and unemployment is rising everywhere. EU governments will be cautious not to take any unpopular decisions on enlargement ahead of the elections to the European Parliament in June 2009 and the second Irish referendum on the Lisbon treaty in the autumn. By then, however, irreparable damage could already have been done to the credibility of the enlargement process, especially if the accession of Croatia – by far the best prepared of the current aspirants – was foiled or delayed because of a bilateral border spat.
EU governments need some vision here. They should conclude a ‘gentlemen’s agreement’ not to veto accessions because of bilateral grievances. They need to find a way of keeping Turkey’s accession process alive even if no breakthrough is achieved in Cyprus this year. And they should allow the Commission to get going with the opinions on the Western Balkans countries. The debate on whether these countries are ready to join the EU should be conducted on the basis of these reports, not ahead of them.
Katinka Barysch is deputy director of the Centre for European Reform.
It is five years since the EU admitted eight Central and East European countries, followed by another two in 2007. To celebrate this anniversary, Commissioner Olli Rehn has just released a report that explains how these countries have benefited from integrating into the EU. But any jubilant mood was dimmed by the current economic crisis in Central and Eastern Europe; and by the bleak outlook for further accessions.
There are long-standing and well-known reasons why enlargement to Turkey and the Western Balkans is proceeding so slowly: the political instability and economic backwardness of most of the current applicants; the enlargement fatigue of many West Europeans; the specific questions that Austrian, French and other politicians ask about Turkey’s European destiny.
But there is another, more specific reason why enlargement is in trouble just now: various existing EU members are holding enlargement hostage to bilateral issues they have with some applicant or other. EU governments have always thrown their specific worries or pet projects into accession negotiations. But the boldness with which some now hold up the entire process to get what they want is almost unprecedented.
The most blatant example is Slovenia’s spat with Croatia over a stretch of Mediterranean border. Croatia was hoping to wrap up its accession negotiations this year so that it can join in 2010. But while 26 EU countries (and the European Commission) wanted to open ten new ‘chapters’ in the negotiations in 2008, Slovenia vetoed all but one. Since then, the political atmosphere between Ljubljana and Zagreb has become so poisonous that the EU has called in Nobel Prize winning diplomatic Martti Ahtisaari to find a way out.
Cyprus, meanwhile, is blocking several chapters in Turkey’s accession talks, probably in the hope of gaining leverage in the peace talks that are going on in the divided island. France is also holding up the talks, but for more profound reasons: since Nicolas Sarkozy prefers a ‘privileged partnership’, he argues that Turkey need not bother with those chapters of the acquis that are only relevant for full members.
Meanwhile, the Dutch government is vetoing an EU-Serbia ‘stabilisation agreement’ (an important step on the path towards candidate status) because it wants Belgrade to first deliver Ratko Mladic to the war-crimes tribunal in The Hague. Greece is holding Macedonia’s application hostage to its long-running dispute over the country’s proper name. Although Macedonia has had official candidate status since 2005, the Council has not yet asked the Commission for an ‘opinion’ on the country’s readiness. Without this report, the negotiations cannot start. Already, Brussels-watchers speculate which EU nation could impose a veto over a possible application from Iceland, perhaps over fishing rights.
One high-level Commission official warns that bilateral issues could “suffocate the enlargement agenda”. This would be a dangerous development in what is going to be a crucial year for accession. Albania, Bosnia and Serbia are planning to hand in their formal applications for membership this year, as Montenegro already did at the end of 2008. The EU needs to stand ready to respond in an encouraging and constructive way, not with the stony silence that has met recent advances from countries in the Western Balkans.
Turkey’s accession could also be heading for trouble this year. The EU is due to review the implementation of the ‘Ankara protocol’ under which Turkey is obliged to open up its ports and airports for ships and planes from Cyprus. Turkey is unlikely to comply unless there is progress in the peace talks between northern and southern Cyprus – a faint prospect after 40 years of divisions. Some EU governments will insist that Turkey’s accession process will be put on hold. Even if there were no such demands, there are now so many bilateral vetoes on different bits of the Turkish accession talks that the EU would simply run out of chapters to negotiate with Ankara.
Only a big political push can resolve these multiple deadlocks. But most EU members are not keen on moving enlargement along. West Europeans will be even more fearful of cheap competition from eastern newcomers now that their economies are in recession and unemployment is rising everywhere. EU governments will be cautious not to take any unpopular decisions on enlargement ahead of the elections to the European Parliament in June 2009 and the second Irish referendum on the Lisbon treaty in the autumn. By then, however, irreparable damage could already have been done to the credibility of the enlargement process, especially if the accession of Croatia – by far the best prepared of the current aspirants – was foiled or delayed because of a bilateral border spat.
EU governments need some vision here. They should conclude a ‘gentlemen’s agreement’ not to veto accessions because of bilateral grievances. They need to find a way of keeping Turkey’s accession process alive even if no breakthrough is achieved in Cyprus this year. And they should allow the Commission to get going with the opinions on the Western Balkans countries. The debate on whether these countries are ready to join the EU should be conducted on the basis of these reports, not ahead of them.
Katinka Barysch is deputy director of the Centre for European Reform.
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