The Case for a Different Stability and Growth Pact: Towards a Fiscal and Political Union in the Euro Area

Abstract

The suspension of the fiscal rules in Europe and the enactment of NGEU provide an opportunity to rethink the inherited budget orthodoxy. The issue at stake is not only of political economy and institutional changes in the EU. It is also of economic analysis and theory. The coronavirus crisis represented a very serious risk for the Union, but can become an opportunity to face unresolved issues in a different and more satisfactory way. A crucial role in this respect is played by the analysis and the problems of public spending, debt and fiscal space. The fiscal model which was the pillar stone of the EMU hinged on the assumption that the equilibrium standard was represented by balanced budgets. This approach was in line with the tenets of the mainstream classical school and of the neoclassical model of general equilibrium. This line of thought was propounded notably by IMF economists and policy makers in the past few decades in the framework of the Washington Consensus. It was analytically explained in terms of the so-called intertemporal efficiency. Public debt at time t must be always covered by the net present value of all future primary balances, under the assumption that the real rate of interest on government debt is higher than the growth rate of real output. In this article the shortcomings of this line of analysis are brought to the fore. In the traditional approach no consideration was given to the distinction between the current/capital nature of public expenditure and to the net yield generated by government capital/infrastructure expenditure. More generally, the relationships between real interest rates, productivity and growth were not addressed.

Albeit with a long recognition lag, Academia and Policy Makers have been reconsidering the common wisdom of intertemporal efficiency and have taken a less simplistic approach to the complex problems of the fiscal/monetary policy mix and to the issue of public debt. There is also an increasing recognition of the fact that public deficits should be analyzed to assess whether and to what extent they are “nonreproductive” or are instead linked to “good” infrastructure outlays. It is noteworthy that the analytical and policy counter revolution was and is centered on the IMF itself, with the explanation why “good” public investment matters as a catalyst for sustainable economic growth. The crucial element to this line of approach of fiscal analysis is the focus on the efficiency of public capital expenditure and the intertwined issues of the corporate governance and the management of investments.

The model presented here of a “real” European public debt can be viewed as a hypothesis of institutional development aimed at the consolidation of sustainable and cohesive growth in the Union and to a structural and rigorous reformulation of the Fiscal Pact. The scheme represents an update of a model outlined in Masera (2020) for a resilient, sustainable and inclusive recovery in Europe. The common real debt would be financed through the creation of EU Reproductive Infrastructure Securities (EURIS), with the security of enduring productive assets and their real returns. Looking ahead, it is indicated that a flexible Concentric Circle approach could be adopted in Europe. The scheme would consist of an inner circle – a political and fiscal union for euro area countries - and, in outer rings, of the EU, of the EEA and of potential EU members. In the external ring a renewed Communities Association approach - open also to non-EU members – is outlined. According to this scheme deepening and enlarging would be separate but consistent and converging processes.

Keywords: public debt, Economic and Monetary Union, NGEU, EU Reproductive Infrastructure Securities, Concentric Europe, European Communities

JEL Classification: E21, E22, E62, O52, Q51, Q54