How should the Eurozone fiscal union/finance ministry look like?

Benedicta MarzinottoAndré SapirGuntram B. Wolff  of Bruegel institute throw some light on this hot issue.

Basically, it has to be like any other finance ministry/treasury responsible for stability of the economy. Here as we are talking about Europe, this should also mean it has veto powers over budgets of national finance ministries that could create instability in Euroarea  as we are seeing today.

We propose limited fiscal union, including the creation of a euro-area finance ministry, with a minister with veto rights over national budgets that could threaten euro-area sustainability. The ministry would also assess the liquidity and solvency of governments facing difficulties, and provide support to illiquid but solvent governments. It would be able to rely on federal tax resources, and would set up and back up a euro-area deposit insurance corporation with banking supervision and resolution authority.

Our plan implies a significant transfer of sovereignty, requiring a new political contract between the euro area’s nations and people. The finance minister would be held democratically accountable. Setting a clear transition to limited fiscal union should create space for the European Central Bank to act as lender of last resort.

Broadly the Euroarea finance ministry will be responsible for following:

  • For illiquid banks ECB should be responsible. For insolvent ones, it should be Fiscal union.
  • We need Euroarea financial supervision and regulation. For instance they propose a European Despoit Insurance Corporation like the FDIC which guarrantees bank deposits across Europe. But there is no fiscal space to create such institutions as in case of large bailouts there is no money on the table. The ministry will help create such instis
  • There should be veto power over national budgets which harm the union as a whole. In a way it will act as a check to the national fiscal policies.
How will it be financed?

We note that all successful currency areas have a sizeable federal budget; our proposal involves a smaller one. We argue that the euro-area finance ministry would need a taxing capacity of perhaps two percent of euro-area GDP in case loans provided to an illiquid country were to turn bad or bank recapitalisation needs were to exceed the funds available in the EDIC insurance. Euro-area GDP is around €9,000 billion. With a permanent income stream of €90 billion annually (ie one percent), one could borrow up to €2250 billion at a hypothetical interest rate of four percent. This borrowing capacity would be large enough to take Italy and Spain from the market for several years. Alternatively, a payment mechanism that would guarantee that liquidity crises do not become self-fulfilling by reducing the budgetary impact of spreads could be established with limited tax resources. Until a proper insurance fund for bank deposits is built up, some further tax capacity may be needed to cover the most immediate recapitaliation needs of banks.

The paper does not cover the most important question. How will such a minister/cabinet be elected democratically? This isn’t like the ECB where appointments are done by the European Parliament.

It is beyond the scope of this Policy Brief to elaborate the democratic framework underlying the euro-area finance ministry. Certainly, the euro-area finance minister will need to be elected by the European Parliament and the Council in euro-area composition by the normal majority rule. All major decisions would have to be put to a vote in the two chambers. This would concern in particular decisions to raise taxes and to veto national policies. The new federal structure would thus have to acquire federal democratic legitimacy. It is also crucial that decisions taken by the euro-area finance minister that would alter national government and parliament decisions, be explained and debated in front of national parliaments by the euro-area finance minister.

This clearly is a case of who will bell the cat.

In the end they talk about transition of the various agencies to a common fiscal union.

Saying Europe needs a fiscal union is easy bit. To understand and design one given huge political compulsions is a major challenge…

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One Response to “How should the Eurozone fiscal union/finance ministry look like?”

  1. Why Eurobonds are critical to a stronger Europe? « Mostly Economics Says:

    […] level. Unless the countries give up more rights to the parliament and have some kind of a strong finance  minstry etc., this arrangement of Eurobond unlikely to work. I mean the above article says the countries need […]

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