More Politics in the Union

Being part of a monetary means being part of a political and so in the coming years further transfers of sovereignty from national to European level must be expected. In the face of the worst crisis the Euro has ever gone through, Jörg Asmussen, German member of the Executive Board of the ECB since last October, as well as alumnus of the MBA at SDA Bocconi, ups the ante and says that rules on their own aren't enough: "We also need to gradually create the institutions of a political union". FB -Measures to adjust fiscal and other macroeconomic disequilibria in EU member countries are pushing towards the adoption of severely restrictive budgetary policies. These policies could cause growth rates to stagnate for a long time. Lower growth might also make budgetary adjustment more problematic. How do you see this potential trade-off between fiscal discipline and growth? Which structural reforms do you think are more urgent and effective to improve the trade-off? In particular: do you think that a strong effort to greatly accelerate the completion of the European single market, with special emphasis on the market for services, can be successful and helpful to promote growth-cum-fiscal discipline? JA -The severe impact of the crisis on budget deficits and debt levels across many euro area countries had to be addressed through comprehensive fiscal consolidation strategies, especially in vulnerable countries and in those with an EU/IMF programme. But we also cannot deny the facts: such sizeable consolidation is likely to bear on growth in the short term, as has been the case for most adjustment programmes, be it in Latin America in the 1980s or in Asia in the 1990s.
But what is the alternative? When fiscal positions are clearly unsustainable, they need to be addressed as a matter of priority. If not, the confidence of financial markets in the sustainability of public finances is further undermined. And this weighs heavily on growth prospects. The alleged alternative – fighting low growth with yet more debt – is an illusion. Our own studies, as well as those from international organisations, clearly show that public debt begins to hurt growth once it rises above around 80-90% of gross domestic product.
However, there is evidence of what we may call "expansionary contraction" – even if that term sounds like an oxymoron: in the long-term, there are sizeable positive effects of fiscal consolidation, especially if consolidation based on permanent reductions in government transfers which weighs less on growth than, say, cuts in public investment or tax increases.
The potential trade-off between fiscal discipline and growth can be limited if consolidation is accompanied by growth-enhancing structural reforms, for instance by opening up closed sectors of the economy and completing the EU's single market, including for services. The ECB has always strongly advocated the implementation of ambitious structural reforms in European economies. There is a widely held view that the European single currency needs to be supported by a deeper economic of the EU and that this support cannot be obtained without some relevant institutional step towards "political" unification. The latter is a somewhat vague expression, indicating an idea that can be implemented in different ways with different timing. How would you characterise the substance of the main concrete and more urgent steps to be taken in order to achieve a degree of political integration that can improve the sustainability of monetary unification? In particular: is the Fiscal Compact that Europe is now planning to adopt a sufficient solution in the medium-long run? Let me start with the Fiscal Compact. This new Treaty is the right medicine for what we have recognised as one of the main causes of the sovereign debt crisis – the lack of budgetary discipline. Building on the Stability and Growth Pact and the economic governance framework adopted last November, the Fiscal Compact is a further and important step towards a European fiscal union, an essential pillar to restore trust among countries in the euro area. However, more steps will have to follow in order to achieve a degree of co-ordination of national fiscal policies which lives up to the stability requirements in a monetary union.
Let me be clear: being part of a monetary means being part of a political union. And, yes, this will imply further transfers of sovereignty to the European level. The economic policies of euro area countries are, at the end of then day, domestic policies for the euro area. Precisely because decisions in one country can have an impact on all members of the monetary union, there is a right and an obligation to subject them to mutual surveillance, and to correct them if required in the collective interest of all. We need a step change in our mindset, both as policy-makers and as citizens. National governments and parliaments as well as domestic companies all must take account of the euro area dimension in their activities.
A greater degree of political integration in the euro area cannot and will not be achieved by forcing institutional change merely through rules. We also need to gradually create the institutions of a political union. And we are making progress on that front: the establishment of regular Euro Summits as the main forum to tackle the euro area debt crisis is one case in point. I am sure that this will be followed by further steps towards more integration in the medium term The European Central Bank has performed extraordinary operations to help the European financial system out of the crisis. There is a large consensus that its decisions have been effective and useful. In spite of this positive judgment a long term issue arises: is this type of involvement of the ECB the optimal solution also for the "next crisis"? Do you think that, in the coming future, the ECB should be assigned a better codified role in financial crisis management? More generally: do you think that the ECB strategy should include a more explicit and precise responsibility towards the objective of financial stability? The financial and economic crisis has presented tremendous challenges to policy-makers in the euro area, including the ECB Governing Council. The ECB faced the double dilemma: we had to cope with unprecedented threats to macroeconomic stability. At the same time, we were faced with the problem that the transmission mechanism for our monetary policy impulses was impaired. In the absence of inflationary pressures, we reacted promptly by reducing our policy interest rate rapidly to very low levels. Additionally and fully in line with our mandate, we engaged in a number of non-standard policy measures to ensure that our interest rate decisions are transmitted to the broader economy, despite the problems in the banking sector.
The crisis evidently revealed severe weaknesses - not in mandate or operations of the ECB - but in the broader governance framework of the euro area. The ECB has done its part. Our primary objective will remain the maintenance of price stability. Monetary policy cannot substitute for the structural, fiscal and financial reforms that are needed to ensure financial and macroeconomic stability in the euro area. The ball is in the court of the governments. Beyond the improvements in economic governance I mentioned, financial regulation and supervision have to be strengthened. The dangerous feedback loop between the solvency of systemically important financial institutions and the solvency of countries persists, because national governments ultimately remain responsible for their banks. Yet those banks operate in an integrated European financial market. The optimal solution to break this nexus between banks and their respective sovereign would be to set up a euro area mechanism with the means to recapitalise banks, provide bank debt guarantees and, if necessary, to restructure or wind down banks. Finally, we do have the European Stability Mechanism which is a robust instrument to address crisis and their potential spillover effects. But it is, again, up to the governments to ensure that it is equipped with sufficient resources. The international financial crisis that erupted five years ago is in part the consequence of an insufficient degree of coordination in global economic governance. In particular, both monetary policy and financial regulation and supervision need stronger global cooperation and homogeneity of rules and strategies. What is your judgment of how the G20 and the Financial Stability Board have been working in this direction? How do you think the EU could help to improve and accelerate the steps towards a better global monetary and financial governance? How do you see, in this perspective, the current status of transatlantic cooperation and diplomatic relations? The global financial crisis has indeed again highlighted the need for international policy cooperation and collective action. Both the G20 and the new Financial Stability Board have gained importance over the last 5 years and have served – together with the IMF – as useful consensus-building mechanisms to launch the necessary reforms. Let me give two examples. G20 members have made important commitments on macroeconomic policy, e.g. regarding fiscal consolidation, global growth rebalancing and moves toward more market-determined exchange rates. The financial regulation agenda, has been greatly advanced by the FSB, for example with respect to systemically important financial institutions, derivatives, shadow banking, or accounting. Obviously, all this will remain hollow talk unless the commitments are fulfilled and the agreed reforms are actually implemented. Europe, for its part, is committed to making global policy cooperation a success.