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Europe needs wholesale reform of its fiscal framework, but it lacks the necessary political will and popular support. Until this changes, trying harder to promote investment would be more effective than just hoping for the best.
Europe’s rules require budget deficits to be no more than 3 percent of national income. Spain’s is 5.1 percent; Portugal’s 4.4 percent. In addition, countries are supposed to keep public debt at no more than 60 percent of income. Of the European Union’s 28 members, only three have consistently complied with both rules. At the moment, nine countries are subject to provisions of the so-called excessive deficit procedure, although the European Commission has recommended Cyprus, Ireland, and Slovenia be let off for good behavior.
In theory, violators can be fined as much 0.2 percent of gross domestic product. In practice, Europe doesn’t dare. What sense would it make to punish an economy, like Spain’s, that’s already struggling—not to mention the fact that it currently lacks a government? The EU is unpopular enough already.
Fully repairing the fiscal system requires a back-to-basics rethink and the creation of a limited form of fiscal union for countries that are members of the euro zone. For the moment, with voters looking askance at any and all EU initiatives, that’s out of the question. But two less radical approaches would help in the meantime.
First, boost public investment. The need is clear: Net public investment in many countries has been low for years and especially since the financial crisis; in Belgium, for example, it has been zero for decades. Infrastructure investment would create demand in the short term and boost growth in the long term.
A suitable institution exists for the purpose: The European Fund for Strategic Investments aims to attract private capital for worthy projects that require public support. Up to now, the EFSI has approved around €9.3 billion ($10.4 billion) of financing for infrastructure projects. It’s a new body, but it needs to scale up—a lot and fast.
Second, support wholly private investment by accelerating efforts to develop an integrated market for capital and especially equities. This may be the best way to help the EU cope with economic shocks and foster catch-up growth in its poor countries—more effective, even, than a functioning fiscal union. It requires a more determined assault on regulatory impediments to intra-EU capital flows, harmonized insolvency laws, the long-promised banking union, and other steps. Much of this innovation can be done without the need for a new EU treaty.
The EC solemnly refers to the budget rules as the “cornerstone of the EU’s economic governance.” That’s nonsense; those rules are broken. Until they can be fixed, move the focus from austerity and restraint to investment and growth.