The Limits of Governing Budgetary Policies by Rules

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By Daniela Schwarzer, who heads the research unit European Integration at the German Institute for International and Security Affairs, Stiftung Wissenschaft und Politik (SWP) in Berlin. Cross posted from Triple Crisis

The European squabble over budgetary austerity reached a new peak a good week ago when a document drafted by leading representatives of the French Socialist Party, which reportedly had been seen by Elysée officials close to President Hollande, personally attacked German Chancellor Angela Merkel. Less mediatized, but more telling about the nature of the governance problems facing the euro area, are the statements made by Finance Minister Pierre Moscovici this weekend. After having obtained a two-year derogation for France to comply with the 3% deficit threshold of the euro area’s fiscal rules he said: “This is a turning point in the history of European integration since the euro exists. We have witnessed the end of a certain financial orthodoxy and the end of the dogma of austerity.”

Though the French government scaled down this triumphant tone subsequently, these words provoked some strong reactions in Germany. The reason for the Franco-German discord over budgetary policy are, first, competing policy preferences, deeply rooted in normative beliefs over “the right” way out of the current crisis. The German and the French economic mainstream diverge considerably over the question what should come first: The neo-classical paradigm dominant in Germany emphasizes the need for budget consolidation (expenditure cuts instead of tax increases), structural reforms and an adjustment of real price levels in order to then bring back demand, growth and employment thanks to enhanced competitiveness and increased trust among investors. The view dominant in France makes a case for more time to meet the European debt and deficit targets so that austerity does not crush domestic demand which is necessary to prevent a further deterioration of growth and employment and to enable structural reforms.

This divergence of views is not only related to different main-stream economic paradigms. It also reflects the structure of the French and the German economies, which have a tradition of diverging sources of growth. While Germany’s growth is export-driven, economic growth in France depends much more on domestic demand. This is particularly so in the current situation, in which France faces significant problems with competitiveness in European and world markets.

But on top of that, the conflict runs even deeper. Moscovici, and this is not a singular opinion in Paris, questions the rules-based governance set-up which is supposed to control national fiscal policies in the euro area. The German government, together with the European Commission, has meanwhile put a lot of energy in the reform of the rules for domestic fiscal policies since the sovereign debt crisis hit the euro area in 2010. The intention is to limit national discretion (with a certain leeway for cyclical considerations).

Two fundamental assumptions, both of which are highly debatable, underlie the rules-based approach. The first one is that the European fiscal rules can be devised in such a way that they are likely to account for any future economic scenario. In other words: The assumption is that it is efficient and legitimate to regulate fiscal policy decisions by detailed rules and to technocratize surveillance and sanctioning of rule compliance.

The second assumption is that the rules for national fiscal policy-making actually turn into institutions – in other words that they actually impact political actors’ choices and behavior. But for this to work in a democracy (in particular in one of the most sensitive areas for national sovereignty which fiscal policy making is), there needs to be an underlying consensus and shared beliefs for these rules to actually become institutions that shape actors’ behavior.

France is the latest example which shows that these conditions are not yet met in the euro area. It was reasonable by the European Commission and the Eurogroup to grant flexibility to France (and other member states such as Spain, the Netherlands and others). But there is yet no guarantee that policies convergence with the European targets in the near future. Restricting political integration and the governance of fiscal policies merely to the rules-based approach may prove unsustainable.

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  1. mmckinl

    Unless and until the EU and the US adopt Public Banking there will always be austerity … The very nature of private bank fractional reserve banking bequeaths wealth even more wealth and the prerogatives of capital investment.

    In a world where going forward absolute output is determined by resource depletion and climate destruction, countries with low wages and poor environmental records will garner an increasing share of a shrinking pie …

    Japan, the US and the EU now garner 56% of the income of the world … that is estimated to shrink to 26% in 20 years time. Unless the public asserts it’s right under law to create its’ own currency and credit the 1% will garner most of that.

  2. clarence swinney

    The latest National Journal Heartland Monitor Poll shows the Middle Class is pessimistic
    about falling behind as they feel the Middle Class enjoys less opportunity, job insecurity,
    and less disposable income and will not be able to meet Basic financial goals as paying for children’s college, retiring comfortably or afford health emergencies.
    I recall the “good old days” of Bill Clinton in the last decade of the past century.
    Unemployment low as 3.9%. Minimum wage increase. No big foreign conflict involvement.
    Then, our jobs started big transfer to cheap labor. If we were go on big “Buy America only”
    Wal-Mart would close. Since 80% of their non produce revenue is from made in China.
    Before you say it “Clinton had a GOP Congress in 6 of 8 years”. Yes! It was Clinton-Newt.
    Yet! Bush had GOP Congress for six of 8 years. The 3 bad bills signed by Bill. Repeal of Glass Steagall. Modernization of Commodities market. Open trade with China. Redistribution of our wealth to top 10%. Just concerned. How to create industries made in America?

  3. Synopticist

    The German ( and Brussels) economic elite seems to think that macro-economics is a branch moral philosophy.

    I’ve gone right off the idea of a united Europe as a result. I never imagined they’d be as stupid as this. It just wasn’t supposed to be about Schumpterian economics and banking stability at all cost. The old-school UK worry about the EU was that it would turn into a bankers plot, and it looks liker they had a point.
    There’s a swing away from the EU in the UK, and it’s not just coming from the right wing, blazer wearing usual suspects. The tories may be in the Citys’ pocket, but ultimatelly Westminster is a damn sight more accountable than the lobbies of Brussels and Frankfurt.

  4. charles sereno

    Moscovici has to be toned down because he triumphantly proclaimed the end of the dogma of austerity as a consequence of a 2 year extension of the 3% deficit threshold? What ever happened to French rationality?

  5. David Petraitis

    Ack this just gets me up in arms on a Sunday evening… Ms. Schwarzer says:

    The German and the French economic mainstream diverge considerably over the question what should come first: The neo-classical paradigm dominant in Germany emphasizes the need for budget consolidation (expenditure cuts instead of tax increases), structural reforms and an adjustment of real price levels in order to then bring back demand, growth and employment thanks to enhanced competitiveness and increased trust among investors.

    I would like to unpack that jumble of word salad, because, as we all know, the elites throw dust up whenver they wish to keep the sheeple from realizing that they are getting fleeced.

    Let me try it as follows:

    Budget Consolidation: Germany wants everyone to have a budget deficit within the 3% stability pact because they are afraid of the horrors of inflation. Fear of inflation drives this policy choice. Inflation is feared not because of Weimar, but because it hurts creditors (read the banks) more than debtors (read the people).

    Structural reforms: This means the firms in Germany (and in the wider Euro-Reich) should be able to hire and fire at will. Just as in those nice Orwellian named “Right to Work” states here in the USA. This choice of words means bust the power of workers to organize to express their rights and air their grievances. Cut their rights and let them eat cake! Structural reforms are really just a way of saying unemployment by nice value-neutral academic sounding words.
    Adjustment of real price levels: What is implied is downward adjustment, i.e. deflation of prices. How? What prices? This is really just elite-speak for adjustment of your wages downward. So the capitalists will garner more profit.

    In order to: Generally this would be used in a logical fashion to argue a causal relationship. However here it is used to tie a set of specious moralistic neo-classical tropes to the rest of the sentence in a semblence of causality. If there was causality here one might be able to see logical connection between, budget cutting, enhancing profit and cutting wages of workers with what follows. But really there is no connection. The preceding tropes are valued because they are what the capitalists want. Not because they cause a better outcome for the people.

    Bring back demand, growth and employment: Ah… here we have a telling admission a small light of truth in the midst of a falsely stacked word salad. The problem is too little effective demand. But this is conflated with the immediate positive value-laden terms growth and employment.
    Unpacking the sylogism. Budget cutting leads to growth and unemployment leads to employment. Is this clear enough?
    Thanks to: Just in case you missed where we used false causlal linkage statements previously, we do it once again here… with feeling.
    Enhanced competitiveness: Here once again we get a little bit of the light of truth shining through the heaps of s##T er… stuff. Actually this is what it is all about for the capitalists. Make no mistake, capitalism is about out-competing the other capitalists. And they are no longer the other Europeans but the rest of the world. The Euro elite want to maintain and enhance their place on the capitalist world pecking order. So this is really the motor force of the whole charade. Not the “thanks to” effect of austerities but the “in order to” motive of austerity and the German position.
    Increased trust among investors: Ha Ha Ha. I can’t believe that the confidence fairy is still around after all this time. Oh my sides are aching from the laughter. Tinker Bell I do really believe!

    I really am to tired to continue a critique of the next sentences on the equally bankrupt French position. So I leave it to my few readers at this late hour on a Sunday evening to complete as their homework.

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