OPINION:We must ensure fiscal policy is sustainable and counter-cyclical, while also focusing on financial supervision and being competitive, writes RORY O'DONNELL
THE EURO has in most respects been a success. However, the crisis in international finance has revealed significant problems within the euro zone. These include balance of payments deficits in the periphery, surpluses and weak demand in the core, insufficient financial sector supervision at European level, ineffective surveillance of member states’ economic policies, and unsustainable deficits and debt in some member states.
Ireland’s experience in the EMU reflects the euro-zone imbalances, and domestic policy and behavioural factors.
But if Ireland had not joined the euro, it is likely to have fared worse in the crisis of 2008-10 because of destabilising capital flows, currency depreciation and interest rate dynamics.
The National Economic and Social Council (NESC) study on the euro, published today, reaches three main policy conclusions concerning the EU reform process, policy lessons for Ireland, and political and popular buy-in.
While the EU has taken important actions and decisions in the past year, there remain severe challenges on three fronts: the effectiveness of the temporary financial support provided to Greece (and potentially available to other member states), the recovery of the whole European economy in the context of fiscal austerity, and the continuing risks to the financial system at both global and European level.
The future stability of the euro zone depends on more effective surveillance and co-ordination of member states’ fiscal positions and structural policies, stronger EU-level financial regulation, and an ongoing reform process which addresses both the immediate problems and the dangers which threaten the prosperity of the euro zone.
The reform process must ensure the governance mechanisms which the EU has already developed and made effective in other policy spheres are now brought to bear regarding the euro and related economic policies. At their best, these involve an effective system of joint goal setting, decentralised execution, information sharing, learning and system revision.
Better ongoing monitoring, co-ordination and learning must become the norm, and be less captive to obstructions based on misguided defence of national sovereignty, defined without sufficient acknowledgment of the national interest in the effective governance of a single currency.
If the work of the Task Force on Economic Governance, chaired by president of the European Council Herman Van Rompuy, is undertaken in an open-minded way, it should be possible for the EU to discuss and agree a pragmatic combination of measures that protects the euro, addresses the deficit and debt problems, supports macroeconomic recovery and responds to the risk of further financial sector and exchange rate turbulence. Ireland has a strong interest in the success of this process.
To succeed within the euro, Ireland must learn the lessons of the past decade. This means ensuring future fiscal policy is counter-cyclical (ie helps to stabilise the economic cycle) and sustainable in the long term. It also means ensuring that prices and costs maintain Ireland’s competitiveness, and that financial supervision prevents excessive lending and borrowing.
The NESC’s analysis explores why the achievement of a sustainable and counter-cyclical fiscal policy proved difficult over the past decade. There was an element of technical uncertainty about the permanent, rather than cyclical, scale of national income and tax revenue. This interacted with a set of unresolved political economy issues.
Among these were the appropriate scale of public services, the level and incidence of taxation, and approaches to housing supply and land management. The tax windfall created by the property boom allowed the unresolved issues to be glossed over and the macroeconomic perspective on fiscal policy to fade from view.
Consequently, the lessons of the past decade include the need to achieve a more thorough resolution of the distributional and structural tensions that create pressure for pro-cyclical fiscal policy, and tend to crowd out clear analysis of the macroeconomic context.
Structural policies – especially those that shape the management of land and supply of housing – can help to ensure fiscal policy is counter-cyclical and sustainable.
Ultimately, the success of Europe’s currency will depend on a higher degree of political and popular buy-in to the euro as a project for prosperity, stability and global governance. In the first instance, this requires that member states and the EU institutions are seen to be addressing the challenges facing the euro and the European economy.
But building this shared understanding is a task for all economic and social groups who accept the euro as the context within which their goals must be pursued. All whose fate depends on the success of the euro have an interest in the current reform process reaching an agreed and effective conclusion.
They need to affirm the appropriateness of euro-zone and EU-level mutual surveillance, benchmarking and learning. In Ireland, this requires a clear narrative on the place of the euro in our long search for a macroeconomic and monetary regime that is supportive of national development, and a shared understanding of the disciplines involved.
Rory O’Donnell is director of the National Economic and Social Council