Designing a European Fiscal Union: Lessons from the Experience of Fiscal Federations

Wednesday, December 17

Authors
Carlo Cottarelli is a Special Commissioner for Public Spending in Italy. Previously, he was Director of the Fiscal Affairs Department of the International Monetary Fund (IMF).

Martine Guerguil is a Deputy Director of the Fiscal Affairs Department of the IMF, where she oversees the preparation of the IMF flagship Fiscal Monitor.

Presenter
Martine Guerguil

Discussant
Anton Matzinger, Head of Division, Intergovernmental Fiscal Relations, Austrian Federal Ministry of Finance

Chair
Martin Schindler, Deputy Director, Joint Vienna Institute

Summary
Does the European Union need tighter fiscal integration? What has been the practice of existing fiscal federations? On December 17, 2014, the JVI hosted a discussion of a new book on “Designing a European Fiscal Union: Lessons from the Experiences of Fiscal Federations,” edited by Carlo Cottarelli and Martine Guerguil. Ms. Guerguil, Deputy Director of the IMF Fiscal Affairs Department, presented the findings of the book; Mr. Anton Matzinger, Head of Division, Intergovernmental Fiscal Relations, Austrian Federal Ministry of Finance, acted as discussant; and Mr. Martin Schindler, the JVI’s Deputy Director, moderated the event.

The book details fiscal arrangements in 13 federated countries and compares them with the current arrangement in the European Union (EU). The sample includes both developed countries and emerging market economies, some of which had previously suffered debt crises that originated at the sub-national level. As Ms. Guerguil explained, the comparisons in the book are based on three factors: (1) the role of centralized fiscal policies and the relative size of centralized taxes and outlays; (2) the institutional arrangements between central and subnational budget authorities; and (3) the financial links between federal and subnational governments, and how the federations have handled subnational debt crises.

On the first factor, Ms. Guerguil noted that the EU budget relative to member country governments is much smaller than that of the central government in any of the fiscal federations considered. There, the shares of the central governments in general government revenue and spending are quite large, ranging for example from just 45 to almost 90 percent for revenue. By contrast, the EU budget accounts for only about 2 percent of total government spending by EU members. Defense, social protection, income taxation, and stabilization, Ms. Guerguil pointed out, are usually the responsibility of the central government–none of these areas are assigned to the EU, although the new banking union may increase the scope for central stabilization.

Regarding the second factor, both the EU and most federations impose fiscal constraints or rules on the lower-tier governments. However, Ms. Guerguil noted that important differences existed, including in particular, the higher degree of complexity but lower degree of stringency of EU rules.

As for the third factor—the financial links between federal and subnational governments—there are both similarities and differences between the EU and the fiscal federations, Ms. Guerguil said. First, in the federations, the central government usually holds most of the public debt, but central borrowing on behalf of subnational governments is not widespread. In the EU, proposals for shared financial instruments, such as European bonds or rainy-day funds, are only at the discussion stage. And second, a permanent framework for resolving subnational debt crises is quite rare in federations, and in 16 debt crises identified in the book, ad hoc interventions by the central government were the norm. In the EU a permanent resolution framework was established during the last debt crisis, with the European Central Bank having provided (indirect) support to troubled governments.

In his comments Mr. Matzinger praised the authors of the book for bringing together a wealth of country-specific experience. He pointed out that decentralization is a highly political issue, and some member countries oppose the increasing role of the EU. The process of fiscal integration does continue, Mr. Matzinger concluded, but as in any of the countries mentioned in the book, it is subject to complex negotiations by numerous stakeholders.

During the discussion audience members noted that resistance to delegating in the EU is reinforced by the absence of a political union. And one big question is still to be answered: What are the essential features of a fiscal federation that make it successful? The project will be continued to shed light on this question, Ms. Guerguil concluded.

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