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EU 7 year Budget will get the nod – soon

PWB Co-Director John Howarth sets out our analysis the EUs 2021-27 budget and recovery package and concludes it will receive political approval sooner rather than later.

This week the European Parliament begins to consider the outcome of the European heads on government summit held in mid-July which found agreement on the coming seven-year budget – the Multiannual Financial Framework (MFF) and a post-pandemic recovery package, Next Generation EU (NGEU).

In theory the agreement between the member states is not the end of the matter. The MFF requires the consent of the European Parliament – that is approval by an overall majority of the 705 members. Since discussion of the next 2021-27 MFF started in 2018 the Parliament Rapporteurs and pro- EU political groups have made noises about withholding consent to any package that didn’t go some distance toward its demands for ‘a budget to match the ambition of the Union’. The Juncker Commission, knowing it would never have to deliver, published a proposal worth €1,153 bn, Parliament responded with a counter proposal of €1,353 bn. Time for an election and a new Commission.

Through the process the ‘pro-European’ groups: the centre right EPP (Christian Democrats), Renew (Liberals and Macronistas), S&D (Social Democrats) and Green/EFA (Greens and Democrat Nationalists) have been remarkably united in their insistence that Parliament could and would exert its effective veto over progress. Then the pandemic hit and all bets were off, all the talk was of recovery packages. In May the Commission published a revised MFF proposal of €1.137 bn and in July Council responded with a €1.094 bn agreement plus a recovery package on an unprecedented scale. After the July agreement the argument was reiterated by Parliament’s Budget Committee spokespeople – NGEU was welcome but the MFF wasn’t good enough. Notice was given that the 2021 Budget could be made on the contingencies in the treaty that roll forward the previous MFF limits (an EU28 budget) and the stalemate could continue if concessions were not forthcoming.

However whatever the talk, this won’t happen. Sure, there may yet be more words and maybe even some negotiated concessions, but for a whole lot of very good reasons Parliament’s consent will be given, the MFF and NGEU will be agreed very largely as Council has proposed and the EU will move forward to the next crisis.

Understanding EU Budgets – genius and idiocy

A lot of things about the EU are a lot simpler than the hopeless UK media would lead one to believe. The MFF and annual budget procedure is a unique combination of procedural genius and idiotic institutionalised conflict. A seven year budget provides stability, certainty for member state exchequers and the annual budget procedure prevents crises that threaten ‘shutdown’ of the kind seen from time to time in the USA. The procedure also institutionalises conflict between the member states and Parliament that is corrosive and fundamentally bad politics – it need not, but in practice it does. Reform is essential to a better functioning Union – but that’s for another time.

The main problem in understanding the EU Budget lies in getting your head around a set of figures that can be looked at in several different ways depending on the assumptions that are in play. The difficulties here include how to make comparisons of two seven-year budgets with different economic circumstances and the reliability of projections of inflation and economic growth. The commentary below is one interpretation of the agreement (1).

The Council’s Proposal Summarised

Taking all the above into into account the Council’s position agreed in July summarises as follows:

  • Total EU spending over the first three years of the MFF will increase by a factor of 2.6 – from around €467 bn to €1,211 bn. Over the following four years it will sit at €622 bn – close to current levels.
  • The MFF of €1,074 bn overall provides for budgets at levels marginally below those for 2014-20 in real terms. The outcome depends on levels of inflation. Elements outside the formal MFF and contingencies (€20 bn) may result in a small decrease or a small increase in real terms EU spending. In my opinion the latter is most likely – but it will be small.
  • Despite the departure of the United Kingdom, a major contributor, the ‘black hole’ in the EU’s finances did not prove to be the main issue for the member states.
  • The reductions are, as long expected, in regional development (cohesion) and agricultural support (this is almost certainly a trajectory any recent UK government would have supported). There are programme increases in science, research investment and digital, security and border protection.
  • The three year ‘recovery package’ allocation, NGEU, at €750 bn is very substantial and under the circumstances a major step away from the approach taken to previous crises. It more than offsets the reductions in cohesion within the MFF. It is important to remember that money committed during this package will fund projects than run for a lot longer.
  • The financing of NGEU, half of will be in the form of loans, enables the EU to take a step close to fiscal union through the issuing of bonds and the effective creation of sovereign debt. It is a very significant step for the EU. The FT Report (here) explains further and cites favourable reaction in the markets and with political commentary here.
  • The allocation to the key EU framework research programme is NOT as has been reported by some outlets a ‘standstill’. Horizon Europe (FP9), amounts to a 20% increase over Horizon 2020 (FP8). This is because the allocation under NGEU must be included and FP9 is an EU27 budget while UK institutions were the largest beneficiaries of the previous programmes. It implies a ‘research gap’ of somewhere between £10bn and £12bn (€11bn and €13.5bn) for UK science. The UK Government had expressed the desire to associate with Horizon on a ‘pay and play’ basis, but what may happen in practice remains to be seen.
  • The MFF will have a requirement of 30% of all funding going toward climate action of some description (and it is necessarily a very broad one). This is beyond the 25% sought by the European Parliament. It will be welcomed by most but described as unachievable, greenwash or both by some with very different political perspectives.

Why the package will be agreed – eventually

The consent of the European Parliament for the MFF and NGEU, despite the noises off, will be granted for these reasons:

  • National pressure for the large member states on MEP delegations to honour the deal
  • The desire for ‘hard won unity’ to be maintained.
  • Not wishing to be seen to reject the recovery package
  • The desire to grasp the ‘gains’ on ‘sovereign debt’
  • The lack of any plausible alternative and the need to move forward with recovery

To fully understand the context we have to return to that Budget procedure and an unintended consequence of Brexit.

The 2021 Budget should be the first of the new MFF. That, in theory, depends upon the MFF receiving Parliament’s consent before the conclusion of the budget procedure at the end of November. Otherwise, in again in theory the 2021 budget is carried forward from 2020 (thus preventing a ‘shutdown’ as referred to above). From this provision there are a number of peculiar factors that those drafting the EU Budget Procedure could not have anticipated, they uniquely affect the current situation.

The 2020 budget is the last EU28 budget that includes the UK, thus the 2020 EU28 Budget is higher at €169bn (assuming the €3bn in-year Amending Budget due to Covid-19 measures is ignored) than that proposed for 2021 under the New EU27 MFF – €163.4bn. There are no precedents for this situation, but it is important to note that calculations for 2020 budget commitments in the EU27 suggest that the provision in the new MFF for 2021 is more or less equivalent in real terms, given the difference between the last year of an MFF and the first of the next.

These are figures for ‘commitments’ – that is the sum available for spending approvals, contracts entered into and so on. Commitments are the main concern of MEPs as they represent politically useful funding stories. The Council is more immediately concerned with ‘payments’ – settling the EU’s bills – which requires real money from the member states. Though ultimately Commitments lead to payments there is also a degree of ‘lag’ which moves a proportion of payments into future years, a certain amount of commitments that are not spent and some budgets go unallocated. All this means payments overall are set lower than commitments and that payments are set higher at the end of an MFF and roll into the first two years of the next. The new MFF has provisioned €166bn for payments in 2021 as against €155bn in 2020 (2).

The effect on the 2021 Budget of the European Parliament withholding its consent to the MFF would be to create a payments crisis and to commit additional future expenditure. On the face of it the Parliament holds some cards to back up the rhetoric of the Budget Committee spokespeople. However political reality is somewhat different.  First of all Council doesn’t is the other half of the budget authority and doesn’t have to agree. Then all politics is local – MEPs owe allegiance to national parties as well as to their political groups in the Parliament. Where their party is in power in a member state and has signed up to an agreement at Head of Government level it is unlikely that their MEPs will hold out for too long. In the case of each of the main pro-European groups there is a ‘critical mass’ of MEPs who will come under pressure to grant consent and to do so early enough for the 2021 budget.

As well as ‘honouring the deal’ there are several more arguments that will be brought into play both from national governments and within the European Parliament. First, the new MFF is not as bad as some in the Parliament have made it out to be. Overall the EU27 MFF represents a 1% real terms reduction on the Commission estimate of EU27 spend during the 2014-20 MFF (3). However it is important to understand that ‘real terms’ here (or ‘constant prices in Eurospeak) is based on projections of inflation across seven years. Given the economic impact of the pandemic these projections are highly questionable. However Annual Budgets through the MFF are stated in absolute numbers – ‘current prices’ for each year. This will be the amount of ‘expected’ budgeting and may or may not turn out to be a real terms reduction. If inflation falls or the Commission’s estimates of EU 27 spend were on the high side (and why would they not be?) then the EU27 MFF will deliver a small amount of growth. The 2021-27 MFF depends too many variables to state with real confidence what it is otherwise intended as ‘flat’.

Then there is the recovery package – NGEU. By any standards this a very large amount of money; €750 billion over the first three years of the MFF, structured as grants and loans and with ‘bumps’ to various lines of the MFF budget. The political reaction to the recovery package seems to have been by and large positive but with a ‘that’s fine, but what about the MFF?’ attached to it along with a large dose of ‘ah, but it’s loans not grants’ on the side from some of the MEPs. However in circumstances where the Gross National Income (GNI) of the EU27 has fallen considerably and will take, according to the bulk of economic commentary, some considerably time to recover it is quite a step away from the line held for the past decade and more by the contributor states and very different to the austere response to the financial and sovereign debt crises. The last MFF had been held to 1.0% of EU GNI. Parliament’s aspiration for the next MFF had been 1.3%, the Commission’s 1.1% – both regarded with disdain by the Council. Based on MFF Payments alone we are now told we are looking at something around 1.4% of the revised GNI projections(4) which imply a 26% hit to EU27 GNI due to the pandemic. Whether this represents a dawning that previous responses were fundamentally flawed or whether it is simply a question of different times requiring different responses is moot. What matters is that there seems to be a unity around the need for a response and an exceptional response. That unity is hard won and potentially fragile. The politics, again driven by the member states, will urge and cajole pivotal MEPs into drawing back from the brink.

There is a significant step forward for the EU buried within the flood of numbers. The ability to use serviceable, effectively sovereign debt as a mechanism of EU policy. While this had existed through the European Investment Bank in limited form as a fairly conventional ‘arms length’ entity guaranteed by the member states following a limited injection of initial capital, the EU Budget had always been built on strict year-on-year financial constraints on both income and expenditure that hampered its long term effectiveness. Once used once the precedent is set and the genie is unlikely to be forced back into the bottle. This is another gain for the Union that few MEPs will want, in practice, to jeopardise.

Finally, there is the long drawn out politics of all of this. The MFF/NGEU was a difficult deal, what deal of such magnitude would be easy? There were concessions – some of which in other circumstances may have proved concessions too far – but any EU negotiation involves concessions. The reality is at this time I very much doubt the priority of ordinary folk is anything other than attempting to salvage their future and for that the great majority want to see the kind of concerted action at EU level this deal embodies.

How and when might things now play out?

The European Parliament may make noises about levels of funding of the MFF over seven years but with the total spend being committed almost 50% above the Parliament’s initial ask of €1.3 trillion it is hard to see a credible argument on overall spend. Nonetheless there are concerns MEPs remain likely to push in negotiation.

The most significant is ‘rule of law conditionality’ – the notion that a member state can effectively operate outside of the meaningful democratic norms meant to apply to member states yet still benefit from the largesse of the club. In practice this means the conservative nationalist regimes in Hungary, Poland and maybe the Czech Republic all of which are huge beneficiaries. The text is vague, enabling the Commission to come up with proposals to sanction subject to a qualified majority and may be seen as better than nothing. There are those who see this as the most significant issue facing the EU – this author tends to agree – but that doesn’t mean rule of law sanctions will be approved. Better than nothing will have to do for now.

Equally unlikely in my view is significant movement ‘own resources’. The inability of many member states to grasp that corporate taxation is a collective issue from which reasonable collective taxation within limits is a gain for the exchequers of all or that sensible, workable ‘own resources’ would begin to move the EU and its member states away from the unhealthy budget culture discussed above. I don’t know what concessions may be possible or meaningful but immediate movement on for example, a financial transaction tax, is unlikely. In normal times this would have been a real sticking point, however even with the baby step of the plastics tax which was already agreed and commitments to look further the EU remains on a train toward common taxation. Keeping the train out of the sidings should be the objective of any negotiations.

For now other areas provide more wiggle room. Oversight of the budget may seem a technicality, but not to MEPs. Parliament’s role as one half of the budget authority is jealously guarded. This seven-year budget sees more provision outside the MFF/annual budget framework and NGEU also. However, GNEU includes contributions to EU MFF programmes – an obvious contradiction. While the member states could well dig in their heels this remains one of the easier concessions.

While there is unlikely to be a serious argument about the overall amount of money in the MFF/NGEU there may well be some room for discussion about the allocation. Despite the real increases in the FP9 research budget there is an aspiration for going further toward meeting the demand for funding from projects considered viable. Here too there is scope for movement and, probably, the expectation within the Council of some negotiation.

Finally, the Council MFF settlement bluntly stated that there would be “no mid-term review” of the 2021-27 MFF. Parliament, on the other hand, believes a mid-term review to be important and is likely to push back. Though it has always been far from clear to me exactly what the mid-term review of the 2014-20 MFF achieved, common sense suggests that seven years is a very long time in a political and economic cycle and that taking stock might be no bad thing. So long as the terms of that review are set within limits protecting stability and certainty for member state exchequers this is an easy concession for Council to make.

Ultimately the member states may stand to gain by making concessions rather than playing tough. They also know that numbers in the Parliament mean that achieving the required majority realistically involves having the three largest groups (EPP, S&D and Renew) backing the package. Achieving a relatively quick sign off and cementing the unity of purpose that the EU needs to demonstrate right now are sufficient to give the MEPs reasons to grant consent. Expect this long running show to be settled before the UK’s contributions to the Budget end on 31 December 2020. What’s more, they should.

JH 28.8.2020

Notes

(1) Comparison figures are based on tables produced by the Commission and reproduced by the European Parliamentary Research Service (EPRS). 2018 has been used throughout these calculations as the ‘base year’.

(2) This is not to say there are no long term problems. There is a de-facto accumulation of a ‘payments gap’ for the EU. This is a long term problem, but not exactly unique – other black holes are available, indeed they are common for national governments.

(3) There is an unexplained disparity between figures produced by the Commission for EU27 spend under the 2014-20 MFF from May 2018 (MFF fiche 1) on which our calculations are based and the table published by the EPRS on 27 August 2020. Many lines unaffected, other differences are marginal. The 27 August figures do not state figures for EU28. Recalculation would not affect the arguments made here. The EPRS comparisons are here.

(4) This assertion was made by Charles Michel, the Council President, in his press statement following the July settlement and is repeated as the level for MFF payments here. It is unclear the basis for the assertion or on which figures or assumptions regarding GNI, but it is clear there has been some revision of those projections. It is hard bordering on the impossible to say for certain whether the statement is inaccurate, however, our best guess is that it is probably an underestimate. Assuming no change in GNI from the projections from the original MFF proposals in 2018, we calculate the MFF/NGEU package as worth 1.8% of GNI. If, however, we assumed a pandemic induced fall of EU GNI equivalent to that of the 2008 financial crisis then the MFF/GNEU package would be work 1.896% of GNI. The reality is the Covid recession is much worse than the financial crisis it is a relatively simple calculation to conclude that the 1.4% figure is based on a fall projected of EU27 GNI of 25.85%. On this basis the full package is actually worth 2.455% of EU27 GNI.

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