The reform of European economic governance: towards a sustainable monetary union? Egmont Paper No. 47, June 2011

Introduction. The euro is a rather unusual currency as it is shared by a union of largely independent states. This results in a single supranational monetary union, while most ‘economic’ matters are decided on a national level. A key challenge in such a system is to ensure that the different levels of decision-making do not undermine the advantages of the common currency. For this reason, the European monetary union has been buttressed by economic integration, resulting in the Economic and Monetary Union (EMU). From a mere organizational perspective, one could argue that it would have been better to transfer economic decision-making to the level of the EU. However, this was politically unviable and deemed unnecessary, even by the European Commission. Instead, policy-makers opted for a system in which national fiscal and economic policies would be supervised and coordinated at the EU level. This system is referred to as European economic governance. Ever since the design of the single currency, there have been serious doubts on its sustainability. The question was raised whether quasi-autonomous fiscal and economic policies could be compatible with a single currency. The sovereign debt crisis that hit the eurozone in 2010 has indeed vividly demonstrated the insufficiency of existing European economic governance. Despite the provisions in place, several eurozone countries’ public finances deteriorated to the point where markets began to question these countries’ basic financial sustainability. Faced with the shortcomings of European economic governance, the EU needed to respond. The EU chose not to pursue fundamental changes such as a closer political union or the break up of its monetary union. Instead, it opted to reform its economic governance framework. Up until June 2011, legislative negotiations took place. While a final agreement was not reached yet, the most important outlines of the reform of economic governance had become clear. This paper discusses this reform. The paper begins by considering the need for economic governance (§ 1). Subsequently, economic governance before the sovereign debt crisis is discussed (§ 2). Economic governance, as it was, failed to avert the sovereign debt crisis(§ 3). This crisis proved to require a European response (§ 4) and laid bare several of Europe’s economic governance shortcomings (§ 5). The subsequent reform of economic governance comprises two key components. On the one hand, legislative reforms aim at reforming existing economic governance (§ 6). On the other hand, crisis governance is being developed, which is to step in when a eurozone country faces severe financial difficulties (§ 7). Finally, a conclusion is provided