Post Brexit UK is seeing higher skilled labour entering from non-EU countries to support a range of services (public and other) – success
It's Wednesday and so before we get to the music segment we have time to…
The 19 Member States of the Eurozone cover some 4,422,773 km2 of territory, much of that is densely populated. The geographic area of Australia covers 7,682,300 km2 and is mostly sparsely populated. The reason density matters is because it impacts on the resources that need to be expended to provide infrastructure across the geographic space. In the past month, the French people have elected a new President and a dramatically different National Assembly. In his election campaign, Emmanuel Macron spoke of being part of a major reform process for the dysfunctional Eurozone. To create some federal fiscal capacity including the idea of debt-mutualisation (issuing Euro-level debt) to match spending on public infrastructure etc, which could help to revitalise the stagnation that besets many regions across the currency union. In 2012, François Hollande was also elected on a reform ticket. The same day he was elected he visited Angela Merkel in Germany. The reform process ended before it started. He went away with no uncertainty about what the Germans would tolerate as masters of the union. Well within a short-time of being elected, Emmanuel Macron has also received his instructions from the Germans, this time in the guise of remarks made by Bundesbank boss Jens Weidmann. The orders are clear. Germany will never tolerate the creation of anything like a functioning federal fiscal capacity. End of story. Macron now knows the limits of his volition. What are the limits of being confined to a straitjacket?
Here are two maps. I reduced the scale of the Australian map to fit the width but when expressed in the same scale the left-hand map is more than contained in the right-hand map area. So the Eurozone and then a heap more.
None of this is new and I am sure visitors from Europe to Australia come to realise just how large the land mass of the southern nation actually is.
When I first flew to Europe as a younger man I was quite shocked when, after more than 7 hours of flying (from Melbourne – down in the South East), the captain of the plane announced we were just leaving the North East coast of Australia. That brought things into perspective for me.
The point of this comparison is to reflect on nationhood, and, then, in turn, to think about fiscal spaces.
The ABC news report (July 26, 2017) – SA bank levy opens door for tax power shift from Canberra to the states – tells the story of recent political stoushes between a state government and the federal government in Australia.
The detail is interesting to us but may not be to outsiders.
Basically, there is a complex revenue-sharing arrangement between the states, which under our Constitution have the majority of the spending responsibilities, and the federal government, which has the greater revenue-raising capacity.
Various historical arrangements (for example, the states ceding their income tax powers under the Constitution to the feds during World War 2) have intensified that inequality in spending and revenue capacities.
Remember, the states do not issue the Australian currency and so have to either raise tax revenue or borrow to fund their spending programs.
The Federal government clearly does not have to do either as a funding operation.
Early in this century, the federal and state governments agreed to simplify the tax arrangements and a new Goods and Services Tax (levied at the federal level but distributed fully to the states) was introduced in return for an agreement by the states to abandon a whole range of taxes, which the feds considered were more damaging than others.
Again the detail is not the point here.
The GST and income tax revenue sharing arrangements are complex and the two largest states (NSW and Victoria) traditionally cross subsidise the smaller states such as WA, SA, Tasmania and the two Territories.
The principle that underwrites the cross-subsidies is that:
In effect, … smaller, less well-off states should have the resources to offer the same level of services as richer states based on the principle no Australian should be worse off than any other simply because of where they live.
Rich states are expected to subsidise their neighbours.
A state might be “rich” due to population density (deeper tax base), distribution of industry (often reflecting distribution of resources), and other reasons (favourable geography, proximity to global transport routes etc).
The principle that was formed and agreed at the inception of the Australian federation – the creation of a nation from among the previous separate colonial states (colonies) was as above – that, irrespective of where a person resides, they should have the same level of services available to them.
You can see then why the scale comparison in km2 becomes an issue.
It is much easier to provide public infrastructure to a densely-populated region that it is to provide the same infrastructure across a nation such as Australia.
But our nation is built on that principle.
Sure enough, the states fight with the federal government about the revenue-sharing arrangements and other matters. This is typically exacerbated by the fact that the federal government is often of a different political persuasion than the state governments (either completely or partially).
So a lot of the arguments are just political point-scoring and always lapse when the well-being of the nation as a whole is in question.
The ABC report talks about the latest issue that has arisen. One state has decided to take on the big 4 banks and place a levy on them to raise extra revenue to help it fast-track its renewable energy transition. The Federal government had also just announced a bank levy to tax some of the massive profits that the banks make as protected ‘public-private’ institutions.
They are ‘public’ in the sense the government will never let them go broke. They are ‘private’ because all the upside (massive profits) go into the coffers of the shareholders. Privatise gains, socialise losses!
But the decision by one state to reintroduce a franchise-type of tax has challenged the GST revenue-sharing model.
The point of all that though is not to go into the details but to emphasise the principles upon which the ‘member states’ of the Australian federation operate.
1. The rich states help fund the poor states – always.
2. It doesn’t matter where you live (rich or poor state) the quality and scope of the services should be equal.
3. The federal government stands ready to deal with asymmetric shocks that impact negatively on one or more states. As an example, when a drought or flood arises (as they do often in this country), the Federal government doesn’t blink when it allocates billions of dollars of spending to the affected areas. The unaffected areas know this is the role of the federal government.
These things are embedded deeply in our sense of nationhood.
When the Werner Report was released in its final form on October 13, 1970 and outlined a comprehensive timetable for the creation of a full economic and monetary union by the end of the decade for Europe, several features were prominent.
The conceptualisation of the newly created economic and monetary union as a new ‘nation’ where the member-countries effectively become states of a federation was clearly thought elemental.
That conceptualisation did not emerge around two decades later in the Treaty of Maastricht.
The Report considered short-term economic policy would be “decided in its broad outlines at a Community level” and that the “principal decisions of monetary policy should be centralized” (p.10).
The Report was in keeping with the times where fiscal policy, that is, government spending and taxation decisions, were given a higher priority than monetary policy, which involved interest rate setting.
The Report was clear that national budgets would not be responsible for addressing asymmetric development (p.11).
There was an extremely powerful statement in the Report (pp.12-13), which echoes today:
The centre of decision for economic policy will exercise independently, in accordance with the Community interest, a decisive influence over the general economic policy of the Community. In view of the fact that the role of the Community budget as an economic instrument will be insufficient, the Community’s centre of decision must be in a position to influence the national budgets, especially as regards the level and the direction of the balances and the methods for financing the deficits or utilizing the surpluses.
In summary, the Werner Report concluded that an effective economic and monetary union would require, among other elements (p.12):
- the creation of liquidity throughout the area and monetary and credit policy will be centralized …;
- monetary policy in relation to the outside world will be within the jurisdiction of the Community;
- the policies of the Member States as regards the capital market will be unified;
- the essential features of the whole of the public budgets, and in particular variations in their volume, the size of balances and the methods of financing or utilizing them, will be decided at the Community level …
Of further importance, it was emphasised that while the:
… transfer to the Community level of the powers exercised hitherto by national authorities will go hand-in-hand with the transfer of a corresponding Parliamentary responsibility from the national plane to that of the Community. The centre of decision of economic policy will be politically responsible to a European Parliament (p.13).
The Parliament would be elected on the basis of universal suffrage thereby recognising that economic policy should be democratically determined and those responsible for the policy should be held accountable to the will of the people.
There was no hint that this level of intervention would be the domain of officials centred in Brussels who would do deals with unaccountable bodies such as the IMF that would result in millions of Europeans being made unemployed, which is the norm in Europe in 2017.
The intent of the Werner Report was that:
These characteristics are present in a number of functioning federations such as Australia, Canada, and the USA.
They describe closely the way the Australia federation was designed and operates.
This idea that fiscal policy can redress cyclical difficulties across all regions in a federation, legitimised by a sense of ‘federal’ solidarity, is highly significant for an effective monetary union.
Citizens of California or New South Wales refer to themselves as Americans and Australians, respectively.
By contrast, citizens of Germany and Greece refer to themselves as Germans and Greeks, respectively. There is a crucial difference in those self-assignments that no economic or monetary infrastructure can usurp.
The creation of the Eurozone was thus very curious indeed.
The Member States ceded their currency issuing capacities to the European Central Bank and, effectively use a foreign currency. In that regard, the EMU Member States they become equivalent to the states in the US or Australia and thus they do face the risk of insolvency.
Thus the Member States are financially constrained.
Just yesterday, the Australian government announced a huge infrastructure investment in the regional rail system in Victoria. It is putting in $A1.42 billion (a lot) for the regional rail package (Source).
Under the way the revenue-sharing arrangements are designed it could be said that the citizens of the other states are helping to improve remote rail services in Victoria.
That discussion is all framing for the recent comments made by the Bundesbank chief Jens Weidmann, which were reported in the German newspaper Welt Am Sonntag (June 25, 2017) – „Gemeinsame Haftung in Europa ist der falsche Weg” (“Joint liability in Europe is the wrong way”).
When François Hollande was elected President of France on May 15, 2012, one of the first things he did (same day) was to travel to Germany to meet with the German Chancellor.
It was almost as if he was turning up for his new job and meeting the boss to get his orders.
On that trip, his plane was hit with lightning and it was reported that “The couple could hardly have started off their working relationship on a worse footing” when the two leaders met (Source).
During the election campaign leading up to his victory, Hollande had been a critic of the German approach and made much of his intention to work for France first and “to steer Europe away from dogged austerity and towards a greater emphasis on growth.”
Hollande returned to Paris empty-handed. The boss had spoken and he returned to do their bidding – as history shows.
Enter – stage centrist-right (which these days means right-wing neo-liberal without the loony libertarian stuff added) – Emmanuel Macron, the new President of France.
Then, his new Party took the majority in the French National Assembly.
A mandate! Reform! Eurobonds! Germany making concessions to Paris (“Deutschland müsse Paris Zugeständnisse machen”)
Well despite what the French people thought they were voting for and despite the obvious confidence of the new politicians, bouyed by their electoral success, nothing gets decided until the Germans assent.
Eurobonds? Joint liability replacing national responsibility? German concessions?
Well, none of that will happen because the bosses of the Eurozone will not allow it.
Bundesbank President Jens Weidmann has left everyone, including Emmanuel Macron, in no uncertain terms what the terms of Macron’s leadership will entail.
There will be little ‘reform’ allowed.
Weidmann’s interview with the Welt Am Sonntag was rather explicit:
Gemeinsame Haftung bei weitgehender nationaler Souveränität wäre der falsche Weg. Das würde die Probleme in Europa eher vergrößern, anstatt sie zu lösen.
“Joint liability with far-reaching national sovereignty would be the wrong way to go. It would increase the problems in Europe rather than resolve them”.
He also rejected any ‘federal’ (joint) funding of public infrastructure:
Ich sehe jedenfalls keinen Grund dafür, warum Italien Brücken in Deutschland mitfinanziert, Portugal deutsche Autobahnabschnitte oder umgekehrt.
“I do not see any reason why Italy should co-finance bridges in Germany or Portugal co-funding sections of the German motorway or vice-versa”
Note, there was no mention of ‘Europe’ here. Just the individual Member States.
But as an Australian and a member of a functioning federation this statement by Weidmann summarises what is wrong with the Eurozone and why it will never deliver sustainable prosperity.
First, citizens in a federation understand fully that if there is a need for a bridge in one state then it might mean that other states will have to forgo the use of the productive resources necessary to construct that bridge
In that sense, the other states are ‘co-financing’ the construction of the bridge where financing is in terms of diverted real resources.
Second, any progressive schooled in Modern Monetary Theory (MMT) would also take exception to the statement by Weidmann. If the federal-level government unit decrees that a bridge is required in one state or another then it does not reduce the financial capacity of that government to fund a motorway in another state.
The idea that taxes fund the spending in a federation is nonsensical. Please read my blog – Taxpayers do not fund anything – for more discussion on this point.
If the Eurozone introduced a true federal fiscal capacity and aligned it with the currency-issuing capacity of the federal-level central bank, then the only constraints that would impinge on the Member States would be the real resources available to the federation.
It might arise that if all available real resources across the federated space are in use that a new project (such as a bridge in Germany) might require real resources to be diverted from other projects or uses, which might include activities in Italy, for example.
But that sort of diverting is common within federations, although in this neo-liberal era where idle resources are the norm (including mass unemployment), the need to take from somewhere to give to another area is reduced.
The problem that Weidmann acknowledges is that Europe will never be a federation. Accordingly, a common currency can never really work across that geographic space.
Germany will never accept the principle that underlies successful federations that all regions should have equal access to the same quality of services.
The Eurozone has seen a massive divergence in scope and quality of public services available to the citizenry since its inception. The divergence has magnified since the crisis.
Tolerating that degree of disparity means that the leadership of the Eurozone are not prepared to embrace an essential characteristics of a common currency and that is why the Eurozone is catastrophically flawed and failing.
Weidmann is both correct and incorrect when he says that the creation of a federal fiscal would not be helpful.
The establishment of a federal fiscal capacity would address the major current constraints on recovery.
First, it would directly redress the stagnant spending conditions across the Eurozone.
Second, it would mesh perfectly with the proposal to create a full banking union. The FFA would be uniquely equipped to ensure that bank deposits were not vulnerable.
Third, the notion of a federal fiscal capacity would have implications for how public debt is issued and who is responsible for it.
While Overt Monetary Financing (OMF) would be the preferable way to consolidate the fiscal policy responsibilities and operations of the federal fiscal capacity with the monetary policy obligations and related liquidity management functions of the ECB, what would happen if there was so-called debt mutualisation (that is, the federal fiscal authority issues its own debt to the private bond markets to match its fiscal deficits).
These federal bonds would carry no default risk because they would be backed by the currency-issuing capacity of the ECB. The Federal Eurobonds would have the same risk-free status as debt issued by the Japanese, US, UK, Australian and other ‘sovereign’ governments.
Debt issued by the Member States, for their own projects, would still carry default risk, but that could be significantly reduced through guarantees provided by the federal government.
Another option could be for the federal authority to use its superior borrowing capacity to raise funds on behalf of the Member States using some sort of federal-state partnership agreement.
All of these arrangements are, however, nuances of the overall fact that the creation of a federal fiscal capacity with its own debt-issuance capacity would solve the so-called sovereign debt crisis in the Eurozone immediately.
The ECB could also easily subsume all the outstanding Member-State debt and write it off as a new beginning. If there were a truly federal spirit operating, none of the ‘better-off’ Member States would begrudge this sort of debt redemption.
However, Weidmann is implicitly correct because the creation of such a federal fiscal capacity is not politically or culturally tenable.
The 1977 MacDougall Study Group clearly understood that (yes, back then!).
An essential requirement for an effective monetary system with multiple tiers of government is that the citizens have to be tolerant of intra-regional transfers of government spending and not insist on proportional participation in that spending.
The other side of this coin is that a particular region might enjoy less of the income they produce so that other regions can enjoy more income than they produce.
To achieve that tolerance there has to be a shared history, which leads to a common culture and identity.
As I noted above, ask the following question: Are the citizens of Berlin or Frankfurt, Germans or Europeans in the first instance?
Language is an aspect of this, but not necessarily intrinsic. In a successful federation such as Australia, people in the states of NSW and Victoria might occasionally complain that the smaller state of Tasmania gets a disproportionate amount of government assistance relative to its ‘tax base’.
However, there is no serious discussion that these federal transfers should stop or that the states with the weaker economies should be forced to endure a lower material standard of living than any other state.
Further, when there is a major dilemma facing one state (perhaps a natural disaster or a significant economic downturn), it is assumed, without question, that the federal government will offer financial assistance to the beleaguered state.
The point is that the citizens within an effective federal system have to share a common sense of purpose and togetherness to ensure that the monetary system works for all states/regions rather than those that have powerful economies.
That capacity and required tolerance is largely non-existent in the Eurozone, which is why talk of a fiscal union will be largely inconsequential.
Weidmann encapsulates that lack of cohesion perfectly – ‘why should Italy help Germany’ type of sentiment.
The point is clear.
Macron can say what he likes. But unless he can get it past the masters (Germany) anything he says will be hot air.
And it is clear from history that Germany will never tolerate the creation of a true federal fiscal capacity.
Which tells me the Eurozone is never going to work in the way the leaders claimed it would at the outset – it will always be prone to stagnation and crisis.
That is enough for today!
(c) Copyright 2017 William Mitchell. All Rights Reserved.
This Post Has 17 Comments
How could there be transfers from, say, Germany to Italy, i Bavaria went to the German High Court to contest transfers from Bavaria to Saxony ? Or an Italian political party, Lega Nord, is against transferring money from Lombardy to Sicily ?
“The GST and income tax revenue sharing arrangements are complex and the two largest states (NSW and Victoria) traditionally cross subsidise the smaller states such as WA, SA, Tasmania and the two Territories.”
The big problem over here in the West at the moment is that WA only receives 34.4c in the dollar back from its GST receipts. The Productivity Commission is due to report back next year on whether the current system is fair, but Treasurer Morrison has told WA not to expect any quick fix.
“does reduce the financial capacity”
Should be: “does not reduce the financial capacity”
Dear Allan (at 2017/06/27 at 6:27 pm)
Thanks for the correction. I appreciate it.
A master class in explaining the links between issues of national identity and the financial system. Thank you
A common currency is comparable to a system of fixed exchange rates in that there is no possibility of devaluation or up-valuation. It could conceivably work as long as all members have the same inflation rate. If that is the case, then there is going to be no change in the real exchange rate. That’s where the Eurozone went wrong. Countries like Germany and the Netherlands kept their inflation rate too low by practicing wage restraint, while Southern European countries allowed their inflation rate to become too high. The result was a real currency appreciation for Southern Europeans and a subsequent loss of competitiveness.
As Heiner Flassbeck said, “Italien hat inflationär gesündigt, aber Deutschland [und die Niederlande] hat deflationär gesündigt.” What the Eurozone needs now more than anything else is higher inflation in Germany and the Netherlands to undo the real devaluation that they enjoyed. The problem with that of course is that it works rather slowly. If the cumulative inflation rate in Germany was 25% higher than in Italy, and if from now on Germany will have an inflation rate of 4% while Italy has one of 2%, then it will take about 9 years for the price levels of both countries to be the same again.
Germany is making a rod for its own back. Its intransigence is making its ignorance more toxic. It’ll hardly be able to blame anyone but itself when it all implodes. It wouldn’t hurt though for the other nations to understand the implications of monetary sovereignty and the lack of a central bank in the EU.
Macron is a tragic puppet. He will put Germany in control of France nuclear arsenal.
Then we will see debtor(USA) vs creditor(GER) match.
Germans are dangerous, the problem is no one want to take this fact into serious account, at least not until they put the whole world on fire for the third time in 100 years.
“Early in this century, the federal and state governments agreed to simplify the tax arrangements and a new Goods and Services Tax (levied at the federal level but distributed fully to the states)”
Aren’t taxes destroyed once collected.
So, governments issues the equivalent amount as new money to the States, so not a distribution….?
I ask as this is a proposal by some regional councils here in NZ to fund tourism infrastructure.
I think the Germans have worked out that the Bundesbank can deliver where the Werhmacht failed.
de Gaulle’s disingenuous justification for vetoing Britain’s application to join the then-EEC was that its very distinctive history, outlook and institutions made it intrinsically incapable of integratiing successfully with the EEC member-nations. Albeit his real reasons were machiavellian his judgment has been vindicated.
It’s ironic to reflect that exactly the same disqualification would, though, be no less applicable to all of the others. Bill’s article clearly brings out that not one of them down to the present day has shed any of the legacy of its own particular history and culture nor shows any sign of doing so – any more than Britain had or has. On de Gaulle’s criteria none of them ought to have been members because all harbour equally fissiparous tendencies to Britain’s – especially Germany, which either will bend the others to its will thereby turning them into more or less willing satellites or will be the cause of the EU breaking apart (more likely a mixture of the two). If Bill is right that situation is never going to change fundamentally. Leopards don’t change their spots.
How fitting that Britain (which ought never to have joined) should now be leaving the doomed venture, and how blind to reality those elements conspiring by any means fair or foul to thwart that democratically-arrived-at and eminently sensible decision!
What about the reasons why germany is so strong? What germany has that france or italy have not?
I do not think the German Government had a strategy to dominate Europe. It is just the heartland of neoliberalism in Europe (Its founding fathers were Germans and Austrians). And all Government institutions and the Central Bank believe in the neoliberal credo: the costs for labour must come down. The exporting industry did some extra propaganda-work (Initiative Neue Soziale Marktwirtschaft) back in the 90’s and early 2000’s to dismantle the welfare state and bring wages down and the press helped a lot. That’s why we are, where we are. Germany is mighty, because it is Europe’s main creditor. Germany is creditor, because it began with fierce austerity at home. As joblessness now is low and still shrinking and the economy is doing better than in the rest of Europe, they all now think they did the right thing, and the other Europeans should do the same. We are all doomed, except for a brake-up of the euro-zone. Then perhabs, in the midst of a deep crisis, Germany would have to rethink its policies.
But Germany was stronger than France or Italy well before the 90s. During the Esm years the Bundesbank refused to help the weaker currencies and the german economy was stronger than french or italian economies. So which are the causes? What does Germany have or had that make it stronger than the other big european nations?
Excellent analysis , so at what point does it cease to be Europe and become the Greater German Empire?
Would I be right to think this neo imperialism than a federal Europe
bad weather, bad food and bad wine 🙂
Another enlightening article Bill, especially your second primary conclusion that a workable federation is impossible for Europe because of the entrenched cultural, historical and structural differences which makes it very unlikely that substantial fiscal transfers or other assistance to more needy nations could ever occur. The powerful Germans would scream “We are not wasting our taxes or increasing our debts for those lazy Italians and Greeks when our own roads need repairs or our hospitals can’t cope with demand” or “We cannot risk the stability of the euro by allowing any irresponsible eurozone member countries to go on a credit financed spending spree.”
So even if the EU abandoned it’s neoliberal fiscal rectitude and adopted the appropriate levels of fiscal stimulus and implemented a job guarantee as per the preferred MMT settings, which would be a miracle on its own,the EU and the national political classes and much of their electorates in the key member states wouldn’t ever allow disbursements to be apportioned according to need. Thus allocation of any stimulus if it occurred would at best be on an equal per capita basis but more likely on a ‘taxation contribution’ basis so the wealth inequities throughout Europe would be further increased and significant unemployment and de-industrialisation would continue in the South and East of Europe.
Given the above it is probably fortuitous that Germany controls the EU and the eurozone and pig headedly sabotages the future of the EU by enforcing destructive neoliberal and monetarist economic policies. In this way they will create more hostility and doubts throughout Europe which hopefully one day will convince many to abandon the eurozone and reform the EU and unwind the neoliberal stagnation of the last 30+ years.
The popularity of Bernie Sanders in the US and Jeremy Corbyn in the UK and a few other progressive parties and the widespread disgust with the robber baron wealthy elites and the establishment, shows that positive change is possible.
What a pity the world’s ruling structures cling to failed and corrupt ideas causing ever more misery and weaken our democratic processes but worst of all waste precious time as our biosphere dies.
One criticism, I think your comment below considerably overstates the generosity of our federal governments, especially conservative ones.
“Further, when there is a major dilemma facing one state (perhaps a natural disaster or a significant economic downturn), it is assumed, without question, that the federal government will offer financial assistance to the beleaguered state.”
Take the case of South Australia. Our conservative federal governments were primarily responsible for setting up the perfect storm for our car industry by implementing free trade agreements with low wage and industrially capable nations in East Asia as well as cutting the car import tariff to a meaningless 5% AND refusing to provide the equivalent in regular grants – which Labor was still prepared to do. As the remainder of our car manufacturing industry and nearly all the component manufacturing capacity will close down later this year, manufacturing states like South Australia and Victoria will be deeply affected and negligible assistance has been offered to workers. The whole Australian manufacturing industry, apart from a temporary naval shipbuilding surge, is on a rapid downward trajectory, including that portion that serves the boom or bust mining industry. South Australia has also been disadvantaged by the federal government’s hostility to clean energy and it’s incompetence and stalling in the area of energy policy. Unemployment is set to rapidly increase from the already very high levels. Hopefully our federal political system will function correctly to remove our current disfunctional conservative federal government. The Greeks will never have such an opportunity with the EU leadership.