EU After COVID-19: An Opportunity for Policy Coordination

Forum DOI: 10.1007/s10272-021-0982-9 Antonia Díaz and Luis A. Puch EU After COVID-19: An Opportunity for Policy Coordination In order to mitigate the impact of the COVID-19 pandemic, most G20 member countries have announced fiscal stimulus of significant magnitude. Particularly, the United States has passed two packages and authorised additional aid that amounts to approximately $5 trillion. The sheer magnitude of the package raises concerns about the effectiveness of the European measures; in particular, the unprecedented EU-wide fiscal stimulus plan included in the Next Generation EU (NGEU) fund. In this contribution, we argue that traditional fiscal stimulus, which works through demand channels, is not what the European Union needs. We need to strengthen our common fiscal capacity and improve policy coordination; in particular, sectoral policies that support the industry and flow downstream to the services sector. This policy is very much in line with the course of action taken by the US and the leading Asian countries to increase potential growth. the European budget is tiny, just 1% of the EU’s GDP, compared to the revenues of the US federal government, which were about 16.3% of their GDP in 2018. This comparison is not informative because it is due mainly to the fact that the US federal government collects all taxes and Social Security revenues, whereas the EU budget is comprised, mostly, of country contributions. On top of that, the US federal government controls those policy tools that enhance risk sharing across the federation. We are referring not only to Social Security, Medicaid and Medicare but to the Welfare State and all the tools of sectoral policy. We are referring to banking and financial markets supervision, too. The federal government of the US controls the policies and the fiscal resources needed to finance them. But both sides of policy should go together: “expenditure” capacity and “fiscal” capacity. This is so because the former without the latter creates moral hazard problems, as it gives incentives to profligacy in member states (Díaz, 2020, 2021). Political institutions and economic policy outcomes Any study of the effects of EU-wide policy should take into account the fact that the European Union is not a country but a confederation in progress, which, depending on the views of the observer, can be thought of as going too quickly or too slowly. If we look at the EU in this way, through the federation lenses, we see that ours has an uneasy balance between the federal government, i.e. the European Commission, and the representation of the states, i.e. the European Council. This is particularly clear when we compare the EU with the United States, where the division of state and federal powers is clear or, at least, has been tested by 200 years of litigation, debates and political interaction. Moreover, the size of © The Author(s) 2021. Open Access: This article is distributed under the terms of the Creative Commons Attribution 4.0 International License (https://creativecommons.org/licenses/by/4.0/). Open Access funding provided by ZBW – Leibniz Information Centre for Economics. Antonia Díaz, Universidad Carlos III de Madrid, Spain. Luis A. Puch, Universidad Complutense de Madrid, Spain. ZBW – Leibniz Information Centre for Economics This context is necessary to study and compare US and EU policy responses to the COVID-19 pandemic. The fiscal measures taken by the US government during 2020 amount to more than 14% of GDP, which are going to be topped by a new package in 2021, the size of which is committed to be about another 11% of GDP. The EU countries’ responses are comparable in size but very heterogeneous. For instance, according to Anderson et al. (2020) and the International Monetary Fund (2021), the direct fiscal measures in Germany in 2020 amount to 15.6% of its GDP, along with guarantees worth 24.3% of GDP; Spain, on the other hand, has committed 8.1% and 13.3% of its GDP in direct fiscal measures and guarantees, respectively. The EU grants, especially those coming from the Recovery and Resilience Facility, may amount to 1.8% of Spanish GDP annually for the period 2021-27. Therefore, the size of all responses is similar. Nevertheless, there are differences in composition and the institutions in charge of conducting those policies. Those differences make it difficult to compare their effects. First, European governments have set extensive furlough schemes and guarantees so that workers remain attached to their employers and firms do not declare bankruptcy, whereas the US has allowed jobs and firms to be destroyed. We think that those differences are consistent with the fact that firm creation is more troublesome in Europe and firms depend more on bank financing. 197 Forum Thus, it is a policy whose benefit can only be measured by knowing the counterfactual. Conversely, the US has focused on family and emergency assistance, as its automatic stabilisers are smaller than in Europe. Moreover, although we are not in a position to estimate its effect, the fact that health systems and coverage vary so much suggests that medium-run effects on health and labour productivity may be sizeable, particularly among lowskilled workers. Second, in line with the federation analogy, the US federal government controls the policy measures to mitigate the effect of COVID-19, whereas in the EU most of the funds are controlled by the states. This distinction makes the EU policy, most likely, inefficient. This is so because uncoordinated fiscal aid to firms implies that different countries may use different criteria for aiding firms without internalising the effect on competitors established in other countries. That is, as Motta and Peitz (2020) argue, uncoordinated aid policies distort the European level playing field for firms and harm the Single Market. The negative effects of uncoordinated policy do not come only from the supply side. They also come from the demand side, as most of the trade of EU members takes place inside the Union. This is particularly unfortunate, as the sectoral composition of the EU makes it more vulnerable to the COVID-19 pandemic than the US. For instance, the share of the tour- ism sector in aggregate value added and employment is two percentage points higher than the OECD average, while the US is below the OECD average (OECD, 2020). Moreover, the share of manufacturing in GDP is almost three percentage points higher in the EU than in the US, which implies that Europe is more affected by global supply chain disruptions than the US. The evidence suggests that, indeed, this has been the case. According to the Bureau of Economic Analysis, the US GDP fell in the fourth quarter of 2020 by 2.39% with respect to the same quarter of the previous year, whereas EU GDP shrank by 4.44% (on quarterly data basis). Not only that; the US has already grown during the first quarter of 2021, 0.4%, whereas EU GDP had an interannual growth rate of -1.2% (again, using (...truncated)