25 September 2012

Commission VP Rehn: Rebuilding the Economic and Monetary Union

Rehn outlined the main elements of the ongoing transformation of Europe, and said that only with a common vision of a genuine and effective economic and financial union, backed by strong democratic accountability, could a true stability union of responsibility and solidarity be built.

It is essential that our Member States now stay the course of sound fiscal policies and continue with structural reforms to create the conditions for investment, sustainable growth and employment.

In this context, one hears sometimes criticism of a too strict implementation of the EU's Stability and Growth Pact, and its 3 per cent deficit-and 60 per cent debt-ratio-thresholds. Let me make two points on this. First, the EU and euro area are collectively still breaching both thresholds, which is a major reason for why the financing of the deficit and debt has become so expensive for many Member States. Before those levels are brought on a clearly downward path, their cost of financing will crowd out possibilities for more productive and growth-enhancing use of public funds.

Second, the Pact is not stupid. It focuses on the structural effort of a Member State to correct its excessive deficit, and thus allows a differentiation across Member States according to their fiscal space and macro-economic conditions. This is guiding in our economic and fiscal policy coordination and the recommendations addressed to the Member States.

To allow time for the countries affected by persistent tensions in the sovereign bond markets to enact much-needed reforms, Europe's financial backstops have been strengthened. The European Financial Stability Facility (EFSF), set up in 2010 for three years, has been providing financial assistance to Greece, Ireland and Portugal. A new, robust and permanent firewall – the European Stability Mechanism (ESM) – will become operational in October, nine months earlier than initially planned. The leaders of the euro area have committed to use the available instruments in an efficient and flexible manner. This means, in particular, a readiness to intervene in bond markets when necessary, following a request by a Member State and subject to strict conditionality.

These financial stabilisation tools are complemented by the bold decision of the European Central Bank to introduce a scheme for Outright Monetary Transactions. This allows the ECB to buy government bonds on the secondary market, provided the Member State is covered by a programme under an EFSF/ESM instrument, active or precautionary, which allows for the possibility of primary market purchases.

The debt crisis has shown that EMU, as it was conceived and implemented in the 1990s, was incomplete. A full monetary union has been in place for over a decade, with the European Central Bank in Frankfurt setting interest rates for the entire euro area since 1999 and euro notes and coins in circulation since 2002. But, for a number of reasons, the same progress was not made towards building an economic union, with a corresponding level of integration among euro area countries in budgetary policies, debt issuance, financial sector supervision and so on.

To launch the work for future institutional reforms, the President of the European Council, in cooperation with the Presidents of the Commission, the Eurogroup and the ECB, presented in June a report "Towards a Genuine Economic and Monetary Union". It identified four essential 'building blocks' for further integration: (i) an integrated financial framework, (ii) an integrated budgetary framework, (iii) and integrated economic policy framework and (iv) democratic legitimacy and accountability.

On the first block, the Commission presented two weeks ago its proposals for a banking union. We propose shifting the supervision of euro area banks to the European level, to the European Central Bank. This would be subsequently combined with other steps, such as integrated bank crisis management and deposit protection.

We are not quite yet about to create the equivalent of the FDIC in Europe, but I cannot deny that the US arrangements have been a source of inspiration for our work. Once the single supervisory mechanism is in place, the direct recapitalisation of banks from the ESM becomes possible. Then, we will need to consider further steps towards a common resolution authority. Finally, at a later stage, a more closely integrated deposit guarantee system can be considered.

On the second and third block, or the fiscal and the economic union, the Commission will publish a blueprint for the way forward later this fall. To give an idea of how far we are willing to reach, I would like to draw your attention to the State of the (European) Union address by President Barroso on 12 September, in which he promised we’ll present a blueprint to identify the necessary tools and instruments, including Treaty changes, to complete a genuine economic and monetary union.

A fiscal union would need to rest on effective mechanisms to prevent and correct unsustainable budgetary developments in the Member States. This could in turn involve coordinated or even common – but limited – debt issuance. The guiding principle here has to be that any further mutualisation of sovereign risk would need to go hand in hand with deeper integration of budgetary decision-making, to safeguard against moral hazard and free riding.

And, obviously, such a fiscal union would require strong democratic institutions to ensure the necessary checks and balances, and the ownership of the EMU by its citizens.

Full speech

© European Commission