29 November 2022

CER's Tordoir: The European Stability Mechanism is not ready for the next crisis

As a rapid succession of crises has engulfed the European economy, silence reigns on the Circuit de La Foire Internationale in Luxembourg, home to the European Stability Mechanism (ESM). The eurozone’s permanent rescue fund was set up in 2012 to provide loans to financially distressed countries, and today has about €410 billion in lending capacity. It played an important role during the euro crisis a decade ago. But the ESM was left on the sidelines as the eurozone was hit by the pandemic and Vladimir Putin’s invasion of Ukraine, with member-states no longer being willing to resort to its bail-out programmes. As the eurozone economy heads for a recession, having a non-functional ESM is risky, because eurozone governments need an emergency lender in the event of a financial crisis, and if they resort to the ESM too late millions of Europeans might be condemned to unemployment. Last week, EU leaders appointed Luxembourg finance minister Pierre Gramegna as the institution’s new managing director: he should press them to rethink the ESM’s status and purpose. New EU fiscal support instruments developed during the pandemic provide a blueprint for meaningful reform.

The current ESM model is unviable
Cyprus, Greece, Ireland, Portugal and Spain used ESM support during the euro crisis ten years ago. Modelled on the IMF, the ESM can issue loans to distressed EU members, but in most cases the recipient must agree to tighten its budget, carry out structural economic reforms and, where relevant, clean up its financial sector. The specific conditions are negotiated between the European Commission and the member-state concerned, supported by ECB, ESM and possibly IMF staff, on behalf of the ESM’s shareholders: the eurozone finance ministers. 

The EU’s emergency measures during the pandemic suggest that the ESM model is now in trouble. The EU set up a loans scheme – the ‘instrument for temporary support to mitigate unemployment risks’, also known as SURE – to buttress national unemployment insurance schemes. The €750 billion pandemic recovery instrument, NextGenerationEU (NGEU), uses EU members’ joint creditworthiness to raise money for grants and loans to member-states that pledge public investment and structural reforms. European finance ministers also made ESM credit available with few strings attached: the funds simply had to be used for health expenditures. Countries would pay a broadly similar interest rate for lending from SURE and NGEU, and the ESM. The result: nineteen EU countries used the SURE program to fight the sharp pandemic downturn. All EU countries used NGEU grants, and six countries requested NGEU loans. Not a single country tapped the ESM’s support.

The ESM has become the eurozone’s fire brigade that nobody calls when the house catches fire. At the beginning of the pandemic governments did not tap ESM support because going through a bailout was too costly politically, and may not have been necessary, but even after they relaxed the conditions, governments were still hesitant to tap a fund they perceive to be run by the most hawkish members of the eurozone. Citizens recognise this: public opinion across Europe is much more positive about the pandemic recovery instruments than they were about the old wrangling between creditor and debtor countries in the ESM boardroom. In the December 2021 Eurobarometer, 77 per cent of eurozone citizens had a favourable view of the EU recovery plan...

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