28 November 2011

Graham Bishop: Letter from Copenhagen - hard 'pounding' for the Danish Presidency

Note on the word 'pounding' in the title: A British visitor is always made aware of the 1807 pounding of Copenhagen by Admiral Nelson but the greater fire damage seems to have occurred in the previous century - leading to the creation of the mortgage bond system that flourishes to this day. Will British obduracy be just as great a problem for Denmark in 2012?

Denmark faces the task of organising many of the details flowing on from the October European Council “crisis” meetings as well as a heavy schedule of financial services regulation. Additionally, Denmark will have to lead the political debate amongst the non-euro members about how to deal with a step change in the political integration of the eurozone.

New Government

The September 15 election produced a change of government after 10 years to the three-party Red Alliance, led by the Social Democrats and Denmark’s first lady Prime Minister.  (Details: Appendix.)

Public opinion

As far as “Europe” is concerned, the obvious question is whether Denmark might hold a referendum to convert its very narrow ERM fluctuation band against the euro to full membership. As the euro crisis has deepened, unsurprisingly, opinion polls have shown a decisive shift against joining – 65 per cent/29 per cent - in the latest poll for Borsen on October 11^th. However, opinion has shifted quite significantly since mid-2010 when the euro crisis erupted so powerfully. Before then, significant majorities were often recorded in favour of joining.

Denmark has other opt-outs from EU commitments, however, including military commitments and justice/home affairs (JHA). The new government said it intends to hold a referendum on ending the opt-outs on both these - tentatively planned for the second half of 2012. But the ideal JHA arrangement would look very much like the UK’s and, as attention is focused on the details, the idea of asking a referendum for a decision on such a convoluted system seems to be losing its attractions! So the chances of any Danish referenda on EU issues seem to be receding – at least for the moment. However, that risks adding to the feeling of isolation.

A new EU Treaty?

The escalating euro area crisis is raising the stakes immensely. The European Council will meet on December 9th and may take potentially momentous decisions. After nearly two years of failing to grasp the magnitude of the problem, the real crisis decisions may yet have to be overseen by Denmark during its Presidency. If the Treaty were to be a Treaty of 17 (along the lines of the original Schengen arrangement), then preparation would fall to Council President van Rompuy.  As Germany is making increasingly clear, any Treaty that were to open the way to a full “eurobond” proposal would have to provide powerful sanctions against any euro area Member State which set a budget inconsistent with their SGP commitments. The recent treatment of Italy at the October 26^th Summit illustrates the new-found willingness of the euro area to demand very specific changes in its members’ economic policies. It is still not clear, in any detail, exactly what Germany wants from a Treaty change. One thing that does seem clear, however, is that the intention is to have a “small” change so that an Inter-Governmental Conference is not necessary.

Even though all such measures will be strictly targeted at euro area members, the UK still seems set on trying to extract a tilting of the Single Market playing field in its favour. The potential for a major clash between the UK and the others is clear – but what is the UK’s bargaining strength when “they” can simply have a Treaty of 17 rather than agree to export jobs to Britain? Given the closeness of Danish ties to the euro, would Denmark wish to associate itself with the 17 (and perhaps some of the Euro Pact Plus 23?), thus remaining firmly anchored to the euro area?

Economic Governance

The Euro Summit on October 26^th laid down some major changes in the economic governance of the euro area; but the practicalities of this will need to be sorted out early next year. By then, the second European Semester will be underway but the teeth really only apply to the euro area. So what is the actual content of membership of Euro Pact Plus – in which Denmark participates? On the face of it, they may lose much influence, raising the stakes for the “outs”.  In practice, this seems likely to be more of a theoretical risk for Denmarkas it is already planning to be in full compliance with standards as a matter of sensible national economic policy.

There is much debate about the validity of delegating economic forecasts to an “independent” body – as foreseen by the Euro Summit. Britain may demonstrate such a real difficulty shortly, by having to base deficit forecasts on the Office for Budget Responsibility (OBR) forecasts which may differ from those of the Treasury. Accordingly, fundamental parts of economic policy would have been sub-contracted outside the elected government.

Financial Services legislation

In the midst of the economic crisis, it is clear that getting time to put financial services regulations on the agenda of a limited number of ECOFIN meetings is going to require serious juggling of priorities. A number of issues are on the radar screen for the Presidency and include:

• Financial Transaction Tax: The new government’s manifesto included a commitment to it. The Prime Minister has just argued that it must be at a global level, however, rather than just for the EU but further analysis of the technical feasibility may develop policies.
• Cross-border bank resolution: The Commission will publish its proposals shortly and most of the work will fall to the Danish Presidency. It is already clear that the Member State Treasuries will want to be heavily involved in any discussions given the potential budgetary implications, but that will immediately raise the issue of ex ante burden sharing. Any resolution of the eurozone crisis that were to involve closer political integration might have an influence on the debate any subsequent Treaty negotiation on eurobonds could pave the way for a greater euro area understanding about burden-sharing. But insolvency law is going to be a big issue in this debate. Meanwhile, the European Parliament has made clear that it wishes to see the EBA given direct supervisory powers over the G-SIFIs. (The FSB list has put four UK-headquartered banks into this category.) So perhaps the best Denmark can hope for is reaching political agreement during their Presidency.
• CRD IV and CRR: These will be major tasks for the Danish Presidency as they will have to chair discussions on such issues as “maximum as well as minimum” harmonisation of capital adequacy levels. Clearly the UK has already struck a position against the capping of regulatory discretion but this is opposed by Germany and France, for example. However, Austria has recently announced that the new 9 per cent capital requirement will not be a temporary development! How can this level be matched up with CRR?
• Regulatory treatment of mortgage bonds: Any visitor to Denmark is going to hear a great deal about the problem of the “one size fits all” liquidity regime for banks laid down in Basel and now flowed through into the EU. It is difficult to avoid having great sympathy for the Danish system that has stood the test of a couple of centuries yet risks being penalised by the 0 per cent risk weighting for euro area government bonds. This argument may coincide precisely with the moment when this author’s arguments (over 20 years), about the theoretical flaws in this risk-weighting system, are proven horribly correct in practice. It would be extremely ironic if Danish banks felt obliged to invest heavily in government bonds at the very moment when the rest of Europe’s banks are divesting themselves of assets which could suddenly turn out to be exceptionally toxic in practical and regulatory terms.

Appendix: Election Results

The Danish parliamentary election of 2011 took place on 15 September 2011 in order to elect the 179 members of the Danish parliament. Of those 179, 175 members were elected in Denmark, two in the Faroe Islands and two in Greenland. The incumbent centre-right coalition led by the Liberal Party lost power to a centre-left coalition led by the Social Democrats, making Helle Thorning-Schmidt the country's first female Prime Minister. The Social Liberal Party and the Socialist People's Party became part of the three-party government.

Source: Wikipedia

© Graham Bishop