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The introduction of the euro was one of the most important steps in the European integration process. Political scientist and, increasingly, economists are studying in detail how the EMU’s institutional functioning should be organised. Economic institutions are endogenous. They are determined as collective choices of the society, in large part for their economic consequences. Organising the EU’s legal and governance frameworks will be key in this respect.

This paper by Xavier Vanden Bosch & Stijn Verhelst, 2014 (Published in the framework of the Egmont project) identifies crucial challenges for the upcoming reform of the EMU.

In recent years, the eurozone crisis has shown that the EU’s Economic and Monetary Union (EMU) had several flaws in its design. Over the past years, an important reform process has taken place, which is likely to continue in the future.

Consequently, there will typically be a conflict among various groups over the choice of economic institutions. Some are pessimistic about the ability of certain countries to recover from the crisis and advocate a eurozone break-up, judging the common currency a failed experiment.

More optimistic voices believe the eurozone should instead move forward, by mending its birth defects. Where most agree is that maintaining the architecture of the EMU in its present fragile state would leave it vulnerable to future crises.

The question can be raised: “what does the future hold for the eurozone?”


The answer to this question will depend to a large extent on the policy choices that will be made during the European Parliament’s 2014-2019 term. In this respect, the 2014 European elections will matter a great deal for the future shape and strength of the EMU.

Without doubt, any discussions on the reforms of the EMU are bound to be difficult for Member States and the European Parliament. In essence, European Council President Herman Van Rompuy identified the four building blocks around which the eurozone reforms will evolve, involving:

(i) financial,

(ii) budgetary,

(iii) economic and

(iv) legitimacy and accountability reforms.

These four building blocks provide a sense of direction with regard to the areas where reforms are needed. This is why EU Heads of State and Government committed to a banking union in June 2012. The vision was further developed in the European Commission’s blueprint for economic and monetary union in November 2012. Heads of State and Government have agreed the legislative work underpinning the banking union should be completed before the end of this legislature. A comprehensive EU response to the financial crisis, a substantial progress towards a strong financial framework for Europe and a banking union for the eurozone.

Besides calls for reforms to make the eurozone sustainable in the long-term, policymakers will also be faced with the need for short-term decisions to genuinely exit the ongoing crisis. Fiscal and macroeconomic imbalances will have to be addressed, and additional solidarity might be needed to cope with the severe social toll in the countries most hit by the crisis.

The first two challenges relate to the substantive rules and instruments of the EMU (“what” the EMU is about). A first challenge is ensuring sufficient discipline in the conduct of policies that are of vital importance to the eurozone’s sustainability. This is to prevent the economic, fiscal and financial imbalances that occurred prior to the crisis. The discipline will likely have to be counterbalanced by solidarity across eurozone countries, which is the second challenge in the EMU reforms.

Often, specific policymakers put the emphasis either on discipline or on solidarity.

In reality, these two elements tend to be balanced against each other: discussions will have to consider both. Besides the “what” of the EMU, a properly functioning eurozone will also require addressing the “how” question. This boils down to defining how the EMU’s institutional functioning should be organised. Organising the EU’s legal and governance frameworks will be key in this respect, as well as defining the relation between the eurozone and the other Member States.

A sustainable monetary union needs more than a mere common monetary policy. It notably requires
sound fiscal,
economic policymaking,
as well as a stable financial sector.

As the eurozone crisis revealed substantial deficiencies in each of these policy fields, the European level had to strengthen its grip on all of them. Prior to the crisis, these three policies were largely decided at the level of the individual Member States, with the EU having little ability to discipline national policymaking.

  • The degree of strictness and flexibility in the application of the fiscal rules will be a key issue during the next parliamentary term.

The rules promoting discipline in public finances have traditionally been the most developed part of the EMU’s economic arm. A Stability and Growth Pact was put in place to regulate public finances. Even so, the rules were not able to prevent lax fiscal policies in several Member States. To counter this weakness, the eurozone’s fiscal rules have been considerably strengthened, inter alia, via the so-called six-pack and two-pack legislation packages and an intergovernmental treaty known as the Fiscal Compact.

It remains to be seen to what extent Member States will be willing to respect the pace and scale of envisaged fiscal consolidation.

The response of the EU to deviations from fiscal objectives by a Member State will be closely watched. In essence, European policymakers will have to find a balance between two distinct approaches.

Before the crisis there was little willingness in the Member States to grant the EU a large role in economic policymaking, which was thus limited to surveillance and non-binding recommendations. The Europe 2020 Strategy, which replaced the Lisbon Strategy, is the cornerstone of this non-binding approach. The lack of more compulsory European control proved problematic, as large economic imbalances between eurozone countries emerged.

The next European elections will be different from previous ones. They will not be different simply by virtue of being the first elections since the entry into force of the Lisbon Treaty, they will also be different because European citizens want greater control, transparency and accountability form the EU. The European Union should react by showing greater unity, solidarity and courage.

During the next parliamentary term, a discussion is set to take place on a further strengthening of the EU’s role in economic policymaking. Some argue for endowing the EU level with its own economic policymaking powers. In ambitious views this would result in a “European economic government”. Inevitably, such increased European powers would limit to a large extent national sovereignty in economic policymaking and would have to be coupled with sufficient political legitimacy at the EU level.

A somewhat less ambitious – but more likely – step in the direction of more European control may come from the introduction of “contractual arrangements” between the EU and each individual eurozone country. In such contracts, the EU and the Member State would agree on the economic reforms that a country will undertake in subsequent years.

The EU’s aim is that the contractual nature of the document will lead to higher compliance than is the case for the EU’s existing recommendations. Importantly, the contracts would be linked to a form of solidarity for countries that implement the agreed reforms.

The European control over the financial sector will actually be stronger than its control over fiscal and economic policies. From November 2014 onwards, a Single Supervisory Mechanism (SSM) will be in place in which the eurozone and potentially other Member States will participate.

Supervision of the banks in the SSM will be jointly exercised by the national supervisors and the European Central Bank (ECB), with the latter having the final say on supervisory decisions. The Single Resolution Mechanism would apply to all banks supervised by the Single Supervisory Mechanism. The reinforced regulatory and supervisory framework of the Single Supervisory Mechanism and enhanced prudential requirements will bolster the safety of banks.

In the meantime, the European Central Bank is actively preparing to take up its new role of supervisor. The ECB is currently carrying out a comprehensive assessment of all banks which will be under its direct supervision and the balance sheets of those banks. In parallel it is recruiting high quality supervisory staff and building up a new supervisory structure that integrates national supervisors before it commences its activities. Danièle Nouy has been appointed as first Chair of the Single Supervisory Mechanism board.

It is important to recall that Europe’s banks are in a much better place today than they were two years ago. They have raised substantial amounts of capital on the markets, so that levels of capital for big European banks are now equivalent to American banks.

In terms of crisis management, a similar system will be put in place through the creation of a Single Resolution Mechanism (SRM). The European co-legislators will nonetheless play an important role in the success of the Banking Union, as they are to provide an environment in which the project can be effective.

The EU’s approach is at times criticised for being overly oriented on structural reforms and for insufficiently enforcing a symmetric adjustment involving not only the most vulnerable but also the most competitive eurozone countries. Others insist that the EU should pay more attention to social policies (see Frank Vandenbroucke, 2014).

Economic policy is to a large extent determined by political choices. Hence, the outcome of the European and national elections can have a determining influence on the EU’s position with regard to economic policymaking.

The content and scope of solidarity instruments to consider for the EMU represents a second challenge for policymakers. As a complement to fiscal, economic and financial discipline, several measures implying the sharing of sovereign risks between eurozone countries will continue to be debated.

Some solidarity mechanisms could bring partial relief to the public debt deleveraging process of the eurozone. Other instruments may facilitate the economic adjustment-process taking place in countries most badly hit by the crisis. More immediately, concrete steps involving solidarity are to be discussed in the setting-up of the Banking Union.