EU: Terror and Fiscal Spending

Published on November 19, 2015

French President Francois Hollande surprised his compatriots and even most of his own Socialist party when he requested the activation of Article 42.7 of the Treaty on the Functioning of the EU (TFEU), a mutual defense clause between EU countries, instead of invoking NATO’s equivalent Article 5, in his speech on Monday to the French Parliament in Versailles following the tragic terrorist attacks of November 13 in Paris.

Hollande’s decision to opt for EU and not NATO help we understand was made partly in order to avoid pulling the U.S., a reluctant participant to be sure under President Obama, into what is still politically a highly controversial military escalation in the Middle East.

But there was a lesser understood yet very important economic dimension to Hollande’s invocation of Article 42.7, namely, to remind the European Commission and other Member States of their mutual obligations in sharing the costs of what promises to be a long and costly war against ISIS, and in perhaps some additional spending as well.

*** The increase in French security spending outlined by Hollande amounts to no more than six hundred million Euros. But an agreement on a broader European operation to fight ISIS, reached between Member States based on article 42.7, has the potential to push the levers for higher fiscal spending across the EU, by “forcing” the European Commission to consider as “extraordinary” – in its bi-annual assessments of countries’ fiscal policies – the military and security related spending by France and all the other EU countries over the next few years to wage that war. ***

*** In addition, we understand that at the request of one of the Member States, several billions of Euros in EU member state costs directly related to the 2015 migrant wave (once EU contributions are subtracted) will also be taken into due consideration by the European Commission in its assessment of progress made in reaching their fiscal Medium Term Objectives (MTOs). ***

*** And although the Commission won’t allow indirect spending such as hiring teachers and building affordable housing to be thrown into the mix, some Member States with fiscal space (i.e. Germany) have been and will be encouraged to use such space by both the European Commission and the European Central Bank. In the most recent interpretation of EU fiscal policy, an excessive surplus is considered (almost) as bad as an excessive deficit. ***

*** Finally, more broadly speaking, in addition to case-by-case exceptions related to the recent policy developments, it has been a consistent policy of Jean-Claude Juncker’s growth-oriented European Commission to quietly refrain from acting against Member States that fail to comply here and there with their MTOs, despite the (not unwelcome) narrative in the financial press of clashes between free spending governments and a tight Brussels. That latter reporting and analysis is just so “2012.” ***

The Commission Stance on Budgets

The objective of the 2011 “Six-Pack” Regulations was to adopt an approach to budgetary discipline that would be more flexible than the rigid (when enforced anyway) criteria of the Stability and Growth Pact.

The six-pack regulations were meant to complement and modernize the SGP by allowing countries to make more coherent, long-term efforts in reducing excessive imbalances, be they deficits or a surplus. The new benchmark is no longer so much a target number in itself, but whether a country is heading in the right direction towards the achievement of its “MTO” and how steady that course looks to be.

But even though the aim of the new legislation was to increase control, since coming into power in late 2014, the current European Commission has implemented a completely different, far more lenient, interpretation of budgetary policy than its predecessors did, even as the general rules remain in force.

Indeed both Economic and Finance Commissioner Pierre Moscovici and President Jean-Claude Juncker have been more than cautious not to stifle the little bit of growth the EU has achieved in the last year or so, and have been very reluctant to slap down Member States for what they believe to be minor transgressions compared to the economic and social imperative of putting Europe back on the road to growth.

Ironically, EU officials point out that in 2012 it was the bureaucrats who were recommending leniency and a more flexible application of the pact (as wise countercyclical policy) as opposed to then Commissioner Jyrki Katainen’s insistence on a more hardline approach. Today, those bureaucrats are recommending toughness given there is no more recession, arguing this would be a good time to reduce debt, while the politicians are turning a deaf ear.

All that is now playing out in the EU’s handling of the fiscal fallout of the migrant and security crises.

On the migrant crisis, France, Italy, Spain, Greece, as well as Austria and Hungary, the countries that have had to cope with the migrant shock, will be asked to “explain” to Brussels the sums of money they have put into dealing with the refugees (registration, camps, first aid, etc…) as part of their budget submissions to the EU, should they choose to request exceptional treatment for those expenses.

Incidentally, officials privately grumble they are in any case unable to verify documentation of specific expenditures due to a lack of manpower, and will have to “trust” Member State submissions as is.

The “migrants exception” will be available each year, but it won’t include, at least for now, indirect spending such as, for instance, on teachers and affordable housing. As to its impact on the overall EU economy, the Commission expects the migrant crisis to be a net spending burden on Member States for maybe five years, before actually becoming a “net positive.”

In the area of security and military spending, the Commission already grants leeway on a case by case basis. However, Member States that are increasing military spending in order to reach the (NATO-required) 2% of GDP level should not in theory be able to request specific leniency. This is what happened to Lithuania, which recently reintroduced the military draft and increased military spending by 0.4% of GDP, only to have it be considered a deviation from its MTO.

But now, should EU countries decide – on the basis of article 42.7 – to go all in together after ISIS in Syria, or say undertake a joint mission in Chad to provide French forces relief, the money spent on that will be taken into positive consideration in assessing individual countries’ progress towards their MTO.

Those exceptions, coupled with the by now familiar, more relaxed Commission stance on actions against Member States in violation of the Stability and Growth Pact itself (i.e. above 3% deficit to GDP ratio), will contribute on the margins to an increase in fiscal spending in the EU for 2016.

Paris: Invoking the EU “Mutual Defense” Clause

While on the fiscal side the Paris attacks will result in an even more lenient Commission approach to budgetary discipline, the Schengen agreement seems, at least for now, to have survived miraculously unscathed.

It has been clear to us since Hollande’s speech that even as Paris strives to capture the perpetrators and organizers of the terrorist murders, the French President has been seeking more, not less, cooperation between Schengen countries for preventing more attacks in the future.

Indeed the TFEU provides Member States with two different options in the field of mutual defense and security, one being Article 42.7 and the other being Article 222, which initiates a complex procedure involving the Council and EU budget.

But Article 222 is cumbersome and, worst of it all, puts Brussels in a privileged position, and so Hollande opted for the “light,” intergovernmental option.

His choice was politically groundbreaking, and in accepting the French request for aid in their war on terror, EU leaders have acknowledged the European nature of the challenge and basically agreed to use their resources – whether intelligence, military power, or simply money – in the fight.

Hollande’s choice also deflects the ever-surfacing complaints against migration and the Schengen Treaty from right-wing political parties like France’s National Front that it fails to address the terrorist cells believed to be already operating in France.

So for now at least, Hollande is pushing for more, not less, cooperation for wider intelligence-sharing and coordinated police efforts within Member States, with border control efforts focused more on entry into the EU than travel within.

That will remain possible, of course, only if he and other EU leaders maintain their current resolve in light of populist outrage, a litmus test for which will be tomorrow’s meeting of the bloc’s Interior Ministers, which remains to be seen.

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