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Europe faces a critical moment to reform or die

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Born in Cape Town, Natale Labia lives in Milan, Italy, and writes on the economy and finance. Partner of private equity firm Lionhead Capital Partners. MBA from Università Bocconi. Supports Juventus.

The news on 29 January of the re-election of Italian President Sergio Mattarella would have been greeted with sighs of relief by European Commission (EC) mandarins in their Brussels apartments, perhaps even meriting a glass of something to celebrate.

After once again threatening the European Union, the Italian political class stepped back from the brink and, to paraphrase Churchill, having first exhausted all possible alternatives finally did the right thing.

With the almost universally respected Draghi installed for at least the immediate future at the opulent prime minister’s residence of Palazzo Chigi and with Mattarella re-elected as president, this portends a window of calm and an opportune moment to push through not just growth-friendly domestic policies in Italy but also long overdue reforms to the EU. But the question remains, will this actually happen?

Emerging from the torpor of the pandemic, Europe finds itself in a particularly critical moment. After a lost decade when it was continually buffeted by existential threats such as waves of Eurosceptic populism, refugee crises, the interminable eurozone crisis and Brexit, for once European policymakers are able to look forward and plot a future for the Old Continent.

Survival of the EU, the euro and the European project of “ever closer union” has, it would seem, been secured. For the first time since the heady days of the Maastricht Treaty, politicians in both domestic capitals and Brussels are asking what can be done to build a better Europe. There is broad agreement that delivering an energy transition and digitalisation are desperately needed. But beyond vague objectives, what does a stronger and better Europe actually mean?

Externally too the terrain has shifted, but not in more accommodating ways. Russia, the eternal counterpart and rival in millennia of “Great Games”, poses a graver threat to European security than ever, and yet Europe continues to be utterly dependent on the intravenous drip of Russian gas pumped into the heart of its economy.

China, a key market for the export powerhouse of the German economy, is becoming more and more wary of external economic dependencies. Brexit has removed a key liberal European player as well as asked existential questions about the future of the European project. Finally the US, the guarantor of post-war European economic and political stability, first forcibly ripped up the status quo under Trump and now under Biden seems to be slowly shirking responsibility and moving back into a China-obsessed mode of glorious isolation. After facing down the centrifugal forces of the 2010s that almost pulled it apart, Europe now confronts a range of external threats that could either destroy it or force it together. French President Emmanuel Macron has been typically forthright as to how Europe should respond. What is needed, according to the Europhile federalist, is “more Europe” with greater “strategic autonomy” in politics, economics and defence.

While lofty and even occasionally bellicose rhetoric may suit the French president, as ever the realities of enacting meaningful reform in Europe look as complex as ever.

The first critical debate looming over the next 12 months is perhaps the most contentious: how to reform the much-maligned Stability and Growth Pact. This was foisted upon all other eurozone member states by Germany at the height of the eurozone crisis and now effectively keeps European domestic fiscal policies within a Teutonic ordoliberal straitjacket. It is now broadly recognised that debt sustainability can only come with investment, and that a rigid approach to budget discipline hurts rather than helps fiscal sustainability, economic growth and political cohesion.

With a new and more amenable Scholz administration in Berlin, a far more fiscally relaxed government in The Hague, and with Macron and Draghi pushing for a rewriting of the strict spending rules, the classic North-South divide does not look as entrenched as previously. This is clearly the best chance Europe has to introduce some sanity to its fiscal policy in recent memory.

Second, the Banking and Capital Market Unions that are desperately needed to deepen the economic and financial linkages across the continent have been stillborn since first mooted in 2015. Once again, Berlin has signalled it will go much further than previously in compromising on the most contentious issues, in particular continent-wide depositor insurance. Only time will tell whether these are pacifying words or actual intent.

And finally the crux of it all is a truly European fiscal union, where revenues would be generated at the core of the European institutions and distributed to member states for critical investments needed. The Rubicon of large-scale borrowing by the EC was crossed during the pandemic in the form of the almost trillion euro Next Generation EU economic recovery fund. Federalists, such as Draghi and Macron, hope that this will be a pilot scheme for a permanent European budget to level up regions and tie the EU together. Whether or not that happens is highly questionable and deeply contentious.

Draghi, Macron, Scholz and European Commission President Ursula von der Leyen are well aware that, with the pandemic seemingly over, this is the best chance Europe has had in decades to forge a new and dynamic role as the global standard bearer for free markets, democracy and liberal ideals, and demonstrate its actual value to citizens. After the frustrations of the last decade and facing the threats of the next, this may also be its last chance. DM168

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  • Good article. In just over 20 years, Europeans have learned from each other just how valuable co-operation can be. There is no general feeling, despite a small populist wave fuelled by the Brexit mistake, that the EU needs to split. You can see this in a multitude of election results across the continent.

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