The future of the European Union?

As a lifelong and warm supporter of the ideal of a United States of Europe (USE) stretching from the coast of Ireland to the Urals, I was interested to see the recent wrangling’s inside the EU about its future. The UK Prime Minister David Cameron has now promised a referendum on an EU-exit in 5 years time, and similar debates are underway elsewhere in Europe, particularly following the drama in Cyprus last week. The unthinkable, which is the break-up of the EU, is starting to become thinkable.

The first thing to note is that a supporter of the USE idea should not necessarily fear an EU break-up. This is because there are strong geo-political and economic advantages for European countries to band together into a single union: a block has more clout on the world political stage than a loose alliance, and with the emergence of China as a dominant single entity I do think it is a case of ‘divided we lose’ in terms of influence in the resource-rich areas of the world. Divided, the Europeans are easy pickings for coercive and disadvantageous financial blackmail by the remaining blocks, for instance via patents and disadvantageous access to resources. So a common market and common trade-related institutions (such as a competition regulator) look likely to survive any break-up simply because it is so clearly in everyone’s interest.

One should also give the EU its due: the EU has performed its historical role as pacifier admirably over the last 50 years, with perhaps its proudest moments in the 1990s when its mere existence and the honey pots of its subsidy schemes had a great pacifying effect on the emerging Eastern European countries. The conditions for entry that Van den Broek so admirably explained to the former Soviet states wanting to get into the EU did wonders to convince the elites in those Eastern countries to go easy on their minorities and to embrace modern democratic and inclusive institutions, so just on that count alone the EU has been a success.

But at the moment, the EU is part of the problem, with little hope in sight to be a part of the solution.

At the moment the EU performs a couple of reasonably useful roles (such as international trade negotiations or in coordinating education reform) but it has otherwise degenerated into an a-la-carte behemoth handing out subsidies to the same people it gave them to 25 years ago (farmers and regions). This reflects the fact that the real power is in the hands of the national politicians who fight each other tooth and nail over every change in the EU, leading to ‘no change’ in terms of money flows. The privileges historically acquired are defended to the bitter end whilst any decision making is a very slow and costly process. The classic example of this is that the EU has two parliaments between which the EU politicians have to travel (Strassbourg and Brussels) with zillions of interpreters to cater for all the official languages, for which the only logic at the time was that it met the demands of the French that money was wasted on them. A related one is that, at the moment, all EU legal documents must be available in its 23 official languages!!! The EU is full of these costly idiocies that employ legions of bureaucrats. And these idiocies are defended to the bitter end by the inside elite.

Apart from such instances of hidden unemployment though, where are the structural problems most severe that no small crisis will solve? The most severe is financial regulation, including tax regulation: the a-la-carte financial arrangements in the EU have allowed for financial piracy on a huge scale. Effectively, countries like Liechtenstein, Luxemburg, Ireland, Switzerland, Cyprus, the UK, and various UK-related islands have been free-riding off the EU. Their association with the EU allows them access to the EU financial systems and the internal market, but their independence in terms of tax legislation allows these small countries to undercut everyone else in terms of taxation of capital and labour.

What are some examples of this? Ireland is a haven for headquarters of major companies in the EU; the UK is undermining a Tobin tax on financial transactions, effectively shielding the city of London where lots of the EU financial transactions take place, and thus preventing such a tax from being instigated elsewhere in Europe. Similar low capital taxations occur in Switzerland, Liechtenstein and other countries. Companies and individuals base themselves in these countries for tax purposes whilst their productive activities use the public goods in the other countries paid for by local taxes mainly on locals.

Now, if the EU were a USE then it could do what the Americans are now doing: finding ways to bring these small countries to heel via foreign policy and new domestic financial regulation on the duties of any entity dealing with these pirate countries. The recent Cyprus deal very effectively killed off their financial system, but the same trick will only work for countries forced to come beg for loans, something the Swiss and the UK small islands for instance are not going to be doing any time soon.

This really is the major issue that is fundamental to the ability of the EU to become a USE. In the current arrangements the financial free-riding cannot be challenged because individual countries resist the EU obtaining taxing powers or the ability to regulate taxation across countries. These powers are of course the main vestige of national sovereignty but it is the main thing now killing the economic viability of the EU project. Without the threat of taxation, the defenders of waste can’t be bought out.

What do we then get during the latest crisis? As foretold in 2011, we get weak new economic institutions which lack enforceable agreements on budgets, coupled with very large loans given to countries that cant pay back and that now and then simply get given money in the form of more and more favourable loan deals (the latest Greek deal was a classic, whereby interest paid on previous loans was given back and interest rates on loans became miniscule. A default in all but name). You thus get dependency of dysfunctional elites on the money printers in the ECB. Not a sustainable situation and one that easily turns into anger amongst the dependents when the gravy train stops, as well as anger amongst the financers of these loans about the dependents.

Defense is another area where no real process has been made over the decades. Because countries have different international ties and interests they don’t want to truly bundle their military potential under joint leadership. De Gaulle’s plan of a common army was defeated back in the time of the Dinosaurs and similar non-cooperation is hitting current joint ventures. Partially the diverging interests reflects the colonial period that gave France ties to Francophone Africa, England ties to the Commonwealth, Spain ties to Latin America and Italy ties to North Africa. With different friends come different interests. The result of a lack of coordination has been duplication in military institutions and slow reactions to crises such as the Yugoslav wars, the Libyan conflict and now the Syrian conflict.

So the EU has some design problems that have now become impenetrable. It might die, in which case the hope is that it gives birth to a USE in its final death-throws.

Undoubtedly, the EU bureaucracy will invest in any propaganda that says that its break-up is bad for Europe and would spell infinite doom and disaster. No doubt, many fervent believers in the European ideal who do not trust in the ability of populations to see what is in their self-interest once the EU is gone, will also hang onto to the current EU project. I am not so sure this is right.

What are the forces that might get us to an implosion? The big one is nationalist forces wherein populations are starting to realise that the EU-project does not deliver them what they hoped. The example of countries outside the EU doing well and the inability to bring them to heel for their free-riding erodes support for the EU. The large inefficiencies and inequities in the EU, such as the two parliaments, furthermore erode support. Differences in economic institutions furthermore mean that the high public-sector-wage-inflation countries are suffering in terms of competitiveness vis-à-vis the other countries, which erodes support in those high public-sector-wage-inflation countries.

There are counter-forces keeping the EU together though, such as the large EU bureaucracy, the European political class for which the EU is a source of political jobs and international political prestige, but also the financial players and those most successful at the subsidy-race. There is also a slow moving increasing integration, some of which is happening right now as many Greeks and others have moved to Germany, whilst Southern European countries are adjusting their institutions in a very slow process of ‘germanification’. These are powerful forces and it is by no means clear that they are too weak to stop the nationalist tides.

It is also not the case that pressures on the monetary system in Europe would necessarily mean to a straight break-up. There have always been various scenarios for the EU project to lead to a United States of Europe for just a few countries. The Schengen countries could for instance join together and form a mini-USE that has a unified budget. It is but one of the possibilities for internal reform within the EU-structures that may yet prove to be the road ahead.

As a Euro-enthusiast I do not quite hope the EU dies but I don’t really fear the event either. The European ideal will not die with an implosion of the EU, as it did not die after the violent attempts of Hitler and Napoleon to unify Europe by force. I trust in self-interest to preserve the European project.

Author: paulfrijters

Professor of Wellbeing and Economics at the London School of Economics, Centre for Economic Performance

3 thoughts on “The future of the European Union?”

  1. Great article! Do you think that a future USE will emerge with a central taxing authority (like Australia) or a more federal form of taxation (like the US)? Also, do you think that tax competition within a federation is helpful or harmful to the union’s economy overall?


    1. On balance, I hope for central taxation, but a more federal model (at least at the start) would seem more likely. Hard to see the road of least resistance that gets us there though. It will probably require a few of the core countries negotiating an expanded federal model. The current institutions are in the way though…


  2. Expect simple nature of an EU GST on transactions, with funds received then divided between the EU, location of purchaser, and location of seller will eventually see it established.


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