Nova workboard

a blog from young economists at Nova SBE

Should I stay or should I go: A European Fiscal Union?

When a group of countries agree on integrating fiscal policies they are joining in a Fiscal Union. This implies that most of the decisions about the collection of taxes and public expenditures are taken by common supranational institutions instead of the national governments.

Every economist knows that monetary policy has limitations. During the last years of the big recession, the European Central Bank was impotent in dealing with the financial crisis using conventional instruments. It had to escape from the liquidity trap through Quantitative Easing. Creating a Fiscal Union with a fiscal authority coordinating it, like a European Ministry of Finance would be an easier way to impose fiscal measures at a European level. This would increase the responsiveness of economic policies to the economic needs, as for example, in fighting unemployment or smoothing the economic cycle. This can be particularly important in a time of higher economic and financial integration between countries, where a shock in one country can spill over to other countries.

However, when we speak about “risk-sharing”, some countries, especially the northern countries, hear “free-ride”. These countries are typically the net contributors to the European Union budget and by taking a further step in the European Project, they are afraid of having one more burden to take care of. Despite that, when one takes a deeper look and accounts for all the gains and losses from being part of the EU, the two countries that benefited most of being in the single market are precisely Germany and Denmark. On top of that, another study states that, on average, if a country had not joined the European Community it would have an income 12% lower, compared to what it has today.

Nevertheless, the creation of the Fiscal Union would have as one of the consequences the uniformization of taxes across all countries, including corporate tax. Some countries in the EU have a low corporate tax rate to incentivize multinational companies establishing their European headquarters in their countries. Some argued that the Fiscal Union because it would uniformize taxes across the Union would damage the countries with lower corporate tax rate. To these specific countries, almost for sure the corporate tax rate would be larger if compared with what it is now, which would damage its Investment (less companies will choose that country to establish themselves) and consequently the GDP. Yet, firms will not ignore the opportunities of the European market. So, it is perfectly plausible to assume that firms will always be established in the EU. The only difference it may arise is the location chosen. Since the countries are in a Fiscal Union it is possible to redistribute money in an easier way.

Of course, for that a new treaty should be signed and the European budget would have to be allowed to have a deficit or a superavit. Regardless of all the risks that may come from this step, a Fiscal Union would allow both fiscal sustainability and fiscal stability.

 

Tiago Bernardino

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Author: studentnovasbe

Master student in Nova Sbe

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