In the name of EU solidarity

Written by Katinka Barysch [1], 01 April 2009

Is a new iron curtain threatening to divide the European Union? Hungary’s prime minister, Ferenc Gyurcsany, raised the spectre last month, when he warned that the eastern members were descending into economic mayhem while the richer EU countries were looking on unsympathetically. Gyurcsany then suggested that the EU should provide €180 billion in emergency aid for budget bail-outs and banking rescues in the East. His idea was swiftly rejected at an informal EU summit at the beginning of March. Does this rejection mean the end of EU solidarity – the glue that keeps the Union of 27 countries together?

No. First, not all new member-states are in as much trouble as Hungary. The governments of the Czech Republic, Poland and other Central and East European countries that are doing better economically said there was no need for a region-wide bail-out package. Second, the EU has in fact shown a good deal of support for those new member-states that needed it. At the end of 2008, the European Commission doubled its emergency fund for countries that struggle to finance their external deficits to €25 billion. In March 2009, it doubled it again. It has used some of that money to co-finance large loan packages for Hungary and Latvia, and now also Romania, under the auspices of the International Monetary Fund. National governments, for example in Sweden, have also contributed to such loans.

If more emergency lending is needed, the EU could raise even more money to co-finance IMF lending. But the EU should not seek to replace the IMF. The European Commission does not have much experience with imposing the kind of economic conditionality that usually comes with large balance-of-payments loans. Conditions such as cutting budget deficits and streamlining the state administration are painful, especially at a time when economic output is plunging and unemployment is rising – which is why the IMF is now softening the austerity plans for some East European countries. Yet conditionality is considered necessary to ensure that the money really addresses the problem and that the borrower can eventually repay the loan. The EU’s reputation for solidarity would hardly gain if eurocrats rather than IMF officials told these governments to sack more civil servants and cut pensions. When EU governments recently agreed that the IMF’s resources should be at least doubled, they did so with Eastern Europe foremost on their minds. The EU countries are likely to contribute €75 billion to the extra $250 billion that the Fund is expected to get.

European leaders have also instructed their other institutions to help the new member-states. The European Bank for Reconstruction and Development, the European Investment Bank and the World Bank have made almost €25 billion available to help banks and businesses in Central and Eastern Europe. The European Central Bank has given significant short-term euro loans to Hungary and Poland so that people there can continue servicing their foreign-currency denominated mortgages. Those countries, such as Austria and Sweden, that are heavily exposed to bank lending to Eastern Europe have injected new capital into their banks. It is in these countries’ own vital interest to do so since their financial stability would be at risk if large chunks of the East European loans went sour. If some East European subsidiaries have to be bailed out, the responsibility will have to be shared. Austria, Belgium, Greece, Sweden and others did not prevent their banks from lending irresponsibly across borders while some East European countries foolishly allowed people and businesses to binge on foreign currency loans.

All the evidence so far suggests that the EU will not allow systemic banking failures or sovereign defaults in any of the new member-states. Nevertheless, there is more that the Union can and should do to help its newest members. More EU budget funds should go to energy and infrastructure projects in the East. The EU needs to have a proper debate about whether the Maastricht criteria for eurozone entry make sense for the fast-changing new members. Most importantly, the old member-states must prevent a fragmentation of the single market. Exports make up 80 per cent of GDP in many of the Central and East European countries, and most of these sales go to the eurozone. The new members’ economies depend on foreign investment. Both old and new member-states have benefited from the movement of workers around the Union. When West European governments tell their banks to lend only to local business, or suggest that their companies should build cars at home, or mull restrictions on foreign workers – that is when EU solidarity threatens to break down.