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The Stability Treaty: Brendan Halligan speaks at Oireachtas

18 Apr 2012

On 5 April 2012, Brendan Halligan made a presentation to the Sub- Committee on the Referendum and the Stability Treaty in Leinster House on the Implications of the Treaty for Ireland and Europe. The paper on which this presentation was based is available below. 

The full proceedings of the Sub-Committee are available here.

The Treaty on Stability, Co-ordination and Governance in the Economic and Monetary Union

Paper prepared for Presentation to "The Sub Committee on the Referendum and the Treaty"


“Implications for Ireland and Europe”

by Brendan Halligan, Chairman of the Institute of International and European Affairs

Thursday 5 April 2012
Leinster House


Mr. Chairman,

On behalf of the Institute of International and European Affairs I want to thank the Sub-Committee for the invitation to appear here today. It’s always an honour to exchange views with members of the Oireachtas, especially on issues such as the Treaty on Stability, Co-ordination and Governance.

You have asked us to assess its implications for Ireland and Europe and that means looking both at the context and content of the Treaty. I start with the reminder that the European Union is a political project resting on economic foundations.  The aim is to bring peace and prosperity to the peoples of Europe and to build societies based on democracy and the rule of law.

These solemn objectives underscore the unique nature of the European Union as a political experiment in building permanent interdependence between the nations of Europe.

Economic co-operation between the countries of Europe is the cement that binds them together politically.  It is the basis of that interdependence and it began as a common market sixty years ago, then evolved into a single or internal market and eventually expanded into an Economic and Monetary Union. The centerpiece of the Economic and Monetary Union is the euro, the common currency of seventeen of the member states of the Union.

As we know, both the EMU and the euro were to be safeguarded by rules applying to the conduct of the public finances of any country adopting the euro as its currency. These rules were originally set out in the Stability and Growth Pact negotiated here in this city in 1996 during the Irish Presidency, when Ruairi Quinn, as Minister for Finance, presided over the Ecofin Council.

But, as we know, the economic leg of the EMU was left unfinished for political reasons, to be completed at a later date.  We also know that the rules on public finances were subsequently broken and could not be enforced. For example, the two largest member states, Germany and France, broke the rule of keeping their budget deficit below 3% of GDP.  Two other member states, Italy and Greece, broke the rule of keeping the national debt below 60% of GDP or, at least, reducing the debt level to 60% in progressive steps. 

Other member states, such as Ireland, ignored the policy advice of the Commission and Council on how to manage their public finances in a sound and sustainable manner, even though they were supposed to take account of it. 

These defects in the Stability and Growth Pact became more obvious, and more alarming, as the international financial crisis began to unfold in 2007.  We now know, that this crisis is as serious, as profound and as menacing as the Great Depression of the 1920s and 1930s.

There is growing consensus that the most obvious characteristic of the current depression is the massive accumulation of private, public and corporate debt in the advanced economies and that this poses a great threat to the global economy.  Consequently, when the economic crisis reached a tipping point it was inevitable that debt would become the factor that singled out some countries as high risk in terms of defaulting on their loans: first Greece, then Ireland and Portugal.  International leaders turned away from Greece, Ireland and Portugal and suddenly there was a sovereign debt crisis in the euro area. 

The response from the other member states of the euro area was elaborated over a long drawn out process by first creating temporary mechanisms to bail-out Greece, Ireland and Portugal, then by repairing the defects in the Stability and Growth Pact via the so-called six pack, next by creating the European equivalent of the IMF and, finally, by establishing a set of rules for the conduct of public finances that are intended to be enforceable. 

That’s the context to the Stability Treaty, (TSCG) or Treaty on Stability, Coordination and Governance in the Economic and Monetary Union or the Fiscal Compact as it’s also called (which refers to the fiscal part of the Treaty).  Its primary purpose is “to safeguard the stability of the euro area as a whole”.  In other words, its primary purpose is to protect and strengthen the economic foundations of the European Union.  Nobody should underestimate the political determination behind this objective given the political aims to which I referred at the outset.

As a consequence of these decisions, the euro is to be protected by two new initiatives.

Firstly, under the Stability Treaty there is to be a common set of rules ensuring that the public finances in each of the countries within the euro area will be conducted in a sound and sustainable manner.

Secondly, there is to be a permanent EU institution to provide financial assistance to any country in the euro area that is unable to secure funding in the financial markets.  This institution, the European Stability Mechanism (ESM) will have sufficient capital, aided by the IMF, to finance any group of countries in trouble, even large economies like Italy and Spain.

The implications for Europe are that, in the immediate-term, the sovereign debt crisis will be resolved and, in the longer term, will be protected from a re-occurrence.

This conclusion is drawn from the rationale behind the Stability Treaty. The rationale is based on the belief that there is a direct correlation between sound sustainable finances at the national level and the stability of the currency at the European level.  If all the countries of the euro area comply with the two basic rules of balancing their budgets and controlling their debt level then the euro will be a stable currency and the economic foundations of the European Union will be secure.

This should have the effects that most economists would expect: the restoration of consumer and investor confidence, leading to increased consumption and investment and, consequently, to growth in incomes and employment. The restoration of consumer and investor confidence and the elimination of risk are central to resolving what many economies are now calling “a balance sheet crisis” reminiscent of the Great Depression.  The Stability Treaty will have the singular merit of doing precisely that: restoring confidence and reducing risk.

For the longer term, the implications of the Treaty for Europe as a whole are that the European Union will have a currency analogous to the American dollar and the Chinese renminbi.  These three currencies will dominate the international financial system for the rest of the century and the euro will provide the European Union with the economic strength to protect its interests in global finance and international trade while also advancing its own policies on complex global issues, like climate change.

For Ireland, the implications fall into two main categories: short term considerations about our ability to borrow in order to finance public expenditure and, longer term, about the way we manage our public finances. 

With regard to borrowing, this country is being kept afloat by loans from all the other member states of the EU through the EFSF, from all the other members of the euro area through the EFSM, and by the international community through the IMF.  I refer here to the finance we need to bridge the gap between expenditure and revenue, which will remain substantial over the rest of the decade ahead.

The method of financing currently in place is to change because the European Stability Mechanism (ESM) is to replace the European Financial Stability Facility (EFSF) and to absorb the European Financial Stability Mechanism (EFSM).  As of 1 March 2013, financial assistance from the ESM will, however, be conditional on the ratification of Stability Treaty by the country looking for assistance.  To use a familiar expression, terms and conditions apply.  This conditionality is a new departure. Hence, if we wish to continue borrowing from the other member states of the euro area then we will have to sign up to the rules set out in the Stability Treaty. 

The people, of course, have the right to reject ratification of the Treaty. In that case, Ireland would disbar itself from borrowing from the ESM and would have to find alternative funding from the IMF and financial markets. 

For its part, the IMF, which is funded by countries throughout the world, places limits on the size of its it loans and, as it widely known, places strict conditions on the borrower to ensure it gets its money back.  Those conditions would be no less strict than those it already imposes on Ireland under the Troika agreement.

Belief that the IMF would be a more generous benefactor than the members of the euro area is, consequently, a dangerous delusion.

One important point to highlight is that this Treaty is based on an agreement by member states –i.e. It is an intergovernmental treaty and Ireland and it partners in the EU have agreed that the Treaty will proceed as soon as 12 members of the eurozone have ratified it.  This changes the dynamic of normal referenda in Ireland as the Irish public are invited to choose to opt in to a treaty, which will proceed irrespective of Ireland’s decision.  If the Irish public choose not to opt in, this would have serious implications for Ireland’s economy.   

Furthermore, rejection of the Stability Treaty would seriously reduce Ireland’s credit worthiness in the financial markets.  To put it at its mildest, Ireland would find it difficult to raise money to the extent we require and at interest rates we could afford; at worst Ireland would find it impossible to find the money needed to finance the budget deficit.

Were that to happen then the implications are obvious: public expenditure would have to be drastically reduced at a pace faster than anything contemplated under the Troika arrangement with the EU/ECB/IMF.  It would condemn the country to a level of austerity way beyond anything currently experienced.

A counter argument to this scenario is that the other members of the euro area would not tolerate the risk of Ireland defaulting on its sovereign debt and would continue to bail us out indefinitely.  In this alternative scenario, we could have our cake and eat it. 

While this is a seductive line of thought it would be a high-risk strategy to gamble our future on the expectation that we would be indefinitely bailed out. Should the other members of the euro area decide to leave us to our own devices then the consequences would be catastrophic for this country.

Rejecting the Treaty would be tantamount to gambling our future on the reaction of other countries.  It would, of course, reverse the policy on which this country has based its economic development strategy since Lemass first announced Ireland’s intention to join the EEC some fifty years ago. At one stroke it would destroy the argument that Ireland was an attractive and secure base for foreign direct investment.  The immediate consequences require no elaboration.  

The second set of implications for Ireland concern the long-term conduct of our public finances.  We are already bound by the Stability and Growth Pact to balance our budget and keep our debt level below 60% GDP and in that sense there is nothing new in the Stability Treaty.  Furthermore, we are obliged under the Troika agreement to get our public finances back in order and to reduce debt to a sustainable level. In that sense the Treaty introduces nothing new. 

The difference introduced by the Stability Treaty is that we would be obliged to put the deficit and debt rules into national legislation within a year.  The rules will, in any event, be incorporated into domestic legislation via the forthcoming Financial Responsibility Bill.  The law of the land would then prevent an Irish government from running up a budget deficit for electoral reasons, for example.

But if an Irish government were to fail to adequately incorporate these rules into national legislation then, under the Stability Treaty, the European Commission could instruct it to comply and if it failed to do so the European Court of Justice could impose a fine on Ireland, or more accurately, on the taxpayers of this country. 

Hence, prudence and responsibility in the conduct of budgetary policy would be two immediate benefits of ratifying the Stability Treaty. We would not be precluded, of course, from running a deficit in exceptional circumstances outside our control or to counteract periods of severe economic disturbance.

But the main political implication is that the sort of budgetary policy deliberately adopted in 1978, which led to a depression over the following decade, and the budgetary stance consciously pursued up to 2007, which precipitated the current crisis, would not be possible under the Stability Treaty.  The new rules would prevent it

Few would contest that this would be a good thing.

A further implication, arising from the definition of “the annual structural balance of the general government” set out in the Treaty is that we would run a surplus in good times which could offset deficits in times of depression.  In the light of our current experience, that too would be a good thing.

Finally, the implication of the balanced budget rule is that the level of revenue or of expenditure is a matter for national governments to determine, the one proviso being that revenue and expenditure should balance.

So, if we want high levels of expenditure then we will have to have high levels of taxation. It we want low levels of taxation then we will have to tolerate low levels of expenditure. 

It will be up to us to make the policy choices.  The one choice we won’t to be able to make is to run a deficit and build up the national debt.

Let me sum up by saying that the Stability Treaty is to be seen as part of a package designed to make the euro a stable currency.  As an objective this is worthy of support for it is a fundamental law of civilisation that a currency should be stable and widely accepted as both a unit of value and a credible means of exchange.  This fundamental rule should be borne in mind when evaluating the Stability Treaty. 

As we know, the Treaty is to come into force on 1 January next year, provided twelve countries in the euro area have ratified it by then or as soon thereafter whenever twelve countries have done so. We also know that because Britain and the Czech Republic refused to sign the Treaty it is a separate international agreement outside the Union Treaties, although the intention is to incorporate it into the framework of the European Union within five years. 

This raises the question of the future of Britain as a full member of the EU because the euro area will constitute the core of the Union and will grow progressively larger.  Within the next decade the core will encompass the great majority of member states, with Britain on the outside.  This raises strategic issues for this country that the sub-committee might wish to address. 

Ireland, for its part, has regarded full membership of the European Union and of the euro as indispensable to its economic prosperity and fundamental to its role in Europe and the wider world. 

The referendum poses the question as to whether the Irish people wish that policy to continue.  The report of the Sub-Committee will help inform public debate on the matter and lead to a considered conclusion. 

I have not, of course, covered all aspects of the Treaty in the time allowed but I hope I have dealt with the context adequately and have represented the content fairly.

The Institute wishes the Sub-Committee well in its work and we hold ourselves in readiness to assist in whatever way we can.

Thank you for your attention.

As an independent forum, the Institute does not express any opinions of its own. The views expressed in the article are the sole responsibility of the author.

Comments 1-2 of 2

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Dermot Dungan says: 19 Apr 2012 8:40

"Ireland, for its part, has regarded full membership of the European Union and of the euro as indispensable to its economic prosperity and fundamental to its role in Europe and the wider world". What economic prosperity? Does Brendan Halligan actually understand the depth of devastation wrought on vast numbers of Irish people or have any idea of the true cause, an ill conceived and ill structured Euro. It was the vast inflows of funds to the Irish financial system that funded the bubble in banking and the sudden withdrawal of same back to the "core" countries that firstly caused the problem and then the accellerated and deepened the collapse, though a collapse is always inevitable after a bubble. This is basic economics, too much money chasing too few assets leads to inflation. Why are the experts surprised that markets did exactly what basic classical economics say they will do. And why shift the blame and cost onto people who had nothing to do with creating the problem, the ordinary citizens of Ireland. Because that is what this "compact" is really about. Ireland, Spain, Portugal and Greece are to blame, so the theory goes, because of wreckless governments policies in spending way more than they take in. But that's simply not the historical fact and some countries are allowed to do it without the international markets punishing them, USA being the biggest example, while others are not. The EU was set up as a way to protect the citizens of Europe from the threat of hunger and economic deprivation. Explain exactly how well that has worked out to the hundreds of thousands of Irish Citizens and the millions of European Citizens ecomomically wiped out by the inbuilt faults in the Euro experiment, explain it to the relatives of the Greek pensioner who shot himself rather than scavange in bins and the dozens of Irish families who have suffered similar but not so public "economic suicides". Finally explain how this compact will correct the crisis because any rational look at it clearly indicates it will do nothing other than perhaps offer a short term sop to the sentiment of the money markets. Dermot Dungan B.Sc. Mathematics

William D Carr says: 18 Apr 2012 19:15

This is a very clear understanding of the essentials of the Treaty from an Irish perspective.

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