EUROPE COMPASS

Negative sum games

As expected, EU leaders failed to agree the Multiannual Financial Framework (MFF) for 2014-20 at their extraordinary budget summit on November 22-23. Afterwards, the European Council issued a three-part statement that: mandated the Presidents of the Council and the European Commission to keep working towards consensus among the member states;   observed that the differences across countries are now small enough that a consensus could be achieved by early in 2013 (thus after the December 2012 European Council summit); and   explained that coming to some sort of agreement is important to "jobs and growth in all our countries". <="" li=""> This is not a rallying cry for immediate and decisive action, but it is not a declaration of defeat either. Europe's leaders have kicked the can down the road but it should not be allowed to roll too far. Although the overall amounts are small -- amounting to roughly 1% of gross national income for the EU as a whole -- and the crucial differences are even smaller, at just a few tens of billions of euros over a seven-year period, the budget is important for political, practical and symbolic reasons.

Political importance

Politically, the EU budget is the hardest part of European integration to sell to domestic audiences and the most likely source of friction between individual member states and the European Union as a whole. Many of the most famous crises in the history of European integration have revolved around financial matters. The French empty chair in the mid-1960s, the UK budgetary question in the early 1980s, and the preparations for enlargement to the countries of Central and Eastern Europe are all good examples. Moreover, no government has ever found it easy to justify being a net contributor to EU coffers. By this measure, the November summit offered a small risk of isolating the UK government and so turning into a disaster. That did not come about. Instead the United Kingdom found a number of allies who were equally unwilling to sell EU expenditures back to their domestic constituencies and looking for some way to bring home the message that the rest of Europe is sharing their pain. This is good news from a negotiating standpoint because it shifts the centre of gravity closer to a position that UK Prime Minister David Cameron's government could find more acceptable than the prospect of being further marginalised at the European level. The EU will end up with fewer resources but a broader consensus around -- or, perhaps better, tolerance for -- its multi-annual financial ambitions.

Practical considerations

Where will the money come from and how might it be used? This is obviously a political consideration but it is practical as well. The budget is the most powerful instrument that the EU has to create economies of scale: Cross-border infrastructure projects If the goal is to have a coherent network of road and rail links connecting every part of the European marketplace both internally and with the outside world, then it is important to eliminate strategic chokepoints that threaten movement across the network as a whole. Pre-competitive inter-disciplinary research The EU is home to a large number of vibrant national research communities that need to share insights and innovations. The challenge is not only to bring scholars from poorer countries into the wider research community but also to push ideas from wherever they are developed into different parts of the EU for application. Institutions for a common foreign and security policy European countries could improve services to their citizens abroad, while at the same time saving resources by generalising the practice of sharing some consular activities through a common European external action service (EEAS). That same EEAS might even give Europeans a stronger voice in world affairs. These economies of scale tend to be overshadowed by the fact that European officials (including Members of the European Parliament) are well remunerated in terms of pay and benefits. There are a number of reasons why this is so -- none of which will ever be accepted by critics of European institutions. This is where the symbolism of the EU budget becomes important.

Symbolism

Symbolically, from a member state perspective, money spent at the European level is not money spent at home. Either it goes to some other member state in the form of a transfer or it is simply 'wasted'. This is true regardless of whether the member state in question is a net contributor to European coffers or a net recipient. Moreover, this symbolism strengthens as growth prospects diminish and whenever the advantages of any economies to scale have to be measured in terms of counterfactual losses rather than actual gains. European budgeting is hard enough when growth is strong and politicians can sell arguments about how common expenditures work to mutual advantage. This is a 'positive sum' game, where the whole is greater than the sum of its parts. A 'zero sum' game is more problematic because anything that resembles a gain for one party to the negotiations can be had only at some other party's expense. This is where side payments and rebates become important to shore up support by evening out the ledger. However, too often, these redistributive mechanisms become the focus for action as well as debate. In such cases, the economies of scale risk being sacrificed on the altar of redistribution. The result is not an equilibration of costs and benefits across the EU as a whole; it is a net loss both for the contributors and for the recipients.

Towards a 'negative sum' game?

The worry coming out of the November European Council summit is that the member states may be moving towards a 'negative sum' game, where the budget is balanced by cutting resources away from those areas where the EU has most to offer and reallocating them to policies that redistribute income inefficiently from one member state to the next. This could resolve the political conflict that prevented the member states from agreeing on a budget during the November summit itself, but only at the cost of undermining the contribution of the EU to growth and employment, and strengthening the argument made by critics of European integration that the net contribution of European institutions is to siphon wealth and resources from the member states.

I trust you have found this weekly Europe Compass note helpful. The Europe Compass is one element of Oxford Analytica's Europe Practice, which provides analytical insight and advice on the changing political economy of Europe and the implications for corporations, investors and public institutions in all markets and regions. I invite you to contact me or anyone at our Europe Practice with your queries or concerns.

Dr Erik Jones Head of Europe ejones@oxford-analytica.com www.oxan.comTel: +44 1865 261600