The European Council on 23 April is due to endorse the conclusions of the last Eurogroup meeting and to guide the Eurogroup’s work on a Recovery Fund. We have recently commented on these conclusions. The Member States are divided on this issue. Should the Fund be financed or not by a joint loan from the Member States? Should it cover immediate, short-term needs or should it also be geared to long-term needs and ecological transition? Should it only temporarily supplement the resources of the Community budget, or should it help all States on a long-term basis to invest in ecological transition? How can this new instrument be linked to the reform of the Stability and Growth Pact, which is more necessary than ever?
In a note written with Alain Grandjean, President of the Nicolas Hulot Foundation for Nature and Mankind, we propose an answer to these different questions. So that the crisis we are going through can put us on an ecologically sustainable path
The note can also be downloaded in pdf format here
« Getting it right through time means that we perceive correctly changes in the human environment, incorporate those perception into our belief system, and alter the institutions accordingly… (But) the dominant organizations may see the necessary changes as a threat to their survival… (resulting in) an inability to make the necessary institutional changes »D.C. North, 2005, Understanding the Process of Economic Changes, chap. 9
The European Union’s survival may be at stake. The lack of a coordinated response to the pandemic and the non-cooperative attitudes of the Member States are making people increasingly doubt the spirit of the Union. The political risk of a breakdown is higher than ever. If it is to be avoided, it is imperative that extremely strong and convincing measures, adapted to the new situation, be taken as quickly as possible.
Significant but insufficient measures
Faced with a health crisis with unprecedented human, economic, financial and monetary consequences, major and often innovative decisions were taken.
- The European Commission has suspended the rules of the Stability and Growth Pact on the grounds of exceptional circumstances and eased the constraints on state aid.
- Eur 37 billion of the EU budget under the Cohesion Policy has been redirected to the fight against COVID-19.
- The finance ministers of the 27 countries agreed on 9th April on a plan to support the economy with up to Eur 540 billion, using three « instruments »: a line of credit from the European Stability Mechanism (ESM), a pan-European guarantee fund hosted by the European Investment Bank (EIB) and a programme to support national unemployment schemes (the SURE programme). It was agreed exceptionally that the use of the line of credit from the ESM would not be subject to macro-economic conditions.
- The ECB has announced and is implementing a Eur 750 billion bond buyback programme. It thus avoids a liquidity crisis in the banking sector and for the time being a speculative crisis on sovereign debt.
All of these measures have the effect of reducing, if marginally, the financing cost of Member States in the least favorable situations.
The European Council on 23 April is invited to endorse the proposals of the finance ministers, while in some countries of the South there has been strong resistance against the use of the ESM. The question that remains open, however essential, is the financing and organisation of a recovery fund and its interaction with the Community and/or national budgets. Many countries argue that this Fund should be financed by a loan from the European Union, thus benefiting from the guarantee of all Member States. At this stage this option is rejected by the Netherlands and Germany, who would give preference to a reorientation or possibly a strengthening of the Community budget, which would necessarily mean an increase in transfers from Member States to the European budget. Opinions also differ on duration: for some, a loan-financed fund should be very limited in time, while for others it would be based on the medium-term fiscal framework 2021-27. Finally, the respective roles of the European and national budgetary authorities remain under discussion. Should the fund’s resources be allocated to specific Community programmes and therefore managed by the Commission, or should they be allocated to national budget programmes? We see that the « Grand Bargaining » is in full swing.
The appropriate solutions depend on the diagnosis that can be made about the state and prospects of our economies and the objectives that the Union and its Member States set for themselves. What can we say today knowing that we are going through a period of great uncertainty? First, the very short-term economic needs may exceed the amounts currently under discussion; in order of magnitude they may be closer to 8-10% of the Union’s GDP, almost triple the Eur 540 billion. Second, it is very unlikely that the deeply affected European economies will take off on their own, especially as the lockdown will be lifted very gradually in all European countries and the pandemic is far from being over among the Union’s trading partners. Unemployment will be very high, many companies will have large tax (and social) debts and difficulties in meeting their financial commitments with the risk of many bankruptcies. Banks will see their balance sheets weighed down by bad debts. Households and investors will be waiting and demand will not pick up quickly. The prospects for a rapid recovery are fading and it is likely to be a long and painful one. In addition, under the pretext of the crisis, pressure is being exerted to delay the green deal while it is fundamental that it remains among the highest priorities of the European Union and its Member States. Finally, the public debts of the Member States, much of which is currently being bought up by the European Central Bank, will increase sharply. If the evolution of these debts is not properly assessed and dealt with, this will jeopardize the ability of states to invest, and therefore further weaken the necessary investments in social cohesion and ecological transition.
The contours and benefits of a new European fund
In order to prevent these risks we believe that a new instrument must be set up; a ‘European Recovery and Transition Fund’, which can be mobilised over a period of five years or preferably seven years to run until the end of the period of the Medium Term Financial Framework (end of 2027) to ensure the coherence of the two instruments. The amount of this fund could be Eur 1500 billion usable in five years, or on average annually about 2% of the Gross National Income of the European Union, or up to Eur 2,000 billion if the period envisaged is seven years. The fund would be created by an intergovernmental agreement. It would be financed mainly by issuing bonds guaranteed by the European Union, over as long terms as possible (depending on what the markets can accept, but one can imagine a duration of 30 years or more). 
What would be the European Recovery and Transition Fund objectives?
The usage of the Fund is expected to be higher at the beginning of the period with a focus on local job-creating investments in compliance with environmental objectives. As the economy recovers, the Fund would increasingly support the transformation of our economies to make them:
- resistant to further shocks, epidemic or otherwise, in line with the commitments made by the European Union and Member States, in particular to achieve the objectives of the ‘Sendai Framework of Action’;
- aligned with the European carbon neutrality targets for 2050 and the cessation of biodiversity destruction, based in particular on the Member States’ National Energy and Climate Plans (NECPs) and the objectives of the European Biodiversity Strategy (the 2030 strategy should have been proposed in the first quarter but was postponed due to the health crisis);
- less dependent on global supply chains for strategic and basic goods, particularly in the health sector, as well as for energy and strategic materials.
This triple necessity is imperative not only in terms of public health and the environment, but also in economic and financial terms. Investment in the economy of the past can only lead to aggravating the future bill for huge amounts of stranded assets. The recovery must help to alleviate the inevitable consequences of the ecological transition by supporting the transformation of jobs in the regions and sectors most affected by these stranded assets, for which recent history has shown that the taxpayer is often forced to bear the losses.
What would be the benefits of this Fund and how would it work?
This fund would enable each European state to:
- benefit from borrowing conditions of the European Union for investments financed by the Fund;
- plan expenditures in their national budgets under multi-year sectoral plans (risk preparation, insulation of buildings, low-carbon transport, sustainable agriculture, energy and decarbonised industry, industrial relocation, professional training for the ecological transition, professional retraining in carbon sectors) aligned with the European strategic objectives mentioned above. To enable rapid implementation, interim plans covering the most advanced sectors would be drawn up for the first 18 months;
- show true European solidarity through investing in ‘European common goods’: we have a duty to do everything possible to keep our planet habitable and to fight together against common threats, but our exposure to risks, our budgetary situations, our industrial capabilities are different. On the other hand, we are interdependent: the deficits of some allow the surpluses of others.
The Fund would operate as follows.
- The coherence of the interim and multi-year plans with the European strategic objectives would be validated by the Fund based on the opinion of the European institutions, including the Commission and Parliament; regular implementation reports by Member States would ensure the necessary transparency on the use of funds.
- Drawing rights would be established taking into account population and per capita income and the impact of the crisis on employment and economic activities; as a % of Gross National Income, for example, the range could be between 1.5% for countries with higher per capita incomes and 3% for others.
- The share of Member States in the fund would be proportional to their Gross National Income as well as the basis for national loan repayments; the fund could eventually be replenished by a European tax that can only be used for this purpose.
Why a fund that favours national budgets?
We do not question the importance of a substantial Community budget dedicated mainly to common policies, such as the Common Agricultural Policy (CAP), major research and development programmes, the development of transnational infrastructure, border security or social cohesion policies. But here we give preference to modalities that favour national budgets. Why?
The first reason is a search for efficiency given the nature of the expenses that must be incurred. Especially in the start-up phase, which requires rapid implementation of programmes, it will be important that the use of the fund best meets the administrative needs and capabilities of countries while pursuing European strategic objectives.
The second reason is financial: the divergence of European economies is growing under the shock of the pandemic. Therefore, the allocation of funds must help to reconcile the financial constraints of states with the achievement of these objectives, which means mobilising and supplementing the financial resources of actors at national, regional and even sub-regional levels.
The third reason is macroeconomic. The availability of resources outside national constraints to finance through-the-cycle priority investments of European interest will greatly reduce uncertainty.
On the other hand, anchoring this fund to a common European framework based on « enforceable » rules is essential to gain the support of all countries. Citizens of a country that guarantees a loan have the right to be represented when the use of funds is being discussed, and to ask for compliance with the commitments made. It is legitimate for them to refuse a blank cheque. In our democracies, it is a fundamental right of our parliaments to be able to give their consent, even if it is very indirect and « only » through certain rules, to expenditures that immediately or eventually concern citizens.
It should be noted that the sooner this fund is set up, the sooner it will reduce the short-term support needs highlighted above; a stimulus package will allow businesses to regain financial capacity and encourage households to reduce their savings.
The revision of the Stability and Growth Pact and the restructuring of public debt
The establishment of this Recovery and Transition Fund will have to be accompanied by the revision of the Stability and Growth Pact, which ensures the budgetary coordination of Member States with a focus on indicators related to public debt and deficit.
Indeed, this fund will help guide and stabilize in the future public spending essential for recovery and transition. But states will still have to face the negative consequences of the shutdown on many businesses. This will increase their public debt. When the exceptional circumstances clause is deactivated, the implementation of the fiscal rules as they stand would lead to demanding from European countries a completely impossible trajectory of deleveraging towards the threshold (60% of GDP for the level of public debt).
We do not question the principle of coordination of national budgetary policies in the European Union and particularly in the Eurozone. However, the principles of this coordination will need to be adapted to the lessons learned over the past decade, to a macroeconomic environment that has changed dramatically with lower inflation and interest rates than ever before, and to priorities for ecological transition. For example, proposals to deduct certain structural expenditures, including those that could be financed by the Fund, from the deficit calculation, need to be discussed. These discussions must also concern the level of public debt set as a target. The European Budget Committee has produced a critical analysis report on EU budget rules in 2019 at the request of the European Commission. This report highlights their negative impact on public investment and stresses that the target chosen for the public debt ratio is largely arbitrary and that its uniqueness is inconsistent with the heterogeneity of countries with the euro as their currency. Before the COVID-19 crisis a began, the European Commission launched a reflection on the reform of European economic governance and the Stability and Growth Pact. This reflection is now more necessary than ever.
The treatment of public debts accumulated during the crisis will need to be addressed with particular attention. In agreement with the States that are its shareholders via the national central banks, the ECB could, in due course, proceed with a partial restructuring of the debt it has repurchased and/or its cantonment as recently suggested by the Governor of the Bank of France. This could be done in a way that relieves the accounts of countries whose public finances have been most affected by the health and economic crisis without jeopardising the Central Bank’s ability to pursue its objective of price stability. Such an operation would be all the more legitimate as it would be accompanied by increased investment in the ecological transition. Climate risks are clearly recognized by central banks as posing a systemic risk to the banking and financial system.
In order to better cope with a new crisis, which is still possible, we should also consider a treaty amendment that will allow, on the basis of an agreement between the Eurogroup and the ECB and in certain exceptional circumstances only, direct access of public treasuries to the central bank. Direct access has the great merit of limiting the use of the market for state financing, and reduces the cost of debt and any risk that this cost will increase because of speculative attacks.
The pandemic is a decisive moment for the European Union, one that could lead it to reinvent itself. Many rules and instruments will have to change under the pressure of necessity and this will be done in stages. The priority for us is the creation of a Transition and Recovery Fund, the outline of which is outlined here but whose detailed development will take time, which is why policy decisions must be taken quickly. At the same time, it is necessary to prepare for the reform of the rules on public deficits and possible intervention by the ECB.
 Created in 2012, the ESM can lend to a struggling state at lower interest rates than on the market, buy back Government bonds on the financial markets, and provide loans to recapitalise financial institutions such as banks.
 The amount was quoted by Vladis Dombrovskis, Vice-President of the CEuropean ommission. It is approximately 10% of the EU’s GDP. See for example on the website Figaro
 See Sendai Disaster Risk Reduction Framework 2015-2030, adopted at the Third UN World Conference in Sendai, Japan on 18 March 2015 And The document summarizing the action plan Commission for the Sendai framework.
 Stranded assets are assets that are being devalued as a result of the ecological transition. For example, assets in coal-fired power plants may lose their value before power plants reach the end of their life as a result of public policies aimed at decarbonizing national economies.
 With three axes: the electric car (and the accelerated construction of battery plants in Europe), the Freight rail and active mobility (including cycling there) Yes it is still underdeveloped)
 The German Constitutional Court has also imposed a consultation with the Bundestag for any ESM lending operation.
 cf P. 92 of this report
 See Breaking the tragedy of the horizon – climate change and financial stability, speech by Mark Carney (Governor of the Bank of England, Chairman of the Financial Stability Board) at Lloyd’s of London, 29 September 2015; The green swan, Central banking and financial stability in the age of climate change, Bank for International Settlements Bank of France (January 2020); see also the NGFS website (Network for Greening the Financial System) bringing together 42 central banks and financial supervisors to reflect on climate-related financial risks.
 The UK Treasury’s direct access to the Bank of England was the subject of a written and public agreement between the two institutions. It is temporary and does not call into question the norm, which is financing of the deficit through bonds. See https://www.latribune.fr/economie/international/coronavirus-la-banque-d-angleterre-va-financer-directement-les-depenses-du-royaume-uni-844793.html
 See Alain Grandjean and Nicolas Dufrene, An ecological currency, Odile Jacob, 2020.