1. FISCAL FEDERALISM, SUBSIDIARITY AND THE EU BUDGET REVIEW Iain Begg European Institute, LSE

2. WHAT THE EU SHOULD SPEND Central issue for budget review Extensively discussed in public economics –Notably fiscal federalism And in multi-level governance theory –Focus more on legitimacy concerns Yet (oddly?) absent from current debates Instead, main issues in EU budget deals are around net accounting balances

3. WHAT FF MIGHT SAY Powerful central government Government may be benevolent –But could have ‘Leviathan’ tendencies Assignment of functions –Highest level: stabilisation and distribution –Locus of allocative policies shaped by trade-off Reflecting heterogeneity of preferences Efficiency gains from centralisation Containment of benefits within boundaries Hard budget constraints Scope for tax-payer mobility Importance of aligning incentives for government

4. SOME RAMIFICATIONS Own resources –Principle of equivalence –Would imply genuine ORs, such as EU taxes –The power to tax and accountability Stabilisation –Allowing the EU to borrow –Some scope for discretionary fiscal policy Redistribution –Difficult political economy of social policy

5. MacDOUGALL REPORT 1977 Recall that it was for (homogeneous) EU- 9 Pre-federal budget of 2-2.5% of GDP Mainly for structural and redistributive policies (i.e. what we now refer to as ‘cohesion’) ‘Federal-light’ budget of 5-7% of GDP Excludes main social programmes But could be 7-10% if defence is included Distant: federal budget comparable to US 20-25% of GDP In essence, a roadmap for fiscal federalism

6. KEY PRIORITY AREAS Identified in consultation Dealing with globalisation –Competitiveness (stressed by private sector) –Also sustainable development, migration (NGOs) Countering climate change –And solving energy problems The transformation to knowledge economy Responding to security threats Reducing inequalities and disparities Addressing demographic change

7. SUBSIDIARITY TEST Application to EU budget areas Assess the net benefits of centralisation –In favour: Economies of scale; externalities Limits to system competition; implementation advantages –Against Heterogeneity of preferences Common-pool problems Scope for effective policy co-ordination Proportionality: regulatory or budgetary action

8. THE ECORYS STUDY Their subsidiarity test applied Valid, but largely predictable results Should move up to EU level Research, external action Climate change and environment Back to Member State level CAP; cohesion for richer Member States No significant change warranted Much of single market; cohesion for poorer MSs Main social and employment policies

9. … BUT CONSIDER THE TENSIONS HISTORICAL BAGGAGE COUNCIL vs COMMISSION vs PARLIAMENT PUBLIC GOODS or DISTRIBUTION WHAT YOU GAIN, I LOSE Net Balances

10. FUNDING: A SIMPLE CHOICE Two broad approaches conceivable –Inter-governmental transfers –Genuine own taxes or other resources Current system mainly the former True own resources more complex Theory, though, concentrates on transfers –With highest tier as mediator Inverted in the case of the EU –Middle-upwards, not top-down

11. ‘CORRECTIONS’: NOT EASY! ‘CORRECTIONS’: NOT EASY! Justified by political economy factors –Starting with the UK in the early 1980s –Spread to other net payers Yet little in theory to justify them Maybe club theory helps, but not much –Odd mix of policies and accounting ratios Answer may be explicit equalisation –Various conceivable formulae But, overall, unique to EU

12. THE TROUBLE WITH THE THE THEORIES AND HOW WE APPLY THEM… ‘We have been spending too much time looking down from the central Government’s layer. It is time to look up from that layer’. Vito Tanzi, 2007

13. LIMITS OF ANALYTIC WORK 1% as an over-arching constraint –Qualitatively different from other federal levels –Means a wide range of policies off-limits Defence, social protection However, EU public goods are distinctive –Calls for debate on ‘best’ EU ones Legitimacy or path dependency could justify others, despite doubtful economic logic May even, if we try very hard, justify CAP The Council as ultimate veto-player –For example in reserving taxing powers

14. CONCLUDING REMARKS The banal: EU is, unavoidably, sui generis –Corollary: standard federal model can’t cope –But role in legitimating integration still germane Much of what the EU now spends, or conceivably might, at odds with theory The myth of clearcut EU added value –EU can only undertake selective spending Difficult to establish how or on what Hence, need for hard political choices –With theory only of tangential relevance

15. WILL ANYTHING CHANGE? … Or is inaction just too tempting … 