The EU Response to the Sovereign Crisis Daniel DACO Head of Unit: Program Design and Support European Commission Economic and Financial Affairs Athens, 18 April 2011

Search for a comprehensive approach Financial repair Fiscal consolidation Growth and competitiveness Vulnerable countries

Outline Outline Short-term Response : Crisis Management Financial Rescue Fiscal Consolidation Assistance to vulnerable countries Balance of Payments Assistance EFSM/ EFSF Systemic Response: Crisis Prevention and Resolution Strengthened Surveillance and the European Semester European Stability Mechanism Pact for the Euro Financial Repairs and Supervision III. Concluding remarks

I. Short-term Response: Crisis Management

Short-term Response 1. Financial Rescue European Economic Recovery plan (EERP) in coordination with national fiscal packages (Nov. 2008) Budgetary impulse of € 200bn Policy Action: smart investment, car scrapping schemes, employment policies, etc European Global Adjustment Fund (EGF) and European Social Fund (ESF) to alleviate the negative social effects of the crisis Stabilising the banking system through targeted rescues

Short-term Response 1. Financial Rescue Stabilising the banking system through targeted rescues

Short-term Response 2. Fiscal consolidation Heavy legacy of the crisis on public finances But no-consolidation scenario is unsustainable. Significant efforts needed to restore sustainable public finances Excessive Deficit Procedure (EDP) in abeyance /fine-tuned with national recovery path Gross public debt in crises episodes (% of GDP) Debt path in different scenarios (% of GDP)

Total assistance package Short-term Response 3. Assistance to vulnerable countries: BoP facility The BoP programmes (with the IMF) are producing good results with implementation of conditionality. Regained Market confidence Fiscal consolidation well underway Enough breathing room for structural reforms BoP facility Hungary Latvia 1/ Romania Total assistance package € 20 bn 7.5 EU (Art. 143) 6.5 3.1 5 IMF 12.5 1.7 12.95 Other multilaterals 1 0.5 2 Bilaterals … 2.2 bn/1 1/ Contributions by SE, DK, FI, NO, CZ, PL, EE.

I. Short-term Response 3. Assistance to vulnerable countries: Greece No financial support instrument available for EA Failures in fiscal reporting Huge fiscal imbalances + banking problems + loss competitiveness Important financing needs + high market borrowing costs Risks to financial stability for the EA as a whole Evolution of spreads:

Short-term Response 3. Assistance to vulnerable countries: Greece Pooled loans – general features – Ad hoc instrument EU legal basis Conditionality Beneficiary Mechanism Guaranteed by Duration Precautionary use IMF involvement ECB involvement Size Intergovernmental decision (May 2, 2010) Yes, programme covering 2010-13 Greece Bilateral loans from EA MS pooled by COM Direct loans, MS budget 7.5 years (extension: agreement in principle) Not applicable Yes Payment agent, liaison on program design, review, disbursement, implementation € 80bn (€ 38.4 bn disbursed) +€ 30bn (IMF: € 14.6 bn disbursed)

Short-term Response 3. Assistance to vulnerable countries Creating new financial instruments: EFSM & EFSF Temporary nature (to be replaced by a permanent mechanism in 2013) Strict policy conditionality High access Lending rates close to those of the IMF to avoid facility shopping Combined lending capacity € 500 bn Ireland and Portugal (?)

Crisis Prevention and Resolution II. Systemic Response: Crisis Prevention and Resolution

1. Strengthened Surveillance and the European Semester II. Systemic Response 1. Strengthened Surveillance and the European Semester September 2010, Commission presented six legislative proposals: preventive and corrective arms SGP, budgetary frameworks, prevention and correction of imbalances, enforcement 15 March: Ecofin Council agreed on “general approach” +- 20 April: Parliament (Econ Committee) determines its negotiating position. Four proposals in co-decision (not corrective arm and budgetary frameworks) April – June: trilogues with aim of agreement by end June 2011

II. Systemic Response 1. Strengthened Surveillance and the European Semester A strengthened Stability and Growth Pact Preventive arm : Two co-existing criteria for assessing adjustment: the structural balance as the reference, and an analysis of expenditure net of discretionary revenue measures. Corrective arm: Need for quantitative benchmark for debt reduction. Operationalisation of the debt criterion of the EDP through a numerical benchmark for sufficiently diminishing debt.

1. Strengthened Surveillance and the European Semester II. Systemic Response 1. Strengthened Surveillance and the European Semester National fiscal frameworks: basic rationale of minimum requirements EU rules necessary but not sufficient. Consistency of domestic frameworks rules with EU rules required. Defining minimum standards for domestic budgetary frameworks aims at - fostering national ownership of the EU budgetary framework, - strengthening national structures to promote budgetary discipline.

II. Systemic Response 1. Strengthened Surveillance and the European Semester A new framework to prevent and correct macro-economic imbalances Preventive dimension to avoid the build-up of imbalances : • annual review • alert mechanism based on set of indicators (risk thresholds) and expert analysis • in-depth country-specific analysis where warranted • country-specific recommendations to tackle imbalances (Art. 121(2)) 􀂾 Corrective dimension with strong enforcement mechanisms: • Member States with serious imbalances are placed in an “excessive imbalances position” • stricter surveillance on basis of more prescriptive recommendation to tackle imbalances • deadlines for taking corrective action • possible sanctions for euro-area Member States in case of repeated non-compliance (0.2% GDP channelled though EFSM/EFSF)

1. Strengthened Surveillance and the European Semester II. Systemic Response 1. Strengthened Surveillance and the European Semester Enforcement: Key innovation Preventive arm of the SGP : interest-bearing deposit in case of failure to correct significant deviation from MTO or adjustment path towards it . Corrective arm of the SGP: (i) non-interest-bearing deposit when EDP opened (Art 126.6 TFEU) in case of ‘particularly serious non-compliance’; ii) fine in case of no effective action (Art 126.8 TFEU). Reverse QMV voting: Commission recommendation for sanctions considered adopted unless Council rejects by QMV within ten days. Distribution of fines : fines channelled to EFSF/ESM (instead of non-EDP countries).

1. Strengthened Surveillance and the European Semester II. Systemic Response 1. Strengthened Surveillance and the European Semester The European Semester procedures and timelines:

II. Systemic Response 2. Permanent crisis resolution : European Stability Mechanism Objective: address liquidity crises and safeguard financial stability in the € area Nature: Treaty-based intergovernmental organisation Implementation: Macroeconomic adjustment programme (strict policy conditionality) Intergovernmental financing instrument Case-by-case private sector involvement

II. Systemic Response 2. Permanent crisis resolution : European Stability Mechanism Capital size and structure: Effective lending capacity: € 500 bn Paid-in capital; callable capital; guarantees; AAA rating Instruments: Loans Bond purchases on primary market, “as an exception” Pricing: Funding costs + risk mark-up , in line with IMF pricing also taking into account MS debt sustainability Governance: Unanimity Contribution key ESM + EFSF package submitted to national parliaments before Summer

II. Systemic Response 3. Pact for the Euro Content: - Competitiveness: wage setting, opening sheltered sectors, improving education, R&D and the business environment - Employment: flexicurity, life long learning, tax reforms - Fiscal sustainability: pension reforms, national fiscal rules - Financial stability: national legislation for banking resolution, stress tests - Tax policy coordination: structured discussion, proposal for a common corporate tax base Governance: Political leadership from heads of State, making use of and strengthening existing instruments, integrated into the European Semester. Role of Commission: “strong central role” in the monitoring of the implementation of commitments

II. Systemic Response 4. Financial repair and Supervision European System of Financial Supervision (ESFS) : European Systemic Risk Board (ESRB): macro-financial stability (Nov. 2010) European Supervisory Authorities (ESAs): new financial regulation, capital requirements (Jan. 2011) Commission will take recommendation of ESRB into account in Economic Imbalances Procedures (EIP) as it complements macro-financial monitoring Implementation of financial reforms to be continued, including a reinforcement of the regulatory and supervisory framework.

II. Systemic Response: Crisis Prevention and Resolution 4 II. Systemic Response: Crisis Prevention and Resolution 4. Financial repair and Supervision Creation of the European Banking Authority (EBA) in Jan. 2011 Regular stress tests Latest results:

III. Concluding remarks Adjustment and overcoming the crisis will take time The adjustment is progressing but has not yet convinced markets due to looming concerns Comprehensive response implemented should remove these concerns: Renewed commitments by MS to implement reforms Improvements in fiscal governance at Member State and EU levels Fixing banking sector issues (stress tests, address problems) Credible financial backstops (EFSF, pricing, ESM)

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