Reform of the EU economic governance: Missing the mark on climate is not an option

The Orientations proposed by the European Commission in November 2022 to reform the EU economic governance, if not improved, risk deepening the climate crisis. While they make austerity less brutal and give more leeway for Member States to invest, they do not propose anything to ensure that this fiscal leeway will be used to tackle climate change and implement a just transition. They also miss linking the European Semester with green budgeting processes at national level, which means that fossil fuel and other environmentally harmful subsidies could continue to thrive, and even expand.

Human-induced climate change is the largest, most pervasive threat to the natural environment and human societies the world has ever experienced. Climate change is relevant to the EU economic governance: 

• By encouraging indiscriminate GDP growth to reduce the debt to GDP ratio, the European economic governance framework is promoting an economic model which is not aligned with a 1.5°C trajectory and EU climate commitments. A vague requirement that Member States align their fiscal-structural plans with their future National Energy and Climate Plans (NECPs) is utterly insufficient to ensure this will effectively drive the European economy away from fossil fuels, endless natural resources extraction and environmentally harmful technologies.

• Climate change threatens the sustainability of public finances, as such it is a source of systemic risk for the sustainability of public deficit and private and public debt. Public and private investments now in the just and green transition at scale would reduce future climate risks and their cost for the public purse. 

• Because the existing EU fiscal framework constraints public investments. While private finance has a major role to play to fill the green funding gap, public spending in climate action is needed too, especially if the green transition has to be just. A reformed framework needs to incentivize public spending in the just transition and climate action, as well as relevant reforms needed to make these investments impactful.

In addition, austerity is not over. Citizens in Europe continue to face a progressive erosion of their rights to health, housing, education, and a clean environment against a background of rising inequality and a cost of living crisis. We welcome the reference to the need to strengthen social resilience and that investments justifying an extension of the debt reduction pathway should contribute to the implementation of the European Pillar of Social Rights. But this is not sufficient to ensure that the reformed framework will support a just transition, uphold public services and investments that are future-oriented. 

Several elements in the proposed Orientations go in the right direction:

• The debt sustainability analysis (DSA) will play a key role to determine the reference adjustment path of each country, and to design the country plans. This is important as the sustainability of a debt cannot reasonably be assessed mainly on the basis of the proportion of the GDP it represents. Giving more weight to DSAs reduces the negative effects of the arbitrary 60% debt-to-GDP ratio. The 1/20 debt reduction rule is removed to avoid austerity when the general escape clause will be lifted.

• Having a single indicator to guide debt and deficit adjustment paths – the nationally-financed net primary expenditure – is a very important improvement as this indicator excludes interest payments and cyclical unemployment costs (so-called automatic stabilisers) from the calculation of the expenditure ceiling. 

• A medium-term approach replaces an annual approach. Today’s challenges require medium-term planning, which will give a more stable and predictable economic outlook to people, governments and private sector/investors. Having as a principle four-year plans, with a possible three years extension under certain conditions is a reasonable move.

• Proposing a legislative reform of the Stability and Growth Pact is welcome as it will involve the European Parliament and greater civic participation, rather than tweaking the edge of non-legislative documents like the Code of conduct. 

However, none of these positive elements are directly addressing the interlinkages between climate and fiscal policy. Altogether, the Orientations on the table are not up to the mark. Our recommendations are grouped under three objectives: Avoiding that the fiscal space translates into spending harming climate; Generating sufficient fiscal space to invest in the just and green transition; and Ensuring greater ownership and adherence to national fiscal-structural plans.