Euro Area Crisis: EUC Report — Motion to Take Note

Part of the debate – in the House of Lords at 6:02 pm on 21st May 2012.

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Photo of Lord Harrison Lord Harrison Chair, EU Sub Committee A - Economic and Financial Affairs 6:02 pm, 21st May 2012

My Lords, I am delighted to have the opportunity to introduce the debate on this report. Sadly, I am rather less delighted by the circumstances that required the report to be written and that make today's debate so urgent and topical. The report was a joint effort based on work undertaken by the Sub-committee on Economic and Financial Affairs, which I chair, and the main Select Committee, which was chaired by the noble Lord, Lord Roper, to whom I offer a fond farewell, and which is now chaired by the noble Lord, Lord Boswell of Aynho, to whom I extend a warm welcome. The sub-committee focused on the economic and financial aspects of the crisis, while the Select Committee focused on institutional aspects and was responsible in particular for the chapter on the proposed treaty. I thank all the witnesses who contributed to both elements of this complex inquiry.

The committee began its inquiry in October 2011 and the report was published in February 2012. Noble Lords will be well aware that the situation has become even more serious since then. One challenge that we faced, and continue to face, was the sheer speed of developments in the crisis. Even though events have moved on since our report was published, it may be useful if I briefly remind noble Lords of the political context in which the inquiry was undertaken. Many issues that we considered remain to be resolved by the EU's leaders.

On 26 October, a key EU summit-already twice delayed because of the difficulties in reaching agreement-struck a three-pillar deal that included the exploration by private-sector banks of a haircut of at least 50% to Greece, an increase in the funding available to the EFSF rescue fund to €1 trillion, and a requirement on the European banks to raise €106 billion in new capital by June this year.

However, in November the crisis escalated dramatically. Amid mounting turbulence in the financial markets, both the Greek and Italian Prime Ministers were forced to resign and were replaced by non-party political figures-the former governor of the Bank of Greece, Lucas Papademos, and the former European Commissioner, Mario Monti. After a general election there was also a change of Government in Spain, whose own bond yields were coming under intolerable strain.

So pressure grew on European leaders for a more fundamental response. The ECB complemented its programme of purchasing sovereign debt in the secondary markets with a major operation to provide long-term loans to European banks. Then, at the Brussels summit on 8 and 9 December, euro area nations agreed to a new fiscal compact that moved towards a fiscal stability union, including the adoption by national Governments of a fiscal rule to achieve balanced budgets and stronger Brussels oversight of national budgets. EU leaders agreed that some of these changes should be achieved through a treaty, but the United Kingdom Government, later joined by the Czech Republic, would not agree to amending the EU treaties. This resulted in the adoption of a separate international agreement on stability, co-ordination and governance, which I shall refer to as the fiscal compact treaty.

Our report sought to reflect on each of these serious developments. In the economic and financial context, we expressed deep concern about the extent of uncertainty that remained in the crucial area of bank recapitalisation. How would it be achieved? How would banks be prevented from reducing their debt ratios by deleveraging and hence reducing lending? How much damage would a sustained restriction on credit do to an already struggling European economy?

We also concluded that because of the risk of contagion there was an urgent need to establish a credible and well financed system of rescue funding. We acknowledged that the primary responsibility for this must lie with the euro area countries, but given the global implications we stressed that it was also necessary for the international community, including the United Kingdom, to play its part, in particular through the IMF.

Although we highlighted the need for rapid progress on the Greek debt write-down, bank recapitalisation and the construction of a firewall, we recognised that such steps were unlikely to prove sufficient on their own. We noted the unprecedented steps already taken by the ECB and found that, although we could be cautious about regarding the ECB as a panacea, additional intervention was likely to prove essential. We also urged European leaders to consider the case for the introduction of so-called euro bonds.

We concluded by considering the longer-term issues, although we recognised that long-term planning will be irrelevant if the current crisis is not overcome. We concluded that improved budgetary discipline is necessary in order to make progress in resolving the crisis, but ultimately the resumption of sustainable economic growth holds the key, both in general terms across the European Union and in facilitating attempts to resolve the serious imbalances between different countries in the euro area. The committee argued that it was of great concern that the potential of the single market to enhance economic growth had faded from view during the crisis. We suggested that the focus of policymakers now needed to turn to policies to support economic growth that could be implemented effectively during a time of budgetary austerity.

Subsequent events have shown how relevant this analysis has been as the situation has deteriorated dramatically. Once again, we find ourselves in a phase of escalation and of deep uncertainty. Noble Lords will be only too aware of the significant recent political and economic turbulence in France, Spain, Germany, Ireland, the Netherlands, and above all Greece, where a second election in a month will shortly be held. Moreover, the parties most opposed to the austerity programme are expected to make further gains.

The financial markets are in renewed turmoil, with substantial falls on major stock markets. As recent developments in Spain have demonstrated, the European banking system is coming under severe strain. Economic growth in the euro area remains anaemic and would probably have been non-existent had it not been for Germany's recent strong performance. Indeed, the contrast in economic outlook between Germany and the euro area members under most pressure, such as Spain, Portugal and Greece, grows ever more acute.

Nor is the United Kingdom immune from all this. Not only has the economy fallen back into recession, but last Wednesday the Bank of England cut its growth forecast for the current year from 1.2% to 0.8% and stressed that the biggest risk to recovery in the United Kingdom stems from the difficulties facing the euro area. The governor, Sir Mervyn King, has said, somewhat intemperately, that Europe is,

"tearing itself apart without any obvious solution".

Last week, the Prime Minister stressed the importance of the very issues that this report highlighted, saying:

"Either Europe has a committed, stable, successful eurozone with an effective firewall, well-capitalised and regulated banks, a system of fiscal burden-sharing and supportive monetary policy across the eurozone. Or we are in uncharted territory which carries huge risks for everybody", including, one must conclude, the United Kingdom. The PM should explain why, if the euro area crisis is crucial to the United Kingdom, we remain so semi-detached in our engagement with our colleagues. In the midst of such a gloomy economic picture, the election of the new French President, François Hollande, on a platform of economic growth, has heightened debate on the fiscal compact treaty and the austerity agenda that it is perceived to entail, even before it has come into force.

On the new treaty itself, the Government said that they went into the December European Council thinking that the optimum outcome would be an agreement by all 27 EU member states, with the interests of the United Kingdom, particularly in relation to the financial services sector and the single market, being protected. As we all know, the Government did not get the safeguards that they say they wanted, so they refused to join the negotiations to draw up the treaty. The committee was strongly critical in its report of the Government's failure to keep Parliament properly informed about a decision that may have huge long-term ramifications by sidestepping releasing the text of their prior negotiating position.

I hope that the Minister will be able to give the House a full account tonight of the Prime Minister's intended approach to the informal gathering of EU leaders taking place this Wednesday. I also hope that the UK's preparatory work, in building alliances with other member states, is rather more effective at this and future meetings than it was in December.

The key measures in the treaty are on budgetary discipline, and they must be translated into national law,

"through provisions of binding force and permanent character, preferably constitutional".

It should be stressed that only the euro area countries will actually be bound by the key requirements of the treaty, although it appears that other signatory countries are eager to adopt these rules.

The committee considered that the euro area states must be free to take the steps they consider necessary to defend the euro, including the key area of fiscal integration. However, the committee emphasised that matters relating to the internal market must remain the preserve of all 27 EU member states.

The speed with which the treaty was negotiated, and the fact that it is outside the EU treaty framework, has left several important questions unanswered, including its relationship with the EU treaties and the laws made under the EU treaties, and the proper role of EU institutions such as the ECB in relation to the treaties. Some of the difficulties would be resolved if the proposed treaty was integrated into the main European Union treaty framework, once the review of experience with implementation suggested in Article 16 of the fiscal compact treaty has taken place.

I note that the Government's response to the report, for which we are grateful, states that they are not opposed to the incorporation of the treaty into the main EU treaties in due course, provided that there are safeguards to protect the interests of all 27 member states. We hope that our own analysis of the treaty has been found to be valuable to other Parliaments. I was very pleased to be invited to Dublin in April to give evidence to an Oireachtas committee inquiry into the implications of the treaty in order to inform the decision to be taken by the Irish people on 31 May.

Given the speed of developments since the report was published in February, and the Government's response in April, the committee looks forward, as I am sure the whole House does, to the Minister's explanation of the Government's current position. I ask the Minister to include the following points in his reply. In our report, we noted that national Governments and EU institutions have struggled to keep up with the pace of events. I think the point may have now come when Europe's leaders have run out of road, and that hard decisions now need to be taken about whether the euro will continue to exist in its present form. I look forward to hearing from the noble Lord, Lord Sassoon, the Government's assessment of the current situation. What do the Government think is the most likely scenario for Greece?

Shortly after our report was published on 20 February, the Prime Minister and 11 other Heads of State or Government sent a letter to President Barroso and President Van Rompuy setting out an agenda for growth. The European Council at the start of March came up with some sensible conclusions about developing the single market, and at the G8 summit at the weekend there were encouraging messages on growth. My next question is: what specific progress has been made on the implementation of the growth agenda set out by the EU at the start of March? What does the Minister expect to be on the table for the June European Council to agree, and what is his assessment of the impact of the election of President Hollande?

My final question concerns the status of the fiscal compact treaty. Do the Government still think it is likely that the treaty will be ratified by 1 January 2013? What contact have the Government had with the new Government in France, and would they support further discussions about the text of the treaty?

This is a hugely important issue. I am very pleased to have introduced it. I thank Stuart Stoner and Jake Vaughan, as well as Laura Bonacorsi-Macleod, who acted as policy adviser for this important piece of work.