Economy: New EU deal after summit; China to tackle trade imbalance

Updated On: Dec 12, 2011

European Union leaders have agreed to draft a new pact for deeper integration and economic governance in the eurozone. The deal was reached after a summit between December 8 and 9 in Brussels. But the agreement will not be a full revision of the EU treaty, because the United Kingdom objected.

In other economic news, Chinese President Hu Jintao says China will further open its economy and "actively expand imports", reducing its trade imbalance with other countries. He made the remarks at a forum marking the 10th anniversary of China joining the World Trade Organization.

Outcome of EU Summit

The planned pact agreed on at the EU summit will be an "intergovernmental agreement" among a subset of countries.

A full treaty revision of the EU treaty would have required unanimity across the 27-member union. But UK Prime Minister David Cameron refused to sign any deal which might harm his country's interests. The United Kingdom does not use the joint euro currency.

The move has caused political backlash both in Britain and in Europe, with critics saying Mr. Cameron has isolated his country from the majority of the bloc and renewed questions about the future of the UK's relationship with Europe.

Mr. Cameron has defended his decision before the UK's parliament, saying he "genuinely looked to reach an agreement". Mr. Cameron said it was possible to be a full, committed and influential member of the EU, but to stay out of arrangements where they do not protect British interests.

But French President Nicolas Sarkozy told the Le Monde newspaper that there are now "two Europes" after the events of the summit.

That said, the UK's objection may be a blessing in disguise, because a full rewrite of the EU treaty could have taken years. Ireland and the Czech Republic also signalled they would have difficulty ratifying the changes.

However, even the more limited pact agreed by eurozone countries will take some time to establish. 

Penalties, Balanced Budgets, Bailout Money

Under the agreed-upon deal, eurozone members who run outsize government deficits will face automatic penalties. Europe already has existing limits of 3 percent of gross domestic product for annual borrowing and 60 percent of GDP for total public debt. But currently penalties for breaking these rules are only imposed only if countries vote for them.

In 2003, France and Germany each broke the deficit ceiling - and then each voted against condemning the other, killing enforcement efforts.

Under the new deal, these limits will be more strongly enforced - though the details of these automatic sanctions are yet to be decided.

The agreement also tells countries to write a “golden rule” into their basic national law, requiring balanced budgets. Structural deficits (the chronic shortfall that exists even when an economy is running at full potential), are not to exceed 0.5 percent of GDP, after adjusting for the business cycle.

Countries will be required to submit their national budgets to the European Commission, which will have the power to request that they be revised.

However some analysts have questioned these constraints, calling the limits too severe and unlikely to stick, law or no law.

In the current emergency, EU governments increased domestic spending and deficits. Even Germany ran a structural deficit  of more than 3 percent of GDP last year. This would have broken the golden rule. In a financial emergency, governments also sometimes have to take others’ debts onto their books, as Ireland had to do last year when it was forced to bail out its banks.

At last week's summit, EU leaders also agreed to lend up to 200 billion euros to the International Monetary Fund and to bring forward the permanent rescue fund European Stability Mechanism (ESM) by a year to mid-2012.

Those steps, together with a leveraged European Financial Stability Facility (EFSF), the existing bailout fund, are intended to help boost help for troubled eurozone countries like Greece, Italy and Spain.

Report: Europe's Leaders Wait On Investors [Wall Street Journal, 12 Dec 2011]

Uncertainties Remain

According to an editorial published by Bloomberg, the December 8-9 EU summit asked the wrong questions - and then failed to answer even those.

In concentrating on long-term fiscal issues, EU leaders mostly ignored the crisis around them. The lending capacity of the EU’s bailout fund was not increased, as some leaders had wanted. The subject will apparently be discussed at the next summit in March. A proposal for jointly underwritten euro bonds was likewise left for another time.

Markets are hoping that the fiscal pact reached at the summit will give the European Central Bank cover to step up its bond-buying. But first indications are discouraging.

The ECB welcomed the deal but gave no hint that it was prepared—as investors had hoped—to undertake massive purchases of euro-zone debt to prop up the region's bond markets.

Analysis: Europe’s Fiscal Pact May Solve Next Crisis, Not This One: View [Bloomberg, 12 Dec 2011]

Although last week's EU summit may have went a long way towards forging the closer economic ties needed to prevent future debt crises, markets may judge it as too little and too late to solve the current one. The current measures may not calm investors for long.

While German Chancellor Angela Merkel said she didn't expect leaders would meet again before Christmas, a senior EU official said he thought market pressure would compel them to meet sooner rather than later.

Leaders have pledged to bring forward the creation of a permanent rescue fund by a year to mid-2012. But it is still months until the new ESM comes into force, and in the meantime few international investors are keen to put money into the existing EFSF. Combined with the threat of a Standard and Poor's rating downgrade hanging over euro states and the EFSF's credit worthiness, available funds could well fall short of needs again.

S&P has said it will complete a review of European ratings soon after the summit.  

Finally, many of the summit's decisions still need to be approved in national capitals, something that has proved a challenge in the past for leaders returning home from talks in Brussels. Such uncertainties include the plan to push forward the ESM, writing the new fiscal rules into national law and details on how to fork out up to 200 billion euros for the IMF to boost its crisis-fighting arsenal.

Analysis: EU summit may not calm investors for long [Reuters, 11 Dec 2011]

The UK and Europe

Back in Britain, UK Deputy Prime Minister Nick Clegg says PM David Cameron's veto of EU treaty changes was "bad for Britain" and could leave it "isolated and marginalised".

But he blamed French and German "intransigence" and pressure from Eurosceptic Conservatives for putting the PM in "a very difficult position".

"I don't think that's good for jobs, in the City or elsewhere, I don't think it's good for growth or for families up and down the country," Mr. Clegg told the BBC.

He said he would now be doing "everything I can to ensure this setback does not become a permanent divide".

Mr. Clegg leads the Liberal Democrats, the junior partner in Britain's ruling coalition. Mr. Clegg is far more pro-European than his Conservative coalition colleagues.

At the EU summit, Mr. Cameron said he would only sign an EU-wide treaty if Britain gained certain provisions - "safeguards" from Europe on protection of the single market and the UK's financial services industry. But French President Nicolas Sarkozy said the demands were "unacceptable".

Report: Nick Clegg warns European veto 'bad for Britain' [BBC, 11 Dec 2011]

Q&A: David Cameron and the EU summit on the eurozone [BBC, 11 Dec 2011]

China to Tackle Trade Imbalance

Over in China, President Hu Jintao says doesn’t “intentionally” chase a trade surplus and that it aims to strengthen cooperation with trading partners to reduce imbalances.

China will open agricultural, services and cultural industries and place more emphasis on offering equal market access to all types of businesses, Mr. Hu said.

He was speaking at a forum to mark the 10th anniversary of China's entry into the World Trade Organisation.

Mr. Hu also repeated a call for developed nations to ease controls on high-technology exports and for “relevant countries” to recognize China’s status as a market economy as soon as possible.

Speaking at the same event, WTO Director-General Pascal Lamy called on China to play a more “proactive” role to help tackle a worsening global economic crisis.

China should increase domestic consumption to rebalance its development mode, said Otaviano Canuto, Vice President of the World Bank. Naoyuki Shinohara, Deputy Managing Director at the International Monetary Fund, said China should raise wages, reform its financial industry and continue to improve its exchange-rate mechanism.

Report: China Committed to Open Up Economy: Hu [Bloomberg, 11 Dec 2011]

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