Europe's Captains Mull a Course for the Continent

8 MINS READJan 31, 2018 | 09:30 GMT
Germany's Social Democratic Party leader Martin Schulz, left; Chancellor Angela Merkel, who leads the conservative Christian Democratic Union; and Horst Seehofer, leader of the CDU's sister party, the Christian Social Union.

Germany's Social Democratic Party leader Martin Schulz, left; Chancellor Angela Merkel, who leads the Christian Democratic Union; and Horst Seehofer, leader of the CDU's sister party, the Christian Social Union. France's drive to reform the eurozone could lose momentum if EU negotiations are repeatedly postponed by Germany's attempt to forge a coalition government.

  • France and Germany hold different views regarding the best way to reform the eurozone and negotiate changes with the rest of the member states.
  • Measures that stipulate higher spending at the European Union level stand a better chance of approval than measures that call for greater financial risk-sharing.
  • Paris and Berlin are likely to appease northern Europe by adopting a gradual approach in which the European Union introduces reforms that tie in with specific benchmarks.

Europe's largest economy went to the polls months ago, but only now does Germany appear to be ready to sail forward. Chancellor Angela Merkel's Christian Democratic Union (CDU) and its Bavarian sister party, the Christian Social Union (CSU), have sat down with the center-left Social Democratic Party (SPD) to produce a "grand coalition" by March. While the negotiations will mostly focus on domestic issues such as taxes, welfare spending and asylum policies, a host of critical issues related to the European Union is already piling up in Merkel's inbox. Berlin's northern and southern partners — particularly France — are pushing and pulling the Continent's preeminent economy over issues such as eurozone reform and the next multiyear budget for the European Union, and the pressure is only likely to increase after the new government officially takes office.

Germany's incoming government will come under pressure from a French administration that is eager to move ahead with reforms in the eurozone. Paris has proposed the creation of a separate budget for the eurozone to finance investment projects in the currency area, the implementation of a common deposit guarantee for eurozone banks and the introduction of common rules regarding the calculation and collection of taxes in the eurozone. While Germany's leaders have been otherwise busy at hammering out a coalition government, their French counterparts have been touring the European Union to promote their views. France's enthusiasm for eurozone reform is based on several factors. After defeating his euroskeptic rivals in last spring's French presidential election, an emboldened Emmanuel Macron is pushing to reform the eurozone according to his views. With the wind once again in the sails of the French economy, Paris now enjoys a more comfortable position to negotiate with Berlin on more equal terms. Macron will further seek to benefit from the pressure the Europhile SPD will exert on Merkel to deepen the process of eurozone integration.

But France's strategy faces limits as well. Because the negotiations to form a German government will last several weeks, there is little that Merkel can promise at present. Also, France's drive to reform the eurozone could lose momentum if official negotiations at the EU level are repeatedly postponed because of Germany's uncertain domestic political situation. Berlin's northern peers are also leaning on Germany to resist France's push for higher spending and greater risk-sharing in the union. During a meeting with Merkel, Austrian Chancellor Sebastian Kurz said Vienna supported Berlin on issues such as protecting Europe's borders and fighting terrorism but was skeptical about deepening eurozone integration. The Dutch government has expressed similar skepticism about Macron's plans.

The Quest for Consensus

On Jan. 18, French Finance Minister Bruno Le Maire and his German counterpart, Peter Altmaier, announced that Paris and Berlin were seeking to reach a common position on at least three issues by June. The first is the introduction of a common set of rules to calculate the taxable profits of companies operating in EU countries. A Franco-German agreement on the issue should not be particularly problematic because both countries wish to close legal loopholes that permit companies, especially in the digital sector, to pay few taxes in the eurozone countries in which they operate. Paris and Berlin, however, could encounter difficulties in persuading others, as countries like Hungary and Ireland have opposed the idea out of fear that the introduction of a common tax base could open the door to the eventual establishment of a minimum corporate tax in the eurozone.

The other two targets for Le Maire and Altmaier include the full integration of Europe's fragmented capital markets and the introduction of a common deposit guarantee for eurozone banks. But Paris and Berlin are likely to encounter problems in attaining these goals, as they will necessitate greater financial risk-sharing among eurozone member states. German officials have repeatedly demanded the reduction of risk in the eurozone before the sharing of any financial hazards, arguing that the financial sectors in countries such as Italy are too fragile to permit greater risk-sharing. As a result, officials likely will water down the plans and introduce them gradually so that benchmarks to boost member states' financial sectors accompany every step of the process.

Nonperforming loans in the European Union

Notably, the Franco-German list of priorities does not include the creation of a separate budget for the eurozone (a French idea) or the creation of a European Monetary Fund (a German proposal). This does not mean, however, that Paris and Berlin have abandoned these goals. French officials insist that Paris still wishes to establish a budget for the eurozone, while Germany continues to defend the creation of a European Monetary Fund to increase the eurozone's resiliency to financial crises and reduce dependency on external institutions such as the International Monetary Fund. Instead, the three-part list suggests the two countries are directing their efforts toward accomplishing previous, unsuccessful plans rather than pursuing new proposals.

But even if France and Germany agree on the necessary reforms, they differ on the method for negotiating the measures. According to Paris, France and Germany should first agree on any large changes in the eurozone before soliciting the views of Italy and Spain — only after the zone's four largest economies have reached an agreement would the quartet invite the remaining 15 members of the currency area to the table. From France's perspective, an agreement among the biggest members of the eurozone is likely to pressure smaller economies to follow suit. Germany, on the contrary, believes that the broadest possible consensus is necessary at the outset on the grounds that Paris' elitism could create additional friction among members. In fact, the Netherlands issued a warning to France and Germany last week during a meeting with Nordic and Baltic countries, declaring that the two countries cannot negotiate eurozone reform alone. Germany's northern partners fear that the combination of French pressure and domestic political compromises could lead Berlin to accept policies that hurt the interests of northern Europe.

Money Talks

Eurozone reform, however, is not the only controversial issue in the European Union awaiting Germany's attention. The bloc's multiannual budget expires at the end of 2020, and member states must approve a new plan to enter force in 2021. Because this will be the first EU budget without contributions from the United Kingdom (the country gave roughly 10 billion euros a year), members will have to decide whether to find additional funds to overcome the country's departure or seek a smaller budget. Ahead of the European Commission's presentation of proposals for a post-Brexit EU budget in May, some EU officials have said they want member states to increase their national contributions to the common budget and introduce new taxes that the commission would collect directly.

The European Union budget

But many net contributors to the EU budget, such as the Netherlands, Austria, Denmark, Sweden and Finland, already have expressed their opposition to an increase in their national contributions — a stance that again traps Germany in the middle. The SPD pressured the CDU and CSU to include a promise to increase Germany's national contribution to the EU budget in their draft coalition agreement, but the document does not mention any specific figures. As a result, the issue of EU funding could foment discord between Germany's governing parties.

Germany faces an additional problem as well: Even if Berlin agrees to increase its own contributions to the EU budget, it may not persuade its northern peers to follow suit. All EU member states are expected to contribute the same percentage of their gross national incomes to the common budget, but if northern EU members oppose an increase in national contributions, Germany would have to decide whether it wishes to unilaterally increase is own participation — a move that could fuel rising euroskeptic opposition in the country. Regardless, budget disputes are likely to dominate the union's agenda over the next two years.

Bridging Europe's North-South Divide

In general, eurozone members are split into two blocs on eurozone reform. Southern eurozone countries typically support plans to increase spending, protect their economies from non-EU competition and share financial risk within the currency area. Northern countries, in contrast, largely back plans to decrease red tape in the bloc, lift barriers to trade and investment, and introduce measures to reduce financial risk while increasing oversight of their southern neighbors' fiscal policies. France and Germany tend to represent the southern and northern blocs, respectively, although these roles are not always clear-cut.

While these disputes have shaped EU discussions for decades, some novel twists will mark the next episode in the great north-south debate. Germany is under pressure from an unusually confident France, while the Europhile SPD is actively supporting Paris in the introduction of comprehensive eurozone reforms. German politicians will continue to protect their country's national wealth, but they may be more willing to compromise with France than in the past. At the same time, Germany's northern peers are growing increasingly restless about the prospect of a more flexible government in Berlin.

Because of these conflicting interests, measures that necessitate more spending and additional fiscal coordination are more likely to gain approval than reforms designed to spread around financial risk. Moreover, the gradual introduction of reforms that are undergirded by benchmarks to allay the concerns of northern members appears far more likely than the implementation of immediate reforms. Ultimately, the European Union is a big tent, and the likelihood that other medium-size eurozone economies will also demand a say in drafting the key financial proposals suggests that — as ever — continued discussion will serve to water down some of the most contentious reforms.

Article Search

Copyright © Stratfor Enterprises, LLC. All rights reserved.

Stratfor Worldview


To empower members to confidently understand and navigate a continuously changing and complex global environment.