The EU wrestles with Covid-19 recovery

The European Union has been benefiting from the retreat of the virus and from the pick-up in business activity after the lockdowns.

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  1. Charles Stanley

Germany seemed to sail serenely through the pandemic with low infection rates and plenty of health capacity, escaping the outbreak less damaged than Italy or Spain. Recent reports of a sudden and substantial increase in the transmission and infection rates are worrying. We are told these are a series of local problems which can be tackled by a very tough quarantine regime on the people immediately involved.

The danger is that the ill people met others from more distant locations, leading to further spread. German police are active in making sure that, once people have been tested positive, they cannot leave their homes.

There has also been bad news for German business. Germany has prospered with a traditional industrial economy turning out successful cars and other engineered items. The economy has been less good at contributing to the digital revolution. The absence of many large modern economy businesses probably added to the protective German enthusiasm for Wirecard, an automated payments system provider. This company claimed great growth and profits, with shares valued accordingly. The discovery of accounting irregularities and missing money has added to the sudden shift in mood about German prospects.

Bump-starting Germany

The government of Angela Merkel is trying to restart the economy after the lockdowns, offering VAT cuts to get people buying more. The standard rate of VAT will be reduced to 16% from 19% for the second half of this year. There will be issues with how much of this is passed on to consumers and whether it will simply change the timing rather than the overall volume of purchases.

Meanwhile, Mrs Merkel and Ursula Von der Leyen, the German who runs the European Commission, are also busy trying to wean customers off the traditional petrol and diesel vehicles that Germans have been so good at making. It is an unusual way to promote growth to seek to remove a whole generation of popular products before the customer base is ready in large numbers to buy the government-recommended alternative. The German industry is still living through the longer-term claims and legal consequences from allegations about vehicle emissions standards.

Last week, the Franco-German proposal for an European Union (EU) Recovery Fund was discussed in the video European Council based on a reworked EU Commission draft. It received a poor reception, with Austria, the Netherlands, Sweden and Denmark against the idea of the EU as a whole borrowing in order to award grants to member states in need. The proposal has already been slowed and made more bureaucratic by the legal framework of the Union.

Assistance delayed

In its latest guise, the EU would borrow €750bn between 2021 and 2024, disbursing it with one third as loans and two thirds as grants. It means it cannot help EU countries recover over the next nine months when they have most need of assistance. The rate of support next year is unclear, as is the way in which the extra cash would be distributed between the 27 countries involved.

At issue remains the fundamental question of whether the EU should begin the path to become a transfer union, where the richer surplus countries give money to the poorer deficit countries to help them. Polling in the four countries currently objecting shows large majorities against accepting the need to give tax revenues away to other parts of the EU. The four states could continue to dig in against this idea as it requires unanimity.

The EU will return to this question next month, when maybe the Commission will dilute it a bit more to try to get some agreement. The principle is a vital one to the future of the Euro. It is unlikely to succeed unless it is watered down and presented in a very nuanced and limited fashion. They also need to conclude the parallel negotiations over the seven-year budget figures starting in 2021.

A total of €750bn of grants spent this year on recovery would make a difference. €750bn spent over a period of years from the middle of 2021 is not much more than an increased EU budget. It will not make a lot of difference to output. If the EU does establish the principle that rich states will subsidise poorer states that do help the longer-term stability of the currency.

German challenges

Meanwhile, the EU is having to come to grips with the reality that even the very successful motor of the EU economy, Germany, is wrestling with a series of economic problems. The big success of the German vehicle industry is being challenged by the demands to go electric in a hurry.

The digital revolution sweeps on largely bypassing continental enterprises. It remains an American led revolution with China the major challenger. In a recent EU-China video summit, the mood was less friendly. Reluctantly, the EU is moving to a position of recognising it needs to throw in its technology future with the US, not with the Chinese. Hard choices lie ahead as Wirecard shows Germany is not in good digital shape.

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