Beggar-Thy-Neighbors

Diverse groups are a hotbed for free riders. This chapter thus tests whether fiscal policy coordination was marred by collective action failure. The central claim of this chapter is that accusations of stability or growth free riding are not borne out by factual evidence. Using regression analysis and Qualitative Comparative Analysis, the chapter shows that despite their greater ability to free ride (given their political clout and trade links), larger and more open economies implemented larger stimulus programs. Fiscal policy is further analyzed vis-à-vis a country’s fiscal space. Results show that, by and large, member states stimulated their economies in line with their fiscal room for maneuver. These findings are contrasted with the political discourse of the time, when indictments of growth free riding were widespread. Accusations of beggar-thy-neighbor politics were rife; first-order free riding was not.

Market Discipline

Free riding is endemic. But it is not the type of first-order free riding that politicians and EU officials publicly chastised. Instead, fiscal policy coordination is burdened by a serious internal enforcement problem; that is, second-order free riding. The argument presented here is different from the usual decrying of a lack of enforcement in fiscal policy coordination, which is said to invite member states to engage in rampant fiscal free riding. This chapter contests that without internal enforcement within the EU, fiscal policy coordination has come to rely on market discipline with dire consequences for its members. The chapter demonstrates that, in contrast to fiscal rules and intergovernmental agreements, the incentives provided by market discipline shape public finances.

Fiscal Policy Coordination

This chapter sets the scene for this study by providing historical context and introducing the key aspects, processes, and players of fiscal policy coordination. In so doing it charts key developments of pre-crisis fiscal policy coordination, before turning to the creation of the European crisis agreement, the European Economic Recovery Plan (EERP), and finally the reform packages post-crisis. Despite impressions to the contrary, the procedures for fiscal policy coordination are extensive, albeit enforced and reinforced with little political and legal power. Although there is persistent continuity for some ideas and procedures—the Stability and Growth Pact (SGP) and its fear of stability free riding chief among them—new innovations and reforms have made inroads.

Introduction

The economic and financial fallout of the Great Recession upended the belief that advanced economies enjoyed some kind of superior inoculation against deep crises. It presented EU states with the unanticipated and unprecedented challenge of coordinating fiscal crisis responses. The EU crisis framework laid out in the European Economic Recovery Plan (EERP) represented an attempt to coordinate not fiscal constraint but, for the first time, fiscal expansion. This chapter places this study within two intertwined crises, the international economic and financial crises and the European Debt Crisis, before going on to present the main empirical puzzle and research questions of the book.

Policy Needs Politics

This chapter sets out to examine the determinants of fiscal policy outcomes during the Great Recession. EU members form a diverse union. What are the implications of economic and political diversity for public finances and by implication for collective action? To answer this question, this chapter analyzes time-series cross-sectional, country-level data from the twenty-seven EU member states over a three-year period (2008–10). The empirical analysis asserts that the deficit bias attributed to contemporary public finances was stronger during the Great Recession. Political factors (amongst them partisanship, the electoral calendar, and the strength of government) have shaped public finances markedly.

Free Riding Beyond Hard Times

Looking ahead, the legacy of the crisis years shapes fiscal policy coordination. The two main aspects of change considered in this chapter are purview and pliancy. First, fiscal policy has ceased to be defined in narrow ‘low-deficit’ targets and instead is set to encompass a twin notion of free riding: growth free riding and stability free riding. Second, fiscal policy coordination has become more flexible and as a result more adaptive to the challenges of sound public finances in the twenty-first century. While the institutional architecture for collective action has been strengthened, there is little reason to be optimistic as to the containment of endemic second-order free riding. Member states, this chapter argues, are continuing to rely on market discipline as the erratic enforcer of rules they are unable to bring to bear amongst themselves.

Exit Stimulus

This chapter considers the determinants of fiscal policy outcomes during the Consolidation Years 2011–14. It disagrees with the claim that Europe is under the spell of an austerity illusion. Echoing Chapter 5, it finds that member states’ fiscal consolidation was by and large in line with domestic fiscal space. Proponents of fiscal rules would credit the strictures of the Stability and Growth Pact (SGP) or newly created debt brakes for bringing about consolidation. Yet there is no convincing evidence that these rules mattered for fiscal policy outcomes. Instead, financial market pressure mattered—this holds for the Stimulus Years and Consolidation Years alike. Market discipline is not felt equally across the EU. A prominent emerging fault line runs between program countries and those who fear the threat of market panic on the one hand, and credit countries who remain largely insulated from the vagaries of international capital markets on the other.

Discretion Rather Than Rules

Solutions to free riding, whether stability or growth free riding, are thought to be found in the provision of incentives. Yet the empirical findings of this chapter suggest that domestic fiscal rules, such as debt brakes, did not impact on the fiscal policy responses to the Great Recession. Similarly, EU-level agreements (the Stability and Growth Pact (SGP) and the newly created European Economic Recovery Plan (EERP)) did not impact on fiscal policy choices. First, the majority of domestic fiscal rules were equipped with exceptionality clauses. As a result, they did not impose stern constraints on fiscal policy in hard times. Second, the EERP and SGP were meaningless for fiscal policy outcomes; member states adopted stimulus programs as they saw fit with little concern for EU-level agreements or EU-wide aims for stability and growth.

Theorizing Fiscal Policy Coordination

Fiscal policy coordination is marred by a classic collective action problem; it pays to be egoistical. Member states have an incentive to under- or over-stimulate their economies (what this chapter terms growth and stability free riding), despite a common interest in coordinated policies. Building on Mancur Olson’s premise on collective action failure, the chapter develops three research questions that guide the empirical investigation. These relate to the group latency of EU membership, the evidence for collective action, and finally the provision of incentives to keep free riding at bay. The theme running through this chapter is that the interdependence of EU economies requires cooperative solutions to common problems.