Tug of War over Financial Assistance: Which Way Forward for Eurozone Stability Mechanisms?

Abstract

This article analyses the development of financial assistance in the Eurozone since 2010. It argues that reforms to instruments and bodies, notably the European Financial Stability Facility, the European Stability Mechanism, and the current Covid-19 recovery fund, are best explained by a re-occurring pattern of negotiations between potential creditors and debtors based on common Eurozone interests and national cost-benefit considerations. Building on a liberal intergovernmentalist approach, this article shows how this pattern influenced the step-by-step reform of financial assistance in the Eurozone. The threat to Eurozone stability served as a constant factor encouraging member states to expand and deepen the assistance formula. Creditors’ cost-benefit considerations were key for retaining disincentives, a limited liability for common debt, and intermediary borrowing and lending within the financing design. However, on the back of common Eurozone interests, debtors were able to push for an increase in assistance, an expansion of assistance into areas of banking sector support, and a softening of moral hazard elements in the more recent Covid-19 pandemic. Due to creditors’ continuous insistence on safeguards and limited burden-sharing, reform outcomes were repeatedly unable to resolve the difficulties at hand.

Shocks and Time: The Development of the European Financial Assistance Regime

“…A critical juncture opened in March 2020 when the European Council requested the Eurogroup to present proposals for economic recovery (EU Council, 2020b). In an immediate first response, the preferences of countries converged in significantly easing conditionality for loans, which redirected the procedural element of conditionality from austerity to expansionary ex-ante conditions related to increased Covid-19 expenditure (Appendix Table S2; Rehm, 2021). For the EA, the ESM was to provide €240 billion in loans.…”

“…The establishment of EA support outside of the EU via the EFSF was a novel element in terms of legal cohesion in the assistance regime (see Verdun, 2015; Rehm, 2021), and paved the way for the establishment of the EFSF's successor, the European Stability Mechanism (ESM), as an intergovernmental institution outside of the EU legal framework in 2012. The punctuated change is, however, not the innovative legal construct of the new instrument, but the legitimation of EA assistance.…”

“…In May 2020, the German government joined France, with the support of many EA countries, to propose a grant-based recovery fund for the EU, showing that one of the strongest advocates of assistance via loans and strict conditionality had realized that the current financing design was functionally impeded in the changing context, and that the interests of safeguarding economic prosperity was also dependent on the economic stability of partners (Howarth and Schild, 2021). Governments of the so-called frugal countries opposed grants, but after four days of negotiations about the loan/grant ratio, the amount and the apportionment of assistance, they accepted a solution for the recovery and resilience facility (RRF) (Rehm, 2021). The RRF was equipped with €360 billion in loans and €312.5 billion in grants.…”