COMMISSION STAFF WORKING DOCUMENT IMPACT ASSESSMENT Accompanying the document Proposal for a Regulation of the European Parliament and of the Council on the establishment of a European Investment Stabilisation Function
Date: 2018-05-31
Institutions: Directorate-General for Economic and Financial Affairs, European Commission
Subjects: EU aid, EU investment, Euro Group (euro area), coordination of EMU policies, economic and social cohesion, economic stabilisation, financial aid, public finance, public investment

EN 

  EN 

   EUROPEAN COMMISSION  Brussels, 31.5.2018  SWD(2018) 297 final  COMMISSION STAFF WORKING DOCUMENT  IMPACT ASSESSMENT  Accompanying the document Proposal for a Regulation of the European Parliament and of the Council on the establishment of a European Investment Stabilisation Function {COM(2018) 387 final} - {SEC(2018) 277 final} - {SWD(2018) 298 final}  
 
 
Table of contents 

1. 

INTRODUCTION: POLITICAL AND LEGAL CONTEXT ..................................... 3 

2.  PROBLEM DEFINITION .......................................................................................... 5 

2.1.  Business cycles in the EA/EU ........................................................................... 6 
2.2.  Fiscal developments and implications for public investments .......................... 9 
2.3.  Other instruments and policies ........................................................................ 13 
2.4.  Conclusion on problem definition ................................................................... 16 

3.  WHY SHOULD THE EU ACT? .............................................................................. 17 

3.1.  Existing lines of defence ................................................................................. 17 
3.2.  The need for economic stabilisation at the European level ............................. 18 
3.3.  Stakeholders’ views ......................................................................................... 21 
3.4.  Legal basis ....................................................................................................... 23 

4.  OBJECTIVES: WHAT IS TO BE ACHIEVED? ..................................................... 23 

4.1.  General objectives ........................................................................................... 23 
4.2.  Specific objectives ........................................................................................... 24 

5.  WHAT ARE THE AVAILABLE POLICY OPTIONS? .......................................... 25 

5.1.  What is the baseline from which options are assessed? .................................. 26 
5.2.  Description of the policy options .................................................................... 28 

6. 

IMPACT EVALUATION OF THE OPTIONS ........................................................ 33 

6.1.  Selection of the activation trigger .................................................................... 34 
6.1.1.  Choice of trigger variable ........................................................................... 34 

6.1.2.  Choice of trigger design and parametrisation ............................................. 36 

6.1.3.  The total support envelope for option 2 ..................................................... 40 

6.1.4.  A modulated amount of loans can provide larger and more targeted support ...... 43 

6.1.5. 

Simulation of past functioning ................................................................... 45 

6.1.6.  The financial calibration of the insurance mechanism ............................... 46 

6.2.  Stabilisation impact ......................................................................................... 48 
6.2.1.  Main qualitative impact .............................................................................. 48 

6.2.2.  Quantitative estimates of the stabilisation impact ...................................... 50 

6.2.3. 

Stabilisation impact of a euro area budget ................................................. 52 

6.3.  Cross-country neutrality .................................................................................. 53 
6.4.  Environmental and social impact .................................................................... 56 
6.5.  Conclusions, preferred option and implementation plan ................................. 57 
Implementation plan ................................................................................... 59 
6.5.1. 

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7.  HOW  WILL  ACTUAL 

IMPACTS  BE  MONITORED  AND 

EVALUATED? ......................................................................................................... 60 

7.1.1.  Macroeconomic impact .............................................................................. 61 

7.1.2.  Use of funds ................................................................................................ 62 

7.1.3.  Quality of public investment management ................................................. 62 

Annex 1: Procedural information .......................................................................... 65 

Annex 2: Stakeholder consultation ........................................................................ 69 

Annex 3: Analytical methods ................................................................................ 72 

Annex 4: References.............................................................................................. 73 

Annex 5: Glossary and acronyms .......................................................................... 79 

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1. 

INTRODUCTION: POLITICAL AND LEGAL CONTEXT 

On  2  May  2018,  the  European  Commission  adopted  its  proposals  for  a  new 
Multiannual Financial Framework (MFF) for 2021-2027. Under these proposals1, the 
European  Investment  Stabilisation  Function  will  have  an  overall  ceiling  for  lending 
backed by the EU budget of EUR 30bn over this period. This impact assessment report 
reflects  the  decisions  of  the  MFF  proposals  and  focuses  on  the  changes  and  policy 
choices which are specific to this instrument. 

The financial turbulence and severe economic downturn of the late 2000s and early 
2010s  stress-tested  the  foundations  of  the  euro  and  the  EU.  While  important 
governance  changes  have  been  undertaken  in  response,  the  euro  architecture  remains  a 
vulnerable  construction.  Policy  leaders  at  the  national  and  the  European  level  are 
therefore engaged in a discussion to learn the lessons of the past years and further bolster 
the  resilience  of  the  zone.2  One  focal  point  of  that  debate  is  the  appropriate  euro  area 
fiscal  framework  and  in  particular  the  adequate  arrangements  for  providing  fiscal 
stabilisation.  

The  topic  of  a  common  stabilisation  function  to  underpin  the  single  currency  has 
garnered  much  attention  over  the  years  and  decades.  Over  40  years  ago  the  Mac 
Dougall  report  (European  Commission,  1977)  already  emphasised  the  desirability  to 
accompany  the  creation  of  a  single  European  currency  with  a  common  budget  of 
meaningful size. As of today the euro area remains an area with a centralised monetary 
authority and a plurality of national fiscal actors. Developments since the inception of the 
euro have however shed a new light on this discussion. Indeed, the events unfolding as 
part of the euro area sovereign debt crisis in the early 2010s have pointed out the limited 
resilience of the euro area to macroeconomic shocks, thereby renewing interest for such 
an instrument.  

At  present,  there  is  a  lively  debate  on  the  need  and  form  that  could  take  such  a 
stabilisation function. Some Member States positively support further fiscal integration 
as a crucial component of EMU deepening. The case for ambitious fiscal integration, in 
the form of a euro area budget that would notably provide stabilisation, has been made by 
the French President. The national ministries of economy or finance from Italy and Spain 
have  issued  papers  lining  out  proposals  for  specific  funds  providing  macroeconomic 
stabilisation. However, doubts have also been raised in other constituencies on the value 

1 https://ec.europa.eu/commission/priorities/democratic-change/future-europe/eu-budget-future_en  
2  6  December  Package.  Commission  Communication  on  “Further  steps  towards  completing  Europe's 
economic  and  monetary  union:  a  roadmap”  -  COM(2017)  821:  http://eur-lex.europa.eu/legal-
content/EN/TXT/PDF/?uri=CELEX:52017DC0821&from=EN ; 
White  paper  on  the  future  of  Europe  -  COM(2017)2025:  https://ec.europa.eu/commission/sites/beta-
political/files/white_paper_on_the_future_of_europe_en.pdf  
Five Presidents’ Report: Completing Europe's Economic and Monetary Union: 
https://ec.europa.eu/commission/sites/beta-political/files/5-presidents-report_en.pdf 

3 

 
 
                                                            
added  and  risks  from  a  common  stabilisation  instrument.  The  Prime  Minister  of  the 
Netherlands has been explicitly sceptical in a recent speech. Some Member States appear 
open to further discussions without necessarily being supportive. The coalition agreement 
underpinning  the  current  German  government  mentions  a  future  investment  budget  for 
the euro area that could also provide stabilisation.  

While registering this spectrum of views, the Commission has actively contributed 
to  this  discussion.  The  Commission  has  made  the  case  for  a  stabilisation  instrument 
while  laying  out  important  guiding  principles,  e.g.  in  its  Communication  on  "new 
budgetary  instruments  for  a  stable  euro  area  within  the  Union  framework"  from  6 
December  2017  and  the  Reflection  Paper  on  the  deepening  of  the  Economic  and 
Monetary  Union.3  Taking  note  of  the  diversity  of  views,  the  Commission  has  set  out 
different options and approaches were presented, thereby nourishing the discussion. The 
introduction of a stabilisation function is also seen as part of a wider drive to modernise 
the  EU  budget  and  maximise  its  impact.  To  this  end,  the  6  December  Communication 
proposed four new instruments: 1.) A new way to support national reforms identified in 
the European Semester, 2.) a dedicated convergence facility for Member States on their 
way to joining the euro, 3.) key features of a backstop for the banking union, and 4.) the 
roll-out  of  a  stabilisation  function,  which  is  the  focus  of  this  impact  assessment.  The 
stabilisation function would tackle a vulnerability in the EMU architecture, which is why 
access would be especially desirable for euro area Member States. 

This  Impact  Assessment  describes  the  current  gaps  in  the  euro  area's  capacity  to 
respond to shocks and discusses different policy options and the impact of possible 
EU action. This document explains why and to which extent the euro area’s response to 
the recent crisis was constrained. It assesses which factors contributed to its aggravation 
and  the  increasing  divergence  among  Member  States.  The  analysis  shows  how  the 
institution of a common stabilisation function would raise the resilience of the euro area 
by increasing the capacity to withstand future large asymmetric shocks, thereby avoiding 
the risk of Member States departing from EU economic and social cohesion objectives. 
Such a stabilisation function should be properly designed and may have to be built over 
time.  This  document  therefore  also  reviews  the  options  for  building  a  stabilisation 
function,  evaluates  their  respective  effectiveness,  motivate  the  proposals  made  by  the 
Commission, and explains how the stabilisation function will be monitored. 

It is important to note that the quantification of impacts described in this document 
does not capture the entire scope of the problem analysed. In terms of the quantitative 
analysis  presented,  specific  caveats  should  be  borne  in  mind.  These  include  technical 
limitations of the statistical data and of the simulation models available. It is in the nature 
of macroeconomic analysis that the assessment depends on (well-justified) assumptions 
and that future outcomes are per definitionem not certain but will depend crucially on the 

3 Communication on new budgetary instruments for a stable euro area within the Union framework - 
COM(2017) 822: https://ec.europa.eu/info/sites/info/files/economy-finance/com_822_0.pdf   
Reflection paper on the deepening of the economic and monetary union - COM(2017) 291: 
https://ec.europa.eu/commission/sites/beta-political/files/reflection-paper-emu_en.pdf  

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– partially random – unfolding of events. In light of the above, this document presents a 
proportionate  assessment  of  impacts.  The  impacts  are  primarily  described  through  a 
qualitative assessment and, where possible, a quantification of impacts is outlined. 

Procedural information regarding the preparation of this Impact Assessment can be found 
in Annex 1. 

2.  PROBLEM DEFINITION 

The  problem  to  be  addressed  by  this  initiative,  in  summary,  is  the  insufficient 
ability of available instruments to absorb large macroeconomic shocks in the euro 
area.  In  modern  economies,  fiscal  and  monetary  policies  are  the  main  means  for 
managing business cycles. Monetary policy is generally viewed as the most flexible tool, 
while  fiscal  policy  responds  in  the  first  instance  through  the  so  called  automatic 
stabilisers. The euro area is however confronted with a particular set-up: monetary policy 
can only focus on aggregate fluctuations of the zone, while fiscal policy is 'decentralised' 
and in principle can respond to country-specific shocks. This arrangement appears viable 
for  normal  times  but  it  is  confronted  with  critical  problems  whenever  large  economic 
disruptions  arise.  This  has  especially  been  illustrated  by  developments  in  the  economic 
and financial and the euro crisis, which has evidenced strong limits to the functioning of 
national  automatic  stabilisers  for  coping  with  asymmetric  shocks,  even  sometimes  in 
Member States with sound fiscal credentials. This has resulted in a pro-cyclical pattern 
for fiscal policies, which has also been detrimental to the quality of public finances and 
in  particular  public  investments.  The  sequence  of  recent  events  also  suggests  that  too 
much  weight  may  be  put  on  the  monetary  authority  to  provide  stabilisation  in  severe 
economic circumstances. These observations point to a stabilisation gap and the risk of 
procyclical cuts in public investment in the current EA/EU setting, pointing to the need 
for a common fiscal instrument for the future. In turn, that shortcoming has contributed 
to  widespread  differences  in  macroeconomic  performance  between  Member  States, 
imperilling the cohesion of the EU.  

The  remaining  of  this  section  documents  this  fundamental  problem  and  identifies 
problem drivers by shedding light on:  

i) business cycles in the EA/EU, showing that business cycle fluctuations are large and  
reflect both a common component and substantial country-specific components ;  

ii)  the  experience  over  the  years  of  the  crisis  that  erupted  a  decade  ago  and  saw  the 
occurrence of sizeable pro-cyclical fiscal adjustments that weighed especially strongly on 
public investments.  

It  will  then  be  explained  (section 3)  why  these  problems  will  continue  to  represent  a 
major threat in the future, even taking into account the existence or the development of 

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new  instruments  in  the EA/EU  setting  and  assuming  that  Member  States  preserve  their 
national  fiscal  space  by  strictly  respecting  the  fiscal  rules  framework.  This  makes  the 
case  for  an  EU-level  instrument  to  provide  stabilisation  support  in  some  circumstances 
that characterise a large asymmetric shock.  

2.1.  Business cycles in the EA/EU 

The overall macroeconomic performance in the euro area has been lacklustre since 
the eruption of the crisis. The crisis and the subsequent double-dip recession in the euro 
area  has  induced  low  growth.  The  low  resilience  of  the  euro  area  appears  to  have  a 
permanent effect on real GDP. The gap with the US in terms of growth performance has 
widened  over  the  past  ten  years  and  reflects  a  weaker  capacity  to  absorb  and  recover 
from shocks. While the US reached its pre-crisis real GDP level already in 2011, the EA 
reached it only four years later, in 2015. 

Beyond the aggregate growth performance, economic divergences between Member 
States  have  resurfaced.  In  the  decades  running  up  to  2008,  important  economic 
convergence took place in the EU. Since the crisis however, this trend has reversed, as 
illustrated  in  Figure  1.  In  a  number  of  Member  States,  GDP  levels  have  only  recently 
recovered to their pre-crisis starting points.  

Figure  1:  Real  GDP,  selected  Member 
States 

Figure 2: Unemployment rates, selected 
Member States 

Source/Note:  European  Commission  2017  autumn 
forecast 

Source/Note: EC 2017 autumn forecast. 

These developments were mirrored in a jump in unemployment rates across some 
Member  States.  Changes  in  unemployment  rates  are  highly  correlated  with  business 
cycle  fluctuations.  Strong  increases  in  unemployment  rates  are  thus  an  important 
indication for a large economic shock. During the recent crisis, unemployment rates shot 
up  across  the  euro  area,  and  even  more  so  in  those  Member  States  hit  hardest  by  the 

6 

 
 
 
 
 
downturn  (Figure  2).  Overall,  divergences  in  unemployment  dynamics  have  increased 
significantly with the crisis, even more than for GDP. Unemployment rates for the long-
term  unemployed,  the  low-skilled  and  the  young  have  peaked  more  than  "headline" 
unemployment and still remain at very high levels in the EA, while involuntary part-time 
and hidden labour force signal that slack is still present in the economy. 

The lack of monetary policy and exchange rate adjustment channels at the national 
level hampers the resilience to asymmetric shocks. The introduction of the euro was 
highly beneficial for the European Union and has contributed to prosperity and stability. 
It has completed the single market and contributed to more intra-EU trade (see Baldwin 
and others 2008;  Berger and Nitsch 2008).  Nonetheless,  in  a currency union,  exchange 
rates  cannot  adjust  and  monetary  policy  is  set  at  the  euro  level.  To  facilitate 
macroeconomic  adjustment  and  cushion  large  shocks,  Member  States  thus  need  to  rely 
more  on  the  remaining  instruments  of  economic  policy,  namely  structural  reforms  and 
fiscal  policy  instruments,  making  the  adjustment  more  difficult  overall.  The  lack  of  a 
fiscal  stabilisation  at  the  centre  also  implies  a  heavier  reliance  on  monetary  policy  to 
stabilise overall economic activity.  

Figure 3: Standard deviation of the output 
gaps by Member States (2000-2017) 

Figure 4: Standard deviation of the output 
gaps across Member States 

Source/Note:  European  Commission  2017  autumn 
forecast, Authors’ calculations 

Source/Note:  European  Commission  2017  autumn 
forecast, Authors’ calculations 

Twenty years after the introduction of the euro area, important asymmetries in the 
business  cycles  remain  across  Member  States.  Since  the  early  2000s,  the  average 
magnitude of the output gap fluctuations in the euro area is equal to 1.8% of GDP. This 
aggregate volatility hides larger fluctuations at the national level and sizeable disparities 
both  between  countries  (Figure  3)  and  through  time  (Figure  4).  Indeed,  the  Euro  Area 
aggregates  smooth  out  the  disparities  between  Member  States  and  most  countries 
experience  larger  economic  fluctuations  than  the  Euro  Area  as  a  whole.  In  addition,  in 

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the  wake  of  the  crisis  disparities  between  Member  States'  output  gaps  have  increased 
(Figure 4). Each country's correlation with the others reveals the great disparities existing 
across countries (Figure 5): the correlation of national output gaps with that of the other 
Member States is on average around 60% but varies from close to 0 to 90%. For instance 
the  output  gap  correlation  between  Germany  and  Greece  is  only  equal  to  3%,  and  it  is 
only 7% between Portugal and Lithuania. It is however as high as 96% between France 
and Italy. 

Figure 5: Business cycle correlation across 
EA19 Member States 

Figure  6:  Business  cycle  fluctuations  in 
EA  Member  States  and  their  common 
factor 

Source/Note:  European  Commission  2017  autumn 
forecast, Authors' calculations  
The correlation of national output gaps with that of 
the other Member States is on average around 60% 
but varies from close to 0 to 90% 

Source/Note: European Commission 2017 autumn 
forecast, Authors' calculations 
The Common Factor captures as much of the joint 
fluctuations  as  possible  and  is  computed  by 
Principal Component Analysis. 

The  business  cycles  convergence  in  the  euro  area  remains  partial.  Since  the  late 
nineties,  for the 19 Member States of the euro area, at most  60%  of the fluctuations in 
output can be ascribed to a common factor (Figure 6). Therefore, more than 40% of the 
fluctuations in output either stem from asymmetric sources, or at least reflect asymmetric 
transmission  across  Member  States  of  common  shocks.4  Indeed,  both  common  and 
country-specific  shocks  can  generate  the  desynchronised  economic  cycles  observed  in 
the EMU. For example a common shock on the foreign exchange rate has an impact on 
each Member State that will depend on its trade openness with the rest of the world, on 
its export and import structure as well as on the size of its financial sector. Some Member 
States are however more affected than other by idiosyncratic developments. For example, 
if we restrict the analysis to the EA12 Member States, the common factor accounts for up 
to 80%, leaving 20% of the fluctuations to be asymmetric. Overall, the limited business 
cycle synchronisation can be considered a key problem driver. 

4  Estimation  based  on  a  principal  component  analysis.  A  similar  analysis  on  GDP  growth  or  the 
unemployment rate yield a similar estimate of 40% of asymmetric fluctuations. 

8 

 
 
 
 
                                                            
2.2. 

Fiscal developments and implications for public investments 

National  public  finances  provide  a  crucial  extent  of  stabilisation,  via  automatic 
stabilisers  and  discretionary  fiscal  policies.  National  fiscal  stabilisation  operates 
mainly via automatic stabilisers, meaning that a fall in tax revenues, an uptick in social 
benefits and the inertia of other spending support the economy in downturns. European 
Commission (2017 E) shows that, in the euro area average, around one third of a shock to 
disposable  income  of  households  is  absorbed  by  automatic  stabilisers.  However,  the 
importance  of  such  smoothing  differs  widely  across  Member  States.  In  addition  to 
automatic stabilisers, discretionary fiscal policies are an important tool to cushion large 
shocks.  As  part  of  the  policy  response  to  the  financial  crisis  of  the  late  2000s,  the 
European  Recovery  Plan  was  implemented,  which  provided  discretionary  aggregate 
support. Fiscal rules as in the Stability and Growth Pact do give room for the automatic 
stabilisers to play out and for discretionary fiscal policy under specific conditions. Still, 
in particular situations they might also act as a constraint.     

A  build-up  of  fiscal  buffers  is  thus  needed  in  good  times.  In  light  of  the  crisis 
experience, the fiscal framework was strengthened with the introduction of the Six-Pack, 
Two-Pack and the “Treaty  on Stability, Coordination and Governance in  the Economic 
and Monetary Union”. Member States need to build sizeable fiscal buffers in normal and 
good  times  to  afford  the  fiscal  space  needed  for  the  free  operation  of  automatic 
stabilisers.  Public  deficits  have  recently  been  reined  in  and  public  debts  put  on  a 
downward  path.  Many  Member  States,  however,  still  face  a  legacy  of  very  high  debt 
burdens  that  will  take  time  to  wind  down.  In  these  cases,  more  efforts  are  needed  to 
replenish  fiscal  buffers  for  future  downturns.5  Nonetheless,  even  Member  States  with 
sound  fiscal  policies  might  become  constrained  in  their  fiscal  policy  choices  due  to 
market pressure. Moreover, as a result of the crisis, public debt levels have increased to 
fairly  high  levels,  in  some  Member  States  above  100%  of  GDP.  Due  to  this  legacy  of 
high public debt, fiscal room for manoeuvre might be somewhat constrained until these 
debt levels have be wound down. 

Still, in the wake of large shocks, public finances can deteriorate strongly. As shown 
in  Figure  7,  public  deficits  worsened  strongly  during  the  crisis.  In  the  euro  area  as  a 
whole,  the  deficit  surged  by  around  4%  of  GDP  and  public  debt  shot  up  by  more  than 
30% of GDP. This slump was worse in Member States hit hardest by the downturn. One 
important  underlying  reason  was  the  often  sudden  and  dramatic  collapse  of  public 
revenues.  In  normal  downturns,  revenues  develop  broadly  in  line  with  the  economic 
cycle, or more precisely in line with a constant elasticity linked to the relevant tax bases 
(see Mourre et al., 2014). In case of a drop in GDP, this mechanism already leads to a 
major fall in revenues compared to budgetary plans. In a large downturn, however, these 

5 See European Commission (2017 G), 2018 horizontal DBP Communication on draft budgetary plans: 
https://ec.europa.eu/info/sites/info/files/economy-finance/com-2017-800-en.pdf  

9 

 
 
 
                                                            
developments can  be exacerbated, i.e. they become  more than proportional to  the GDP 
slump,  and  materialise  as  sizeable  revenue  shortfalls.  In  the  case  of  the  recent  crisis, 
revenues  and  budget  balances  fell  dramatically,  as  illustrated  in  Figure  7  and  Figure  8. 
Cumulated revenue shortfalls reached several percentage points of GDP for programme 
and  vulnerable  Member  States,  in  addition  to  revenue  losses  due  to  lower  activity. 
Member States either need to run higher deficits to maintain spending plans or find other 
savings to compensate. 

Figure 7: Budget balances, country groups 

Figure  8: 
country groups 

  Revenue  windfalls/shortfalls, 

Source/Note:  Programme: 
Vulnerable: 
calculations based on EC 2017 autumn forecast. 

IE,  EL,  PT,  CY. 
IT,  ES.  Weighted  avgs.  Authors’ 

Year-on-year 

Source/Note: 
windfalls/shortfalls. 
Discretionary revenue measures taken into account from 
2010 onwards. Authors’ calc. based on EC 2017 autumn 
forecast 

A countercyclical conduct of fiscal policy, including the free operation of automatic 
stabilisers, can be hindered by financial market instability and constrained market 
access. In the early 2010s, a strong deterioration in public finances, jointly with doubts 
about  the  functioning  of  the  euro  area  under  periods  of  intense  stress  resulted  in 
weakened investor confidence and significant financial market fragmentation during and 
after the outbreak of the crisis, see  Figure 9. Bold policy actions at several levels were 
needed to re-establish market confidence and achieve a reversion of this fragmentation. 
The European Central Bank’s (ECB) announcement of Outright Monetary Transactions 
(OMT) led to a reduction in the perceived redenomination risk. Steps towards Banking 
Union helped cushion sovereign-bank doom loops. Major reforms in the Member States 
most  affected  by  the  crisis,  including  structural  reforms  and  fiscal  consolidation,  were 
undertaken  and  in  some  cases  supported  by  provision  of  financial  assistance. 
Nonetheless,  this  experience  reveals  that  national  fiscal  policies,  even  in  cases  where 
initial debt levels are low, risk being overburdened in case of large shocks.  

10 

 
 
 
 
 
Figure 9: Sovereign bond spreads, selected Member States 

Source/Note: ECB statistical data warehouse 

To keep deficit and debt levels under control in the face of market pressures, there 
is  a  risk  that  Member  States  resort  to  highly  pro-cyclical  and  low  quality  fiscal 
adjustments. Some of these Member States had failed to build sufficient fiscal buffers 
ahead of the crisis. Others, however, were running prudent fiscal policies, at least at face 
value,  and  had  accumulated  low  levels  of  public  debt  before  the  crisis  struck.  In  the 
recent crisis, several Member States were under extreme market pressure, as their spreads 
vis-à-vis the German sovereign bonds increased sharply, with important implications on 
the cost of servicing their debt and running higher deficits. As a consequence, EL, IE, PT 
and  CY  had  to  revert  to  financial  assistance  programmes.  Overall,  the  euro  area,  in 
particular  in  Member  States  without  market  access  and  vulnerable  to  financial  market 
instability, has undertaken strong fiscal adjustments (Figure 10).  

On  aggregate,  the  euro  area  has  been  prone  to  pro-cyclical  fiscal  consolidation  in 
the downturn. As a consequence of national consolidations, the euro area fiscal stance 
turned highly restrictive in 2012-2013, while the downturn was still deep, see Figure 11. 
To  compensate,  a  very  large  weight  has  been  put  on  the  ECB,  testing  the  limits  of 
monetary policy at times of unprecedentedly low interest rates. These weaknesses in the 
architecture have contributed to further deepening the economic downturn. 

11 

 
 
 
Figure  10:  Structural  adjustment  by 
country groups 

Figure 11: Euro area fiscal stance 

Source/Note:  EC  2017  autumn  forecast.  Change 
in  structural  primary  balances.  Pre-2010  change 
in cyclically-adjusted primary balances. 

Source/Note:  EC  2017  autumn 
adjustment 
structural  primary  balance.  Unused  capacity 
measured by the output gap. 

forecast.  Fiscal 
the 
is 

is  measured  by 

the  change 

in 

In  many  countries,  the  tightening  of  fiscal  policy  translated  into  severe  cuts  in 
public  investment.  While  these  cuts  may  partly  have  been  a  response  to  previously 
excessive  spending,  short-term  budgetary  pressures  have  in  many  cases  led  to  myopic 
policymaking  in  which governments  slash  public investment  given their  lower  political 
costs  to  achieve  savings.  Those  Member  States  facing  the  biggest  pressure  for  front-
loaded consolidation made significant cuts in public investment (Figure 12), on average 
around 2% of GDP. These cuts in public investment came on top of decreases in private 
investment.  This  type  of  adjustments  has  sometimes  deepened  and  lengthened  the 
recession  in  those  countries,  negatively  impacting  the  economic  and  social  cohesion  of 
the Member States. 

The EU budget has helped to some extent to weather the crisis. Thanks to its inherent 
stability  in  the  medium  term,  EU-funded  public  investments  and  transfers  –  e.g.  for 
training  unemployed  people  or  for  urban  and  rural  development  –  has  acted  as  a 
countercyclical  force  during  the  recession  that  began  in  2009,  despite  the  relatively 
modest share of EU spending out of national governments' total expenditure.6 

6 Financing the EU Budget: report on the operation of the own resources system, Commission Staff 
Working Document, accompanying the Proposal of a Council Decision on the Own Resources of the EU 
(SWD(2018) 172 of 2 May 2018). 

12 

 
 
 
 
 
 
                                                            
is 

to 

key 

Figure  12:  Public  investment  in  selected 
Member States 

Preserving  growth-friendly  public 
foster 
investment 
(potential)  growth  also  during 
recessions. 
investment 
  Weak 
spending  has  not  only  negative 
consequences  for  short-term  growth 
via  its  impact  on  aggregate  demand, 
but 
the  medium-term 
productivity  via  its  impact  on  the 
capital  stock.  Furthermore,  the  short-
term impact of high-quality investment 
on  growth  is  typically  found  to  be 
larger  than  that  of  other  types  of 
spending.  Therefore,  it  is  important  to 
public 
growth-friendly 
preserve 
investment  also  in  economic  bad  times  to  ease  the  necessary  adjustment  burden  and 
return on a sustainable growth path as quickly as possible.7 

Source/Note: EC 2017 autumn forecast. 

also 

for 

2.3.  Other instruments and policies 

Some  policies  and  instruments  can  reduce  the  need  for  providing  stabilisation 
through fiscal instruments. In the EMU setting, this concerns: 

  Well-functioning markets and structural reforms which raise resilience 
  Cross-border risk sharing through financial markets 
  The action of the ECB 
  The provision of financial assistance subject to strict conditionality, as provided 

by the European Stability Mechanism (ESM) 

Well-functioning  markets  are  indispensable  to  absorb  economic  shocks  efficiently 
across  Member  States.  Such  market  mechanisms  form  the  first  line  of  defence. 
Conceptually,  market  mechanisms  play  a  key  stabilising  role  in  monetary  unions, 
through  greater  internal  resilience  to  shocks  and  improved  mobility  of  the  production 
factors  capital  and  labour.8  The  efficient  functioning  of  the  single  market,  including  in 
the financial markets and labour markets, feature among the crucial ingredients to make 
European  economies  more  resilient.  Labour  mobility  is  another  mechanism  which 
facilitates  economic  adjustment,  although  the  room  for  further  improvements  appears 

7  European  Commission  (2016):  Public  Finances  in  the  EMU  2016;  Barrios  and  Schaechter  (2008):  The  Quality  of 
Public Finances and Economic Growth, European Economy Economic Papers 337; Barbieroand Cournède 2013): New 
econometric estimates of long-term growth effects of different areas of public spending, OECD Economics Department 
Working Paper, 1100. 

8 Mundell (1973) and Eichengreen (1992) have suggested that a monetary union among countries keeping 
their fiscal autonomy could potentially compensate the lack of a common fiscal capacity through the so-
called ‘private insurance channel’, brought forward by financial integration. 

13 

 
 
                                                            
 
limited  in  the  medium  term.  (Molloy  et  al., 2011;  Beyer  and  Smets, 2015;  Dao  et 
al., 2014).  

Structural  reforms  can  also  increase  the  economic  resilience  of  Member  States. 
They help address macroeconomic  imbalances and lift economic potential. That is why 
the  Commission  has  proposed  the  creation  of  a  Reform  delivery  tool  on  6  December 
2017 to further increase incentives for structural reforms. Still, structural reforms per se 
would  not  stabilise  demand  fluctuations.  On  the  contrary,  in  the  short  term,  they  can 
weaken  the  recovery,  in  particular  when  implemented  during  the  downturn  or  when 
monetary  policy  is  constrained.9  Such  issues  call  for  an  appropriate  'sequencing'  and 
'packaging'  of  reforms  that  takes  advantage  of  synergies  and  complementarities  (Berti 
and Meyermans, 2017). 

Private  sector  cross-country  risk  sharing  works  through  cross-border  factor 
income.  With  domestic  productive  assets  partially  held  abroad,  the  consequences  on 
domestic income of a country-specific shock may be smoothed by reduced dividends and 
interest payments to foreign residents, together with sustained earnings on foreign assets 
held  by  domestic  agents.  This  is  the  so  called  capital  market  channel  for  private  risk 
sharing. Labour compensation across borders may also contribute to smoothing domestic 
incomes. In addition to these income smoothing effects, there can also be a consumption 
smoothing channel through borrowing and saving on international capital market. This is 
the  so  called  credit  channel  of  consumption  smoothing.  Consumption  smoothing 
behaviour  is  however  conceptually  distinct  from  risk-sharing  stricto  sensu  (Alcidi  and 
Thirion, 2016).  

The amount of private sector cross-country risk sharing through financial markets 
remains  low  in  Europe  compared  to  other  currency  unions.  Market  mechanisms 
allowing for higher mobility of capital consist of the so-called capital market channel, the 
credit market channel, and the cross-border labour compensation channel. In the US and 
other  federations,  private  sector  channels  have  been  found  to  smooth  out  a  significant 
fraction  of  shocks  on  consumption,  possibly  of  the  order  of  60%  (when  including  the 
credit channel). The contribution of public risk-sharing is generally found to be smaller, 
of  the  order  of  15-20%.10  Private  risk-sharing  appears  far less  developed in  the  case  of 
the EU (Berger, Dell'Ariccia, Obstfeld, 2018), providing a strong case for completing the 
banking union and achieving a capital markets union raising the degree of cross-border 
risk sharing.  

The  creation  of  Banking  Union  is  underway,  in  order  to  severe  bank-sovereign 
doom loops. In the past, Member States repeatedly found themselves in situations where 
large  amounts  of  public  money  were  spent  to  bail  out  failing  banks,  in  some  cases 

9 See OECD (2015), Vogel (2014) and Duval and Furceri (2016) 
10  See  Nikolov  (2016),  Alcidi  (2015)  and  Allard  et  al.  (2013).  There  are  nevertheless  important 
methodological  challenges  in  these  empirical  studies.  The  results  regarding  the  contributions  of  both 
private risk-sharing and public risk-sharing, should be taken with caution (Clévenot and Duwicquet, 2011). 
In the early 1990s, Sachs and Sala-i-Martin (1991) and Bayoumi and Masson (1995) found that in the US 
automatic stabilisers of the federal budget would smooth around 30% of income shocks. 

14 

 
                                                            
leading  to  doubts  about  the  sustainability  of  their  public  finances.  The  creation  of 
common supervision for big banks and a common resolution framework and fund have 
alleviated the burden on national sovereigns, thereby contributing to the severance of the 
so-called  sovereign-bank  doom  loop.  To  strengthen  the  resilience  of  the  common 
resolution approach, the Commission has proposed to create a common backstop for the 
Single  Resolution  Fund.  The  Capital  Markets  Union,  for  its  part,  has  the  potential  to 
considerably broaden cross-border risk-sharing. 

There  is  evidence  that  public  risk  sharing  is  a  necessary  catalyst  for  private  risk 
sharing in a currency union, especially in stressed times when it matters the most. 
Private sector risk sharing can turn pro-cyclical in downturns and is more effective when 
working in conjunction with public sector risk sharing (Kalemli-Ozcan et al. , 2014).  In 
other  advanced  currency  unions,  such  as  the  US,  Canada  and  Germany,  private  risk 
sharing  channels  are  supported  by  public  mechanisms.  Furceri  and  Zdzienicka  (2015) 
find  that  the  degree  of  risk-sharing  in  the  euro  area  falls  sharply  in  severe  downturns, 
more  precisely:  "the  amount  of  unsmoothed  shocks  in  periods  of  recession  is 
significantly  larger  than  during  normal  times,  and  the  increased  inability  to  smooth 
output shocks is driven by the lack of consumption smoothing provided by private saving 
via  the  credit  channel.  This  is  particularly  true  for  severe  downturns  that  are  persistent 
and unanticipated". The conclusion is therefore that a degree of public risk-sharing is a 
necessary catalyst for private risk-sharing to work effectively in stressed times, when it 
matters the most. 

Among  existing  common  European  instruments,  the  ECB  is  at  the  forefront  of 
regular  macroeconomic  stabilisation.  The  common  monetary  policy  provides  a  first 
response to stabilise the economy in the event of shocks affecting the whole area, through 
the pursuit of price stability. Its primary, traditional instrument is the interest rate. During 
the crisis, the toolbox of the ECB has evolved, adding new unconventional instruments 
such as the OMT and liquidity support to the banking sector. Nonetheless, there is a risk 
of overburdening monetary policy, especially when the interest rate is close to the zero 
lower  bound  (ZLB).  In  those  cases,  further  reducing  nominal  interest  rates  may  be 
difficult.  Unconventional  tools  can  complement,  but  their  impact  might  be  decreasing 
with  increased  use  (see  Blanchard  et  al,  2015).  Moreover,  a  common  monetary  policy 
cannot  react  to  individual  country  shocks;  thus  the  need  for  a  fiscal  instrument  to 
complement (Berger, Dell'Ariccia, Obstfeld, 2018). 

During  the  past  ten  years,  the  ESM  was  created  to  deal  with  crisis situations. The 
ESM provides financial assistance to Member States having lost market access subject to 
strict  conditionality.  It  thereby  acts  as  a  lender  of  last  resort  to  national  sovereigns. 
However, the experience of sudden and sometimes excessive stops in market access calls 
for  a  more  preventive  approach  to  support  Member  States  hit  by  large  shocks. 
Concerning the institutional setup, the Commission has made proposals to strengthen the 

15 

 
ESM’s  governance  framework  and  integrate  is  into  the  community  framework  on  6 
December 2017.11 

2.4.  Conclusion on problem definition 

From the inception of the euro it has been asked whether the EMU set-up offered 
enough  space  for  macroeconomic  stabilisation.  This  question  arises  naturally  as 
countries in a monetary union lose crucial channels of adjustment to asymmetric shocks 
by  giving  up  an  own  monetary  policy  and  the  possibility  of  nominal  exchange  rate 
changes.  The  initial  understanding  over  the  euro  was  that  this  loss  might  be 
'compensated' by a natural convergence of business cycles within the union. In addition, 
national  fiscal  policies  remained  available  in  order  to  absorb  country-specific  shocks. 
However,  the  experience  suggests that these  assumptions  were  too  optimistic.  Business 
cycles  remain  sizeable  in  EMU,  reflecting  a  key  external  problem  driver.  They  reflect 
both  a  common  component  and  substantial  idiosyncratic  cyclical  developments  in 
Member  States,  particularly  in  the  more  volatile  economies  of  the  euro  area.  The 
behaviour  of  national  fiscal  policies  is  a  key  internal  problem  driver.  National  fiscal 
stabilisers have functioned at times and in some countries but have also exhibited serious 
limitations. In fact, fiscal policies have too often turned out pro-cyclical, and in particular 
public investment cycles have followed a boom and bust profile that has been detrimental 
to growth in both the short and long terms. Figure 13 provides an illustrative overview of 
these key problem drivers. 

Figure 13: Key internal and external problem drivers 

Source/Note: Stylised illustration prepared by authors 

While the euro area economy is now expanding again, these vulnerabilities remain 
and  the  capacity  of  the  euro  area  and  Member  States  to  smooth  large 

11 See Commission proposal for a Council regulation on the establishment of the European Monetary Fund 
COM/2017/0827 final - 2017/0333 (APP): http://eur-lex.europa.eu/legal-
content/EN/TXT/?uri=CELEX:52017PC0827 

16 

 
 
 
 
                                                            
macroeconomic shocks is not yet sufficient. The expansion appears solid at present, but 
the heterogeneity in the euro area is fuelling the potential for further tensions that could 
have  severe consequences  including for the very integrity of the euro area and the EU. 
Therefore, a more complete set of collective defences to tackle large shocks and prevent 
divergences among the Member States is needed. Such shocks and crises can persistently 
alter growth trajectories to the detriment of welfare and cohesion. Underinvestment and 
the persistence of high unemployment in some Member States are of particular concern 
as  they  could  inflict  long-term  economic  and  social  damages.  In  part,  the  failings 
highlighted above may have reflected an insufficiently sound conduct of fiscal policies in 
the  better  part  of  the  cycle.  However,  as  will  be  argued  in  the  next  section,  there  are 
inherent  constraints  to  national  fiscal  stabilisation  policies  even  when  budgets  respect 
strictly  the  rules.  As  a  result,  the  present  EMU  framework  leaves  a  larger  role  for 
macroeconomic stabilisation on the ECB jointly with national fiscal policies.12 

3.  WHY SHOULD THE EU ACT? 

This section explains why the existing instruments do not suffice to provide enough 
space  for  fiscal  stabilisation  in  the  EA/EU  set-up.  In  line  with  the  subsidiarity 
principle,  a  stabilisation  function  is  needed  as  a  complementary  tool  in  severe 
circumstances. This section therefore: 

- explains why private sector adjustment mechanisms do not suffice without an element 
of fiscal risk sharing;  

- then explains why the workings of national fiscal stabilisers, while essential, needs to 
be complemented by the EU level in certain circumstances, in particular to protect public 
investment; 

- considers the state of play of stakeholders views in this respect; 

-  notes  the  availability  of  a  legal  basis  (Article 175,  TFEU)  for  building  such  an 
instrument.    

3.1.  Existing lines of defence 

In  a  currency  union,  there  are  several  lines  of  defence  against  disruptive  shocks. 
Cœuré  (2018)  has  pointed  to  a  stylised  description  of  three  lines  of  defence  needed  to 
deliver  a  stable  currency.  Flexible  markets  are  crucial  to  start  with,  including  also 

12 In mature monetary unions (such as e.g. in the US), the single monetary authority has a counterpart of a 
federal fiscal authority, which determines the fiscal stance for the monetary area and can support monetary 
policy in its stabilisation policy. The euro area is marked by "an unprecedented divorce between the main 
monetary and fiscal authorities" (Goodhart, 1998).  

17 

 
 
 
 
                                                            
efficient  financial  markets  across  the  zone  (to  which  the  banking  union  underway 
contributes). Sound government policies are the second essential elements. In the fiscal 
field, this includes in particular the need to build fiscal buffers in good economic times in 
order  to  have  space  for  absorbing  shocks  when  those  occur.  Finally,  some  common 
instruments  have  already  been  introduced  to  deal  with  crisis  situations,  notably  the 
European Stability Mechanism (ESM).  

Integrated,  European  markets  are  indispensable  to  absorb  economic  shocks 
efficiently  across  Member  States.  Such  market  mechanisms  form  the  first  line  of 
defence.  The  amount  of  private  sector  cross-country  risk  sharing  through  financial 
markets remains relatively low in the euro area, providing a strong case for completing 
Banking  Union  and  capital  markets  union.  Banking  Union  would  also  help  severe 
sovereign-bank doom loops. Nonetheless, private risk sharing is at the risk of running dry 
in the downturn, mirroring the sometime pro-cyclical nature of market discipline, calling 
for public risk sharing as necessary complement and enabler. Structural reforms can also 
increase the economic resilience of Member States, as they help address macroeconomic 
imbalances and lift economic potential. 

National governments play a key role in the stabilisation of the European economy 
against  shocks.  They  can  be  considered  as  a  second  line  of  defence,  as  even  well-
functioning markets cannot fully mitigate shocks. In particular, national public finances 
provide a crucial extent of stabilisation, via automatic stabilisers and discretionary fiscal 
policies.  A  build-up  of  fiscal  buffers  is  needed  in  good  times,  but  might  still  prove 
insufficient  in  large  downturns.  Nonetheless,  as  analysed  in  section  2,  even  Member 
States with strong fiscal positions might become constrained in their fiscal policy choices 
due to market pressure. 

Among  existing  common  European  instruments,  the  ECB  is  at  the  forefront  of 
regular  macroeconomic  stabilisation.  The  common  monetary  policy  provides  a  first 
response to stabilise the economy in the event of shocks affecting the whole area. Still, 
there is a risk of overburdening monetary policy, especially when the interest rate is close 
to  the  zero  lower  bound  (ZLB).  In  addition,  the  European  Stability  Mechanism  (ESM) 
was  created  to  deal  with  crisis  situations.  It  provides  financial  assistance  to  Member 
States  and  thereby  acts  as  lender  of  last  resort.  However,  markets  tend  to  bite  late  but 
harshly. The experience of sudden and sometimes excessive stops in market access calls 
for a more preventive approach to support Member States hit by large shocks. 

3.2.  The need for economic stabilisation at the European level 

Even  with  all  these  elements  in  place,  national  fiscal  policies  risk  being 
overwhelmed calling for support at the European level. In large economic downturns, 
the  combination  of  increasing  deficits  and  falling  nominal  growth  rates  can  generate 
market uncertainty about the sustainability of public finances, even for countries whose 
debt may be initially low. Limited fiscal space may prevent governments in a currency 

18 

 
 
union from efficiently and effectively using their national fiscal policy to smoothen the 
impact  of  macroeconomic  shocks.  On  the  contrary,  they  may  be  hard  pressed  to  cut 
expenditures, with investment politically easier to cut, although with harmful economic 
consequences in the short and longer term. 

In normal times, the current setting, resting on prudent decentralised fiscal policy 
and single monetary policy absorbing common shocks, seems to suffice in stabilising 
the  EU  economy.  This  corresponds  to  the  philosophy  of  the  Maastricht  Treaty:  area-
wide  shocks  are  tackled  by  monetary  policy,  while  asymmetric  shocks  (affecting  the 
demand  side)  could  be  fixed  by  national  fiscal  policy.  There  is  thus  an  important 
justification to maintain a high level of subsidiarity in fiscal policy. 

In  this  setting,  fiscal  prudence  allows  the  automatic  stabilisers  to  play  in  full, 
absorbing  the  asymmetric  economic  shocks  in  real  time,  while  ensuring  the 
sustainability  of  public  finances  in  the  medium  term.    National  fiscal  stabilisation 
operates primarily via automatic stabilisers, meaning that a fall in tax revenues, an uptick 
in social benefits and the inertia of other spending support the economy in downturns. To 
enable the workings of automatic and discretionary fiscal stabilisers at the national level, 
Member States need to create sizeable fiscal buffers, ensuring sustainable deficit and debt 
positions. 

However,  in  the  presence  of  large  shocks,  the  automatic  stabilisers  may  become 
insufficient to ensure proper stabilisation, especially in small open economies. Such 
situations exemplify limits to the subsidiarity principle. Large shocks can put important 
strain on a Member State's public finances, leading to a rapid increase in deficit and debt 
levels.  Significant  market  pressure  can  then  build  up,  preventing  the  free  operation  of 
national stabilizers. The crisis experience shows that even Member States with low levels 
of public debt and seemingly sound public finances are not immune to this risk and might 
be in need of further fiscal policy support. Figure 14 shows that small open economies, 
such  as  Luxembourg,  Ireland,  Slovenia,  Finland  and  the  three  Baltics,  recorded  very 
large  cyclical  swings  in  output,  much  larger  than  the  euro  area  average.  These  were 
particularly acute during the financial crisis in 2008-10, with a sharp drop of output gaps 
by around 14 percentage points and a strong persistence of negative output gaps in 2011-
2013.  By  contrast,  the  two  largest  economies  of  the  euro  area  –also  hit  by  the  crisis  – 
experienced  smaller  cyclical  fluctuations  than  the  whole  area.  At  the  same  time,  the 
automatic income stabilisation generated by the tax and benefits system represents below 
40% for most of the euro area countries, as illustrated in Figure 15 (below 30% for one 
third  of  them;  see  European  Commission:  Public  Finances  Report  (2017)  for  a  more 
detailed discussion). 

19 

 
Figure  14:  Disparities  of  cyclical  variation 
across countries (output gap) 

Figure 
stabilisation 

15: 

Automatic 

income 

Source/Note: The aggregate "Small open economies" 
covers  EE,  IE,  LT,  LU,  LV,  SI,  FI.  The  aggregate 
"Two  largest  economies"  covers  DE  and  FR.  based 
on European Commission 2017 autumn forecast. 

income 
Source/Note:  Degree  of  automatic 
stabilisation  (in  per  cent)  of  the  current  tax  and 
benefit  system  with  the  degree  of  stabilisation 
assuming a hypothetical average effective tax rate 
on 
(AETR).  Authors’ 
EUROMOD  using  EU-SILC  data.  European 
Commission: Public Finances Report (2017) 

simulations 

based 

This  is  aggravated  by  the  inability  of  an  overburdened  monetary  policy  to  fully 
respond  to  common  negative  shocks.  When  the  monetary  policy  hits  the  zero  lower 
bound, that is, when key interest rates are very close to zero in nominal terms, it becomes 
more difficult to relax it further to address negative shocks affecting the whole euro area. 
Moreover, in better times, monetary policy will also be constrained if there is a risk for 
financial stability.  

The euro area therefore needs a fiscal instrument to help coping with large shocks. 
In  this  sense  European  action  is  needed  to  overcome  an  overburdening  of  national 
subsidiarity.  As  a  vital  complementary  element,  the  stabilisation  function  should  be 
active in the event of large shocks affecting a Member State, or several Member States, 
when  the  limits  of  other  mechanisms  and  national  policies  materialise,  posing  great 
economic risks for the Member State itself but also for the area as a whole. It would be 
important to avoid that shocks and significant downturns result into deeper and broader 
situations  of  stress.  A  stabilisation  function  would  avoid  such  situations  through  the 
large  stress.  More  adequate  and 
possibility 
countercyclical fiscal policies at national level would also contribute to a more consistent 
aggregate  fiscal  stance,  entailing  positive  spill-overs  for  other  Member  States  as  well. 
Moreover,  the  stabilisation  function  would  support  Member  States  when  means  for 
stabilisation  at  the  national  level  are  narrowing  down,  but  before  recourse  to  financial 
assistance is needed. Figure 16 summarises the value added of a stabilisation function. 

to  support  Member  States  under 

20 

 
 
 
 
Figure 16: The value added of a stabilisation function 

Source/Note: Stylised illustration prepared by authors 

3.3. 

Stakeholders’ views 

There  is  a  long  history  of  public  debate  about  a  stabilisation  function  for  Europe. 
Before  the  creation  of  the  euro  area,  reports  committed  by  the  European  Commission, 
namely  the  “Marjolin  Report”  and  the  “MacDougall  Report”,  pointed  to  the  need  for 
sizeable  central  budgets,  also  to  achieve  fiscal  stabilisation.  At  the  launch  of  the  euro, 
only limited forms of fiscal union could realistically be contemplated. Proposals emerged 
for mimicking the stabilisation properties of central budgets through tailored instruments 
(e.g.  Italianer  and  Vanheukelen (1993).  The  idea  went  partly  dormant  as  the  euro  was 
successfully  introduced  but  renewed  interest  has  come  in  recent  years  as  the  euro  area 
struggled to maintain balanced fiscal policies in the crisis aftermath. 

Recently,  the  topic  of  a  stabilisation  instrument  for  the  euro  area  has  garnered 
renewed  attention.  The  political  declarations  from  Member  States  in  this  debate  have 
been  mixed,  with  some  expressing  strong  support  in  principle  for  a  stabilisation 
instrument  while  others  have  shown  scepticism.  France  has  been  amongst  the  most 
ambitious advocates for central fiscal capacity, with President Macron (2017) proposing 
a  permanent,  fully-fledged  euro  area  budget  that  would  finance  common  public  goods 
include migration, defence and disruptive innovation. The national ministries of economy 
or finance from Italy and Spain have issued papers lining out proposals for specific funds 
providing macroeconomic stabilisation (see below). While views floated in the German 
government  appear  mixed,  the  coalition  agreement  includes  a  reference  to  "devoting 
specific budget funds to economic stabilization, social convergence and structural reform 
in euro zone. Those funds could form the basis for a future ‘investment budget’ for the 

21 

 
 
 
euro zone."13 In contrast, other Member States have been more sceptical of the need for 
an instrument for the absorption of large economic shocks, as reflected in recent speech 
by Dutch Prime Minister Rutte (2018). This was mirrored when the finance ministers of 
six  euro  area  Member  States  (Estonia,  Finland,  Ireland,  Latvia,  Lithuania,  the 
Netherlands) plus Denmark and Sweden did not mention a central fiscal capacity in their 
priorities for EMU reform. 

Other stakeholders than Member States have generally been supportive of the idea 
overall. The European Parliament's  Committees on Budgets and Economic and Monetary 
Affairs  issued  a  report  on  a  budgetary  capacity  for  the  Eurozone  in  2017  and  the 
European  Parliament  adopted  a  resolution  outlining  a  roadmap  for  the  creation  of  a 
budgetary  capacity  for  the  Eurozone  in  2017.  The  European  Central  Bank  has  seen  a 
fiscal capacity as an important part of EMU deepening (Coeuré, 2016). Other European 
actors such as the European Economic and Social Committee14 have emphasized the need 
for  a  fiscal  union  while  the  European  Stability  Mechanism  has  offered  to  support 
financially a macroeconomic stabilisation function if one is created.15  

In the academic literature, there is a wide array of papers supporting the case for a 
stabilisation  function  for  Europe,  with  some  dissenters  as  well.  Broad  studies  on 
fiscal union have  put  forward the  notion of a common stabilisation  capacity for coping 
with  large  shocks  and  share  risks.  This  is  in  particular  the  case  of  surveys  from 
international  organisations  such  as  the  IMF  and  the  OECD  (e.g.  Allard  et  al. (2013); 
Berger  et  al., 2018;  OECD, 2018).  These  international  institutions  have  made  detailed 
proposals  for  a  central  fiscal  stabilization  capacity,  with  variants  of  an  insurance 
mechanism  and  a  common  unemployment  scheme.  A  non-exhaustive  list  of  specific 
proposals from economic papers includes Dullien (2009, 2013), Enderlein et al. (2013), 
Pisani-Ferry et al. (2013), Delbecque (2013), Dolls et al. (2014), Drèze and Durré (2014), 
Lellouch and Sode (2014), Beblavy and Maselli (2014, 2015), Carnot et al. (2015, 2017), 
Benassy-Quéré et al. (2018), Arnold et al. (2018), Dullien et al. (2018) and Claveres and 
Stratsky (2018).  Some  academics  have  however  also  warned  against  the  notion  of  a 
stabilisation  function,  or  at  least  drawn  attention  to  its  risks  (Feld  and  Osterloh, 2013; 
Hebous and Weichenrieder, 2015). 

In  policy  circles,  there  is  an  emerging  debate  when  it  comes  to  more  specific 
proposals.  In  October  2015,  the  Italian  Ministry  of  Finance  published  a proposal  for  a 
European  Public  Unemployment  Benefit  system,  which  was  updated  in  August  2016. 
Recently,  the  Spanish  Ministry  of  Economy  suggested  a  two-pronged  stabilisation 
instrument  to  help  countries  cope  with  large  asymmetric  shocks  comprised  of  a  grant-
based insurance mechanism and a loan-based scheme to support private investment. The 
French  Treasury  published  an  outline  of  a  euro  area  investment  budget  (Bara  et 
al., 2017).  The  European  Commission  outlined  the  need  for  a  macroeconomic 

13 Coalition agreement (2018) 
14 Opinion: Euro area economic policy 2018, (ECO/444-EESC-2017-05444-00-00-ac-tra).  
15 K Regling,Speech at the German Economic Institute and Association of German Banks, “The ESM’s 
role in deepening monetary union”, March 2018. 

22 

 
                                                            
stabilisation  function  in  general  in  its  "Reflection  Paper  on  EMU"  of  May  2017  and 
subsequently in its Communication to the European Parliament and European Council in 
December 2017, where several options were considered.  

Preliminary  discussions  among  Member  States  at  a  more  technical  level  have  also 
reflected varied views towards the value added and form of a central fiscal capacity. 
First  discussions  at  the  Economic  Financial  Committee  and  among  their  alternates 
confirm  varied  views.  Notably,  besides  some  supportive  and  some  sceptical  Member 
States, there is a sizeable group of Member States who acknowledge the merit of in-depth 
discussions  but  do  not  yet  hold  a  firm  view.  The  proposal  to  be  presented  by  the 
Commission in May could seek to bridge these gaps among Member States, although it is 
likely that extensive subsequent discussions will be needed in order to create a consensus 
on both the necessity and operational characteristics of such an instrument. 

3.4.  Legal basis 

Article  175,  paragraph  3,  TFEU  may  be  used  as  a  legal  basis  for  the  stabilisation 
function  on  condition  that  it  can  be  established  that  that  function  is  necessary  to 
strengthen the economic, social and territorial cohesion of the Union, in order to promote 
its  overall  harmonious  development,  in  particular  by  reducing  disparities  between  the 
levels of development of the various regions and the backwardness of the least favoured 
regions. This would require that the functions deploys its aim of supporting the level of 
public  investment  in  specific  sectors  where  it  can  be  shown  that  maintaining  that  level 
will  lead  to  the  economic,  social  and  territorial  cohesion  of  the  Union.  Besides,  to 
preserve the link with cohesion policy, financial consequences should ensue in case the 
cohesion policy objectives have not been achieved. 

4.  OBJECTIVES: WHAT IS TO BE ACHIEVED? 

4.1.  General objectives 

The  general  objective  of  a  stabilisation  function  is  to  raise  the  cohesion  and 
resilience of the EU architecture, by supporting single Member States to withstand 
large shocks. By reinforcing the capacity of Member States to withstand such shocks, it 
should increase economic and social cohesion  and convergence  among  Member States. 
Such  an  instrument  should  allow  national  fiscal  policies  to  follow  a  more  predictable 
course.  It  should  complement  the  national  fiscal  stabilisers  with  a  supra-national 
intervention when needed, therefore removing a major source of disruption. 

23 

 
 
 
 
 
4.2. 

Specific objectives 

More specific objectives can be delineated across six dimensions: 

  First, it should contribute to a reduced amplitude and asymmetries of business 
cycle fluctuations across Member States. To this end, it needs to be economically 
meaningful,  timely  and  effective.  It  would  thus  address  the  problem  of  sizeable 
and only partially synchronised national business cycles. 

  Second, it should contribute to a conduct of fiscal policies that is more counter-
cyclical, or at least reduce the risks of pro-cyclicality. It would thus help avoiding 
the problems of strongly pro-cyclical consolidations and lack of building buffers 
in good times. 

  Third,  it  should  contribute  to  smoother  public  investment  trajectories  and 
economic cohesion, in particular to avoid ill-advised cutbacks in downturns with 
negative impact on growth. It should preserve the flow of investments supported 
by national budgets, ensuring stable levels of public investments, also in the event 
of  major  downturns.  It  would  address  the  problem  of  overreliance  on  cuts  in 
investment in periods of fiscal consolidation. 

  Fourth,  it  should  contribute  to  the  prevention  of  full-fledged  financial market 
crises, including sovereign debt crises, through the provision of support when a 
Member  State  faces  difficult  economic  circumstances  and  tight  financing 
conditions on the markets. It should however not act as crisis management tool, 
but rather a crisis prevention tool, making it distinct from the ESM and other EU 
funds for investment. A stabilisation function is an in-between instrument. In this 
logic, assistance from the ESM would be called upon if and after support from the 
stabilisation function was not sufficient.16 

  Fifth, it should preserve cross-country neutrality. The scheme is not aimed to 
be  redistributive  and  therefore  should  not  lead  to  permanent  transfers.  It  is  also 
necessary  to  preserve  incentives  for  sound  national  policies.  The  stabilisation 
function  should  in  fact  contribute  to  strengthening  the  economic  governance 
framework,  including  the  application  of  rules  for  prudent  fiscal  policies.  This 
includes  that  it  should  be  conditional  on  sound  policies  leading  to  convergence 
within the euro area. 

  Sixth, a stabilisation function should contribute to the integrity of the Union. 
The  setting  up  of  a  stabilisation  function  would  send  an  important  signal  of 
common  commitment  to  the  deepening  of  EMU.  It  would  thus  address  the 
problem encountered in the euro crisis when the currency union was questioned 
in its very fundamentals. 

16 In practice, in case of a very fast deterioration of public finances and significant market pressures, it is 
not excluded that a Member State would take recourse to an ESM programme without prior support from a 
stabilisation function. 

24 

 
                                                            
A stabilisation function would find its place as a complement to existing tools in the 
EMU architecture: 

 

It  would  act  in  conjunction  with  economic  governance  provisions,  in 
particular  the  rules  governing  the  EU  fiscal  framework.  To  allow  for  an 
adequate fiscal policy response in large downturns, the workings of a stabilisation 
function  and  the  application  of  the  fiscal  rules  need  to  go  hand  in  hand.  As 
discussed  above,  a  stabilisation  function  would  complement  existing  stabilisers, 
in  particular  national  fiscal  policies.  In  deep  downturns,  the  flexibility  in  the 
Stability  and  Growth  Pact  allows  for  a  measured  fiscal  policy  response  that 
balances the primary objective of sustainable public finances with the dimension 
of  economic  stabilisation.  The  stabilisation  function  could  allow  a  better 
reconciliation  of  the  involved  trade-off,  by  providing  support  in  severe 
circumstances and possibly also incentivising sounder positions in good times.  

  A stabilisation function would operate as a crisis prevention tool, making it 
different  from  existing  forms  of  ESM  assistance  granted  in  support  of  a 
macroeconomic adjustment programme, calling for a careful design of their 
interaction. A stabilisation function would kick in case of a large shock, which is 
less  grave  than  a  full-blown  economic  crisis.  Ideally, it  would  allow  cushioning 
economic  shocks  to  prevent  recourse  to  the  ESM.  Still,  in  case  financial 
assistance becomes necessary, the operation of a stabilisation function needs to be 
clearly  delimited.  For  instance,  support  from  a  stabilisation  function,  which 
operates via the provision of favourable loans, would cease with recourse to the 
ESM  in  the  event  of  full-blown  financial  assistance  programmes.  However,  the 
resources  that  would  have  been  transferred  by  the  stabilisation  function  to  the 
Member  State  would  be  covered  by  the  programme  envelope.  By  stopping  the 
stabilisation function when financial assistance is granted, the limited resources of 
the  stabilisation  function  could  be  used  to  stabilise  economic  activity  in  other 
Member  States  particularly  in  those  hit  by  negative  spill-overs.  By  contrast  a 
stabilisation function, which operates via the provision of budget support or direct 
spending  programmes,  would  be  complementary 
to  financial  assistance 
programmes  by  the  ESM  and  could  thus  operate  in  parallel  and  in  conjunction 
with those. 

5.  WHAT ARE THE AVAILABLE POLICY OPTIONS? 

Different  policy  options  are  available  for  a  stabilisation  function,  which  are  not 
mutually  exclusive.  For  the  sake  of  simplicity,  this  section  will  focus  on  selected 
stylised  designs.  It  will  link  these  to  the  proposal  put  forward  by  the  European 
Commission  as  part  of  the  MFF  proposal.  All  options  have  pros  and  cons  vis-à-vis  the 
objectives of the stabilisation function. It should be noted upfront that the active policy 

25 

 
 
 
options below are non-exclusive and therefore can be combined. In this section, they will 
be presented one by one. 

On  the  question  of  the  geographical  scope,  there  are  economic  reasons  to  target  a 
stabilisation  function  on  the  euro  area  but  a  more  inclusive  approach  can  also  be 
defended.  As  lined  out  in  the  problem  definition,  the  need  for  additional  means  of 
macroeconomic  stabilisation  is  particular  pressing  for  the  euro  area,  as  national 
stabilisers might become overburdened in absence of a country-specific foreign exchange 
rates  and  monetary  policies.  This  is  why  the  adoption  of  such  an  instrument  is  more 
especially  desirable  for  euro  area  Member  States,  which  is  retained  as  working 
assumption for the geographical scope in this impact assessment. However, it can also be 
argued that participation in a stabilisation function would also be beneficial to non-euro 
area  Member  States.  Even  before  adoption  of  the  euro,  the  additional  macroeconomic 
support provided by a stabilisation function could provide cushion for countries affected 
by large shocks. There are also political considerations to assess in choosing between a 
focused versus a more inclusive approach. One additional dimension to be considered is 
that not-yet-euro area Member States may find it joining the scheme useful when joining 
the ERM-II mechanism, since already at this stage their national monetary and exchange 
rate policies might become constraint. This makes a case for extending  the stabilisation 
function to at least countries within ERM-II.  

The categorisation of the policy options follows a taxonomy of designs. It focuses on 
the conceptual nature of the instrument. This distinguishes between a borrowing-lending 
scheme, an insurance mechanism, and a euro area budget.17 Within each of those general 
options,  sub-options  and  sub-varieties  can  be  envisaged:  sub-options  pertain  to  issues 
such  as  calibration,  triggering  criteria,  eligibility  conditions,  and  use  of  funds.  Those 
choices are also presented and discussed. 

5.1.  What is the baseline from which options are assessed? 

Option 1: Status quo 

The benchmark option would be to maintain the status quo. Over the past years, the 
EMU  architecture  was  strengthened  and  further  improvements  are  underway,  as 
described in section 2. There could thus be a merit in further analysing the operation of 
these innovations, also in light of political obstacles to additional innovations.  

The  status  quo  presumes  that  currently  pending  legislation  and  proposals  by  the 
Commission would be adopted. Option 1 thus presumes that a backstop for the Single 
Resolution Fund (SRF) is being put in place. This contributes importantly to furthering 
the  Banking  Union  but  does  not  modify  the  analysis  concerning  the  need  for 
macroeconomic stabilisation mechanisms. Option 1 presumes that the different proposals 

17 A similar taxonomy was used in: “Options for a Central Fiscal Capacity in the Euro Area,” Euro Area 
Policies, Selected Issues, IMF Country Report No. 16/220, July 2016. 

26 

 
 
                                                            
for  the  capital  markets  union  and  the  recent  package  on  non-performing  loans  are  in 
place and yield the desired risk reduction in financial markets. Furthermore, the Reform 
Delivery Tool is in place and creates additional incentives for needed structural reforms.  

The  status  quo  also  assumes  that  the  proposal  for  the  creation  of  the  EMF  is 
adopted,  leading  to  more  transparency  and  accountability  in  its  operations  and 
decisions, but not per se entailing new instruments. It is possible that the ESM/EMF 
shareholders  establish  new  lending  instruments,  and  in  particular,  eventually  develop  a 
stabilisation  instrument,  which  could  be  similar  to  the  ones  envisaged  in  the  options 
presented  subsequently.  The  creation  of  such  an  instrument,  while  envisaged,  is 
nevertheless not enshrined in the legal provisions of the EMF proposed Regulation, and 
therefore  is  not  considered  as  being  part  of  the  baseline  scenario.  However,  if  the 
ESM/EMF were in the future entrusted with such an instrument, it would be possible and 
desirable that it works in complement to the options described below, in particular when 
it  comes  to  option 2.  The  possibility  of  complementary  instruments  backed  by  the  EU 
budget  and  by  the  ESM/EMF  jointly  contributing  to  enhanced  macroeconomic 
stabilisation is explicitly foreseen in European Commission (2017 D). 

The status quo option would leave the euro area exposed to the risks evidenced over 
the  past  and  presented  in  previous  sections.  While  the  euro  area  economy  is  now 
expanding  again,  the  vulnerabilities exposed  in  sections 2-3  remain  and  the  capacity  of 
the  euro  area  and  Member  States  to  smooth  large  macroeconomic  shocks  is  not  yet 
sufficient. In the presence of large shocks, even in highly integrated financial markets as 
achieved  by  the  completion  of  Banking  Union,  there  is  a  risk  of  a  pro-cyclical  drop  in 
risk  sharing  in  absence  of  central  fiscal  instruments  (see  section  2).  Furthermore,  the 
automatic stabilisers may become insufficient to ensure proper stabilisation, especially in 
small  open  economies.  This  may  be  aggravated  by  the  inability  of  an  overburdened 
monetary policy to fully respond to common negative shocks (see section 3).  

The cost of non-acting could range from moderate to very large. A moderate cost of 
insufficient  shock  absorption  capacities  would  consist  in  sub-optimal  fiscal  and  public 
investment  policies,  characterised  as  in  the  past  by  strong  pro-cyclical  tendencies, 
notwithstanding the preventive effects of fiscal rules. This has significant costs in terms 
of  amplifying  business  cycles  and  their  consequences  on  unemployment,  as  well  as 
compromising  investments  that  foster  long-run  growth  and  productivity.  But  more 
dramatic costs can  also ensue in  the baseline  under a worst case scenario which would 
involve  a  re-run  of  the  past  crisis  or  some  variant  thereof.  This  may  eventually  trigger 
highly disruptive crises and increase risks of fragmentation of the zone, with the ultimate 
risk involving a break-up with wide-ranging economic and political consequences for the 
EMU and EU projects.  

27 

 
 
 
5.2.  Description of the policy options 

Option 2: Borrowing and lending scheme (favourable loans) 

In a borrowing lending scheme a central agent, e.g. the European Union, borrows in 
order to on-lend to the concerned Member State(s) at the same conditions it gets on 
the market. Such a mechanism provides Member States with the necessary financing to 
continue executing their budgets. In the Commission proposal, the support would be used 
to maintain adequate levels of public investment in the cohesion sectors. In this particular 
design, the loan is accompanied by a limited grant component in the form of an interest 
rate subsidy. The latter would be used to further reduce the interest rate of the back-to-
back loan given to the Member State. 

The  size  of  the  borrowing  and  lending  scheme  depends  on  the  margin  available 
under  the  EU  budget.  In  a  similar  fashion  to  the  EFSM,  all  loans  issued  under  this 
option  would  have  to  be  guaranteed  in  full  by  the  EU's  own  resources.  The  ability  to 
issue loans would therefore be limited to an earmarked part of the headroom between the 
own  resources  ceiling  and  the  annual  budget,  the  so-called  margin.  It  would  therefore 
depend on the possibility to raise the own resources ceiling and on arbitrages with other 
instruments  based  on  the  same  margin.  In  numerical  simulations,  this  document 
considers a maximum volume of outstanding loans set between EUR 30 and 100 billion 
(see section 6, in particular sub-section 6.1.3, for a discussion).18 

Support  is  activated  in  case  of  large  country-specific  shocks,  defined  through 
triggering conditions. Support should be targeted to situations where Member States are 
especially  hit  by  a  large  macroeconomic  shock.  To  allow  for  timely  and  undisputed 
activation,  triggering  should  be  automatic  and  rapid  on  the  basis  of  pre-defined 
parameters, as evoked in European Commission (2017 C). This document briefly review 
some possible triggering criteria, including those based on output gap and GDP growth, 
but favours and examines in more details triggering conditions based on unemployment 
rates (see section 6, in particular sub-section 6.1).  

A double condition on unemployment rates appears as a pragmatic option for such 
an  activation  trigger.  There  is  no  perfect  design  or  parametrisation  of  an  activation 
trigger, as the notion of an automatic criterion inevitably bears a degree of simplicity and 
some imperfections. However, a pragmatic option, retained in the Commission proposal, 
is a “double condition” on unemployment rates: it links the activation of the stabilisation 
support  to  a  condition  involving  both  the  level  of  the  national  unemployment  rate 
(compared to its past average) and the change in unemployment (compared to a certain 
threshold).  While  not  perfect,  such  a  condition  appears  robust  to  characterise  the 
existence  of  large  asymmetric  shock  and  avoid  significant  'mistakes'.  Section  6  will 
provide  additional  reflections  on  this  matter,  including  simulations  confirming  the 
adequacy of activation provided by the double condition. 

18 Approximately 0.3% and 1% of GDP respectively. 

28 

 
                                                            
To ensure that the availability of support through the stabilisation function does not 
reduce  incentives  for  prudent  fiscal  policy,  strict  eligibility  criteria  are  needed.  As 
highlighted  in  section  3,  prudent  national  fiscal  policies  remain  primordial  for  an 
effective  fiscal  policy  response  in  case  of  large  downturns.  That  is  why  conditions  of 
compliance with the EU surveillance framework appear needed as an eligibility criterion. 
Given that option 2 entails mainly support in the form of loans which are legally required 
to be repaid (as opposed to outright transfers, as would materialise notably in option 3), 
the set of eligibility conditions could nevertheless be relatively focused.  

A  possibility  to  consider  would  be  inspired  by  conditions  employed  in  the 
framework for macroeconomic conditionality. Those require that: 

  Concerning  fiscal  surveillance,  Member  States  in  excessive  deficit  procedures 

and in significant deviation procedures need to deliver effective actions.  

  Concerning the Macroeconomic Imbalances Procedure, Member States shall not 
repeatedly  fail  to  deliver  sufficient  corrective  actions  plans  or  fail  to  take 
recommended corrective action.  

Therefore,  under  these  conditions  Member  States  could  for  instance  be  in  an  excessive 
deficit procedure and still benefit from the stabilisation function, as long as they meet the 
requirements from EDP recommendations. Such an approach avoids that Member States 
are 'cut off' from the instrument at the very moment when they may need it the most.  

In  this  approach,  it  is  natural  that  the  degree  of  support,  as  materialised  by  the 
amount of lending granted, takes into account the size of the economic shock. Once 
the  triggering  conditions  for  the  stabilisation  function  have  been  met,  the  amount  of 
support  given  to  a  Member  State  could  be  determined  as  a  function  of  an  overall 
envelope  in  conjunction  with  the  severity  of  the  shock.  Box  1  provides  a  detailed 
description.  The  use  of  an  explicit  formula  for  establishing  the  degree  of  support  is 
consistent  with  an  instrument  functioning  in  a  quasi-automatic  and  predictable  manner. 
Timeliness and predictability are a key elements to ensure that support is available before 
a  full  blown  crisis  could  emerge.  Automaticity  also  carries  a  signalling  effect  towards 
financial  markets,  which  can  positively  affect  the  borrowing  conditions  of  concerned 
Member States beyond the direct effect of the scheme.  

The  procedure  for  granting  loans  would  be  quasi-automatic.  Once  triggering 
conditions and eligibility criteria are met, the concerned Member State would know that 
it has access to the facility, should it wish so. A Member State would remain free to tap 
into  the  lending  made  available  by  the  stabilisation  function,  i.e.  the  procedure  for 
granting  lending  support  would  have  to  be  initiated  by  the  concerned  Member  State. 
Once this is the case however, the support should come rapidly and in a quasi-automatic 
manner.  This  is  consistent  with  a  timely  stabilisation  support  and  the  objective  of 
preventing  a  difficult  economic  situation  from  getting  worse.  In  this  spirit,  it  would  be 
logical  that  once  support  is  requested  and  again,  assuming  that  the  triggering  and 
eligibility  criteria  are  met,  the  decision  and  implementation  of  support  is  left  to  the 
European Commission, without involving a decision from the Council.  

29 

 
Box 1: Determination of size of the loan support 

The maximum envelope for the loan support would be determined by: 

𝐼𝑆 = 𝛼

𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑃𝑢𝑏𝑙𝑖𝑐 𝐼𝑛𝑣𝑒𝑠𝑡𝑚𝑒𝑛𝑡EU  
𝐺𝐷𝑃EU

× 𝐺𝐷𝑃MS 

The main component is the ratio of eligible public investment to GDP in the EU at current prices and on 
average  over  a  period  of  certain  number  of  years  (e.g.  5  years)  before  the  request  of  the  support: 
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑃𝑢𝑏𝑙𝑖𝑐 𝐼𝑛𝑣𝑒𝑠𝑡𝑚𝑒𝑛𝑡𝐸𝑈  
. This ratio is calibrated by the GDP of the Member State concerned (𝐺𝐷𝑃𝑀𝑆 in 
𝐺𝐷𝑃𝐸𝑈
current prices and on average over a period of five years before the request for support).  The underlying 
logic is that an adequate level of public investment should be taken as a reference, while ensuring equal 
treatment  among  Member  States.19  The  amount  of  the  public  investment  level  supported  by  the 
stabilisation function is further scaled by a factor α. This factor reflects the maximum amount which can be 
made  available  with  the  backing  of  the  EU  budget.  This  must  be  set  taking  into  account  the  budget 
constraint but also the probability and severity of shocks which could activate the stabilisation function in 
the future. The latter two are estimated in reference to the past activation periods (see subsection 6.1.3 on 
the numerical calibration of the parameters). 

The  actual  amount  of  the  loan  to  be  granted  would  be  a  function  of  the  severity  of  the  shock.  It 
captures the increase of the national unemployment rate above the threshold that triggered the activation of 
the stabilisation function. The formula below is applied: 

𝑆 = 𝛽 × 𝐼𝑆 × (𝐼𝑛𝑐𝑟𝑒𝑎𝑠𝑒 𝑖𝑛 𝑢𝑛𝑒𝑚𝑝𝑙𝑜𝑦𝑚𝑒𝑛𝑡MS − 𝑡ℎ𝑟𝑒𝑠ℎ𝑜𝑙𝑑 𝑙𝑒𝑣𝑒𝑙) 
𝑠𝑢𝑏𝑗𝑒𝑐𝑡 𝑡𝑜 𝑆  ≤ 𝐼𝑆 

Where  β  is  a  sensitivity  parameter  to  the  severity  of  the  shock.  The  size  of  support  is  capped  by  the 
maximum available level for a given Member State 𝐼𝑆 determined in the previous step.  

In  specific  circumstances,  the  size  of  the  loan  can  be  topped  up.  In  addition  to  the  automatic 
component,  the  Commission  may  decide,  under  specific  circumstances  to  increase  the  loan  up  to  the 
maximum support Is. The Commission would take into account extraordinary factors including the increase 
in the national unemployment rate of the Member State concerned.  

To  avoid  budget  overruns,  two  additional  lines  of  defence  should  be  introduced.  At  the  aggregate 
level, it could be provisioned that the outstanding amount of loans should not exceed a certain ceiling. In 
addition, the support to a member state could be capped to avoid exhausting the remaining resources under 
this  ceiling.  Although  such  provision  may  be  required  for  budget  certainty,  to  ensure  that  the  loans 
mechanism plays in full, it is important that they are binding only in exceptional and rare cases. For this 
reason, the parametrisation of the support must be carefully calibrated. 

This approach to decision-making would nevertheless differ from the procedure in 
place  for  other  instruments.  In  the  case  of  financial  assistance  programmes  such  as 
those  granted  under  the  EFSM,  there  is  considerably  more  discretion  in  the  decision-
making process, and the Council must make an explicit decision on a case by case basis. 
However,  these  other  instruments  are  usually  related  to  a  process  of  economic  policy 
coordination  in  the  context  of  a  macroeconomic  adjustment  programme  and  financing 

19 An approach based on national public investment activity would entail that Member States with higher 
levels of public investment would benefit more, raising questions of equal treatment.  

30 

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
                                                            
needs are  determined on a  case-by-case basis. A heavy  decision  making process seems 
therefore  justified  in  these  cases,  while  the  stabilisation  function  would  benefit  from 
having a light procedure given the quasi-automaticity of the formula.   

To make the lending more attractive and effective, a grant component could be used 
in  order  to  de  facto  subsidize  the  interest  rate  charged  on  the  back-to-back  loans. 
The  purpose  of  such  grants  is  two-fold:  first,  it  can  provide  additional  support  to  a 
Member  State  undergoing  an  adverse  economic  event  and  facing  particularly  tight 
financing  conditions  on  the  market  without  yet  being  in  a  financial  assistance  context. 
Second, it would make the stabilisation function more attractive, also for Member States 
benefiting  from  low  interest  rates  on  the  market.  A  simple  approach  would  be  to 
proportion the amount of grants to the interest costs pertaining to the back-to-back loan 
that  the  Member  State  is  availing  of.  The  overall  size  and  cost  of  the  grant  component 
would  therefore  be  limited  and  predictable.  First,  the  interest  subsidy  could  at  most 
compensate  for  the  interest  expenditure  linked  to  individual  loans.  Second,  the  interest 
subsidy would be proportional to the overall loan volumes. 

This  grant  component  could  a  priori  be  financed  with  different  means,  including 
from  the  EU  budget  and/or  from  member  states'  contributions.  As  regards  the 
financing of the grant component, two options are possible. One possibility would be for 
the EU budget to directly provide the  interest subsidy. This would require a line in the 
EU  budget  under  the  payments  ceiling.  That  approach  would  have  the  advantage  of 
securing  the  interest  subsidy  as  part of  the  EU  budget,  consistent  with  the  provision  of 
lending also backed by the EU budget. A possible complication may nevertheless arise if 
the geographical scope of the stabilisation  function  focuses on a subset of EU Member 
States (such as the euro area). Still, amounts would be fairly small and this risk could be 
attenuated  by  a  careful  design  of  the  contributions  to  such  financing.  As  another  (non-
exclusive)  possibility,  Member  States  could  voluntarily  agree  to  pool  national 
contributions in order to allow for the financing of the interest subsidy. Irrespective of the 
exact source of financing, the resources for a limited grant component could be pooled in 
a dedicated fund.  

Option 3: Insurance mechanism 

An  insurance  mechanism  would  provide  sizeable  fiscal  policy  support  to  Member 
States in the form of grants to cushion large shocks. Conceptually, it is comparable to 
a rainy day fund, with or without the possibility of borrowing. Similar to an insurance, it 
would  provide  pay-outs  to  Member  States  in  pre-defined  adverse  circumstances.  In 
return, regular contributions or an own resource would be needed to balance the system 
in  the  long  run.  The  pay-outs  could  take  the  form  of  budget  support  or  may  be  tied  to 
critical  public  expenditure,  such  as  public  investments  or  unemployment  benefits. 
Critically,  an  insurance mechanism  would  need  to  accumulate  funds  to  be  disbursed  in 
case of large shocks. At this stage, the Commission has not adopted a specific proposal, 
but  has  stated  the  intention  to  complement  option  2  with  an  insurance  mechanism.  A 
stylised vision of an insurance mechanism is presented below, elaborating and discussing 
selected design choices and sub-options.  

31 

 
Similar to option 2, the triggering and size of support in option 3 could be tied to a 
double condition on unemployment rates. Also in case of an insurance mechanism the 
double  condition  on  unemployment  would  allow  for  a  pragmatic  measure  of  large 
shocks.  Similarly,  the  size  of  support  would  be  tied  to  the  size  of  the  shock,  e.g.  the 
increase in unemployment over and above a certain threshold increase, to ensure the most 
effective distribution of means.  

To ensure a balanced position a regular flow of resources is needed. They could take 
the  form  of  contributions  from  Member  States  or  of  a  new  own  resource.  Simulations 
suggest that already a small, regular stream of resources would allow for disbursements 
of  sizeable  support  in  the  downturn.  Resources  could  take  the  form  of  regular 
contributions or could be scaled as a function of the business cycle and past access to the 
insurance funds (in the logic of insurance premia). The latter features may be important 
to ensure cross-country neutrality over time. 

The  possible  addition of  a  borrowing  capacity  has  important  repercussions  on  the 
functioning  and  impact  of  an  insurance  mechanism.  In  the  absence  of  a  borrowing 
capacity,  often  referred  to  as  a  rainy  day  fund  sensu  stricto,  an  insurance  mechanism 
could  only  dispense  support  up  to  accumulated  contributions.  In  practice,  this  could 
entail that support runs dry during the downturn and/or create problems with regards to 
the  equal  treatment  of  Member  States  due  to  the  sequencing  of  support.  A  limited 
borrowing  capacity20  would  solve  these  risks  and  allow  for  smaller  accumulation  of 
funds  ex  ante.  Nonetheless,  it  may  complicate  the  political  acceptability  of  such  a 
mechanism.  

Option 4: A euro area budget 

A common budget for the euro area would arguably be the most ambitious design 
for a stabilisation function. The proposal was brought up several times in the past years 
and has gained renewed attention. President Macron (2017) called for a euro area budget 
for common investments and to ensure stabilisation in the event of economic shocks.21 In 
practice, a common budget would involve permanent own resources on the revenue side 
and permanent spending functions on the expenditure side.  

In  this  case,  the  stabilisation  effect  comes  from  the  cyclicality  of  the  revenues  or 
expenditures comprising the budget. In option 2 and 3, the stabilisation properties of 
the  instruments  are  generated  by  their  activation  and  dis-activation  depending  on 
economic shocks. A common budget would not primarily target economic stabilisation, 
but  rather  the  provision  of  European  public  goods.  Still,  reliance  on  cyclical  revenues 
(e.g.  corporate  income  tax)  and  countercyclical  spending  (e.g.  unemployment  benefits) 
contribute  to  macroeconomic  stabilisation  via  automatic  stabilisers  at  the  EU  level.  In 

20 Borrowing against future incomes of the fund while maintaining solvability. 
21 Macron, “Initiative pour l'Europe - Discours d'Emmanuel Macron pour une Europe souveraine, unie, 
démocratique”: http://www.elysee.fr/declarations/article/initiative-pour-l-europe-discours-d-emmanuel-
macron-pour-une-europe-souveraine-unie-democratique/  

32 

 
                                                            
addition, one could foresee discretionary elements which could further foster stabilisation 
properties. 

A combination of options 

A combination mixing the above approaches is conceivable. As will emerge from the 
assessments  of  the  options  (see  notably  the  conclusions  of sub-section 6.5),  the  options 
can  be  seen  as  fulfilling  the  objectives  in  a  complementary  manner.  It  is  therefore 
conceivable that they co-exist in a long-term perspective. It is also possible to conceive a 
step-based approach to the stabilisation function.  

As  a  first  step  of  a  phased  approach,  one  could  envisage  a  loans  facility,  together 
with limited grants that would allow favourable interest rates, in order to support 
public  investment.  A  Member  State  facing  a  large  asymmetric  shock  would 
automatically  be  entitled  to  benefit  from  available  financing  provided  through  the 
stabilisation function. The support would mostly rely on loans, to be supplemented with a 
limited grant support. The EU budget would provide back-to-back loans. Grants from the 
EU budget would be used to achieve particularly favourable interest rates to the benefit 
of Member States. Such an approach was discussed in European Commission (2017 D) 
and corresponds to option 2. 

In a later, second step, one could envisage the creation of an insurance mechanism. 
This suggestion was proposed by European Commission (2017 D) as a second step to be 
implemented  in  the  future  when  conditions  for  it  are  met.  This  corresponds  broadly  to 
option 3. 

6. 

IMPACT EVALUATION OF THE OPTIONS

22

This section analyses qualitatively and quantitatively the value added of the various 
options  (laid  out  in  section 5)  in  reaching  the  objectives  (exposed  in  section 4). 
Option 1 will serve as benchmark against which proposals are assessed. The section lays 
out  the  main  channels  through  which  the  different  options  would  contribute  to 
strengthening  the  resilience  of  the  European  economies  and  to  the  achievement  of  the 
specific  objectives.  As  appropriate,  quantitative  methods,  such  as  simulations  and 
regressive analysis, are used to substantiate the qualitative evaluation. 

This section evaluates the choices to be made and the relevance of the different options 
along three dimensions: 

  The  selection  of  the  activation  trigger,  which  needs  to  be  timely.  This  is  a 
common  issue  for  option  2  and  option 3.  Therefore,  the  discussion  of  the 

22 This regroups the questions: What are the impacts of the policy options? How do the options compare? 
What are the preferred options? 

33 

 
 
  
 
                                                            
activation  trigger  will  be  made  irrespective  of  that  option.  In  the  case  of  a  full 
budget (option 4), there is no need for a trigger.  

  The  stabilisation  power.  This  is  the  effectiveness  of  the  scheme  in  absorbing 
asymmetric  shocks,  allowing  the  conduct  of  smoother  fiscal  policies,  and 
preserving public investments.  

  The  cross-country  neutrality.  This  relates  in  particular  to  the  absence  of 

permanent transfers, and means to secure that objective.  

6.1. 

Selection of the activation trigger 

in 

in  detail 

An  activation  trigger  is  a  crucial  element  in  option  2  and  3.  Its  design  and 
calibration  are  discussed 
this  sub-section.  The  Commission 
Communication on new budgetary instruments for the euro area calls for a stabilisation 
function  that  is  'timely  and  effective'.  For  eligible  countries,  "triggering  should  be 
activated automatically and rapidly on the basis of pre-defined parameters (for example, 
based  on  a  large  temporary  negative  deviation from  their  unemployment  or  investment 
trend)".  The  objective  is  to  complement  the  national  stabilisers  in  the  event  of  "large 
asymmetric shocks". 

6.1.1.  Choice of trigger variable 

The  triggering  criterion  should  be  based  on  the  evidence  of  large  cyclical  shocks 
affecting the concerned Member State(s).  

The possible options are: 

i. 
The output gap. In theory, the output gap is the most straightforward indicator of 
cyclical developments, but it faces implementation issues.23 In practice the output gap is 
'unobservable'  and  its  estimation  reflects  many  assumptions.  Given  the  possible 
controversies over measurement and the large revisions of the output gap over time, it is 
probably  not  the  best  option  to  base  the  activation  of  a  macroeconomic  stabilisation 
function on. 

ii.    GDP growth. Two sub-options: 

  Recession  (negative  growth)  as  the  trigger.  This  option  is  limited  by  the  large 
differences  between  Member  States  regarding  their  potential  growth  (Malta: 
5.6%;  Ireland:  5.1%;  Greece:  -0.9%;  Italy:  0.2%  -  figures  for  2017  from 
Commission  autumn  2017  forecast).  Using  recession  as  a  criterion  would 
massively  skew  the  scheme  in  favour  of  countries  with  the  lowest  potential 
growth.  

23 The gap between actual GDP and potential GDP. This gap reflects mainly cyclical demand shocks, such 
as  a  fall  in  export  markets.  The  stabilisation  function  aims  at  smoothing  out  the  effects  of  such  large 
shocks, without however providing permanent support and substituting for needed adjustments. 

34 

 
 
                                                            
  GDP growth compared to trend growth. To correct for the limitation of the above 
option,  GDP  growth  could  be  compared  to  its  trend.  This  indicator  is  therefore 
equal  to the  change  in  the  output  gap.  It  is therefore  exposed  to  the  problem  of 
unobservable variables (although with lesser uncertainty than on the level of the 
output  gap).  In  addition,  there  would  be  situations  where  the  sole  information 
from the change in the output gap is too limited: for example one may not wish to 
support a country with a positive level output gap just because the output gap is 
declining. 

the 

the 

Figure  17:  Cyclical  indicators,  the  output 
gap and the unemployment rate 

iii.   An  unemployment  rate  trigger.  The  unemployment  rate  has  several  valuable 
properties: it is well-known, harmonised, available at high frequency with short delays, 
and subject to limited revisions. It is an excellent indicator of the business cycle, purging 
some of the short-term noise of GDP (Figure 17). It reacts however with some lag to the 
business cycle. This may not be such an issue for a stabilisation function focused on large 
shocks.  Moreover  the  effects  of  shocks  on  public  finances  also  tend  to  lag  the  growth 
cycle  and  actually  to  more  or  less  match  the  unemployment  cycle.  In  addition,  it  is 
important for the credibility of the system that in the initial phase of the shock national  
automatic  stabilisers  and  policies  are 
called 
lag 
to  operate.  Thereby 
reflecting the use of unemployment level 
is 
function 
stabilisation 
until 
activated,  would  not  undermine 
the 
utility  of  the  latter.  A  more  significant 
potential limitation of the unemployment 
rate,  however,  is  that  its  sensitivity  to 
cyclical 
shocks  may  differ  across 
Member  States,  for  example  because 
some  economies  have  more  developed 
working-time 
in 
downturns.24 
technical 
Another 
the 
that 
the 
consideration 
assessment  of  cyclical  developments  are 
affected  by  structural  improvements  in 
labour  markets,  but  such  effects  appear 
limited empirically.  

Source/note: Eurostat, and AMECO. The opposite of 
the unemployment rate (in blue) replicates closely the 
fluctuations of the output gap (in yellow). 

arrangements 

risk 

is 

iv. 
Discretionary approach based on a set of indicators. A fourth option would be 
based on a set of indicators to identify the presence of a large cyclical disturbance for the 
Member  State.  The  indicators  can  include  notably  business  surveys,  GDP,  the  labour 
market  and  inflation.  It  is  however  likely  that  such  an  approach  based  on  a  range  of 
indicators would have to involve a degree of judgment (i.e., not just reflect a 'pre-defined' 
algorithm,  as  the  latter  would  be  very  challenging  to  write  down  to  cover  all  possible 

24 Working hours could be a superior indicator conceptually, but their harmonized measurement is much 
less assured than for unemployment.  

35 

 
                                                            
 
situations). This may be the most encompassing avenue from an economic viewpoint, but 
it conflicts with the automatic nature of the triggering.  

Overall,  an  unemployment  based  trigger  appears  as  a viable  pragmatic  option  for 
the activation of support. This line of reasoning favouring the unemployment rate as the 
indicator to trigger the mechanism is found in several recent studies (see Table 1) as well 
as  in  the  European  Fiscal  Board's  Annual  Report  (2017).  Across  the  literature,  broad 
support has emerged to favour the unemployment rate as basis for the trigger indicator. 

6.1.2.  Choice of trigger design and parametrisation 

A  stabilisation  function  for  the  euro  area  should  cushion  large  asymmetric  shocks 
only, calling for prudent activation and limiting the risk of questionable support. As 
highlighted  in  the  6  December  Package,  national  fiscal  policies,  monetary  policy  and 
structural  reforms  remain  the  core  levers  to  ensure  reliance  in  the  wake  of  downturns. 
The  stabilisation  function  is  supposed  to  complement  these  in  case  of  truly  large 
asymmetric  shocks,  calling  for  a  calibration  which  places  much  emphasis  on  avoiding 
unduly support. Such a restrictive approach appears essential to prevent moral hazard and 
permanent  transfers.  Nonetheless,  it  would  entail  an  opportunity  cost  in  the  sense  of 
sometimes not providing support even though a case could be made for it. 

The  technical  discussions  around  an  unemployment-based  activation  trigger  focus 
on two designs: a simple trigger and a double trigger (Table 1). Simple triggers can 
refer to either the level or the change in unemployment. Arnold et al. (2018) and Dullien 
et al. (2017) propose the mechanism to be triggered if the level of unemployment rates is 
above previous years averages. A group of French-German economists (Bénassy-Quéré 
et  al.,  2018)  propose  to  trigger  the  mechanism  if  the  unemployment  rate  increases 
significantly.  In  either  cases,  thresholds  can  be  introduced  to  react  only  to  large 
deviations.  Both  concepts  have  merits,  such  as  a  higher  extent  of  simplicity.  A  double 
trigger,  in  contrast,  combines  both  a  condition  on  the  level  and  on  the  change  in 
unemployment.  It  has  been  proposed  by  Carnot  et  al  (2017)  and  Claveres  and  Stráský 
(2018).  

36 

 
 
Table 1: Comparison of activation triggers proposed in the literature 

Carnot et al. 
(2017) 

Dullien et al. 
(2017) 

Arnold et al. 
(2018) 

Claveres and 
Stráský (2018) 

Bénassy-Quéré 
et al. (2018) 

Double condition:  

- unemployment 
level above the 10-
15 years moving 
average  

- unemployment 
rising, possibly 
above a threshold 

Level of 
unemployment 
rate exceeding 
average level of 
past 5 years, by 0.2 
pp for national 
compartment, by 
2.0 pp for stormy 
day fund 

Level of 
unemployment 
rate above 7 
year moving 
average (in pp or 
in %) 

Double 
condition:  

- unemployment 
level above the 
10 year moving 
average 

- unemployment 
rising 

Change in 
unemployment 
rate, 
employment or 
wage bill 
above/below a 
threshold (e.g. 2 
pp for 
unemployment) 

The specific approach that is favoured here relies on a condition involving both the 
level and the rate of change of the national unemployment rate. Specifically, in light 
of the simulations presented in what follows, the stabilisation support could be triggered 
based on the observation of both:  

  An unemployment rate above the historic average of the country, for example its 
average  over  the  past  10-15  years.  This  condition  is  needed  to  put  countries  on 
par, irrespective of their permanent (structural) level of unemployment; 

  An  unemployment  rate  that  is  increasing  over  the  past  year.  To  restrict  the 
activation conditions further, it is considered that the increase should go beyond a 
certain  threshold,  specifically  0.5-1.5  percentage  point,  with  a  value  of  1.0 
percentage point taken as the central assumption. The amount of support should 
be linked to the increase in the unemployment rate (beyond the threshold if there 
is a threshold).  

Such a double condition, especially when incorporating a threshold, ensures with a great 
degree of assurance that the Member State is indeed confronted with a large shock with a 
temporary  and  country  specific  element.  With  a  threshold  set  between  0.5  and  1.5 
percentage  point  (i.e.  increases  below  this  value  does  not  trigger  the  mechanism), 
between one third and four fifth of the unemployment increases would be entirely left to 
the responsibility of the national stabilizers (Figure 18). Based on past experience, for a 
threshold of 1 percentage point, the frequency of activation would be slightly above 10% 
(i.e. once per decade for a country) (Figure 19). 

37 

 
 
Figure  18:  Proportion  of  unemployment 
increases above a certain value 

Figure  19:  Frequency  of  activation 
depending on the threshold  

Source:  Eurostat,  authors’  calculations  based  on 
year-on-year  increases  in  quarterly  unemployment 
rates since 1985. Available data may start later for 
some Member States. 

Source/Note:  Eurostat,  authors’ 
calculations.  
Based  on  simulation  for  the  EA19  since  1985. 
Coloured  areas  correspond  to  the  range  of  values 
for  reference  rates  computed  over10  to  15  years. 
This  dimension  only  has  a  secondary  effect  on  the 
frequency  of  activation  especially  with  the  double 
trigger. 

The double condition allows for support to be targeted at times of sizeable economic 
worsening. Figure 20 and Figure 21 illustrates the application of the simple trigger and 
the double trigger on the unemployment rate. The double trigger targets more specifically 
the  situations  where  unemployment  is  rising,  i.e.  times  of  economic  worsening.  In 
comparison,  a  simple  trigger offers support also when the recovery is already  on track. 
For both kinds of approaches (single or double trigger), a threshold can allow support to 
be less often distributed (Figure 20.b. and Figure 21.b.). This option is not very attractive 
for the simple trigger as it mostly delays the support, but for the double trigger it allows 
not to provide support when the economic shock is deemed minor. 

38 

 
 
 
 
Figure 20: Illustration of activation of 
support with simple trigger (Irish case) 

Figure 21: Illustration of activation of 
support with double trigger (Irish case) 

a. no threshold 

a. no threshold 

b. threshold 1 pp 

b. threshold 1 pp 

Source/Note: European Commission 2017 autumn forecast, authors’ calculations 
reference rate = 15 year moving average of the unemployment rate 

Simulations for the EA19 since the  mid-nineties  confirm that the double trigger  is 
more  targeted  than  the  simple  one.  In  particular,  during  the  period  2009-2014  the 
double  trigger  would  have  induced  two  peaks  of  support  for  80%  and  40%  of  the 
Member States (Figure 22) which weighted for a similar fraction of the euro area GDP 
(Figure  23).  On  average  over  the  period,  support  would  have  been  granted  for  almost 
12% of the cases with the double trigger (more than 34% with the simple trigger). This 
frequency  of  activation  depends  largely  on  the  chosen  threshold:  a  higher  threshold 
leaves the adjustment to larger shocks under the sole responsibility of Member States and 
therefore  provides  support  less  often  (Figure  19).  Without  threshold,  the  mechanism 
proposed would provide support in up to 30% of the cases while with a threshold of 2.5 

39 

 
 
 
 
 
 
 
percentage  points  on  the  annual  increase  in  unemployment  this  frequency  would  fall 
below 5%. 

Figure 22: Share of EA19 countries which 
would have been under support 

Figure 23: Share of EA19 countries which 
would have been under support (GDP 
weighted) 

Source/Note: Eurostat, authors’ calculations 
Reference rate computed as the average over the past 10 years. 

6.1.3.  The total support envelope for option 2 

The  parameterisation  of  the  amount  of  support  entails  a  trade-off  between  the 
available budgetary means and the macroeconomic meaningfulness of the support. 
Technically, the choice of the amount of lending available for a Member State fulfilling 
the conditions is reflected in the parameters 'alpha' and 'beta' in the formula for granting 
support (see Box 1 above): 

  As  lending  would  be  backed  by  the  EU  budget,  the  setting  of  those  parameters 
has  to  be  broadly  proportionate  to  means  made  available  for  the  purpose  in  the 
EU budget. Specifically,  the ability to issue loans under option 2 is limited to an 
earmarked  part  of  the  headroom  between  the  own  resources  ceiling  and  the 
annual  budget,  the  so-called  margin.  This  limitation  corresponds  to  a  prudent 
strategy by which the EU budget can guaranty in full all emitted loans.  

  At  the  same  time,  the  amounts  made  available  must  be  of  a  meaningful 
macroeconomic size in comparison with the borrowing needs of Member States, 
particularly with regard to the financing of their investment expenditures. While 
the shares of public investment of GDP vary across Member States within a range 
of  2-4 percent,  it  can  be  considered  that  meaningful  support  in  the  event  of  a 
severe  shock  should  be  sufficient  to  fund  a  significant  fraction  of  that  total.  In 
practice,  it  can  be  considered  that  the  availability  of  financing  support  should 

40 

 
 
 
 
 
reach  at  minimum  a  few  tenths  of  percentage  points  of  GDP  for  large  shocks. 
More  significant  support  would  be  of  the  order  of  1 percent  of  GDP  or  even 
above in the event of very large shocks.  

Using  backward  simulations,  it  is  possible  to  give  a  conservative  estimation  of  the 
maximum  support  affordable  per  Member  State,  given  an  overall  ceiling  for  the 
total  lending  capacity  of  the  stabilisation  function.  This  estimation  is  such  that  over 
the past periods of activation of the scheme (and in particular the recent crisis), it would 
have  been  possible  to  provide  all  the  loans  due  without  breaching  a  given  overall  total 
ceiling.  To  provide  an  illustrative  range,  two  values  for  such  an  overall  ceiling  are 
considered,  specifically  EUR 30  billion  and  EUR 100  billion  (i.e.,  between  0.3-
0.9 percent  of  euro  area  GDP).  For  these  values  of  the  total  lending  capacity  of  the 
instrument,  the  maximum  support  affordable  under  option  2  for  a  Member  States  in  a 
given year ranges between 0.2% and 1.3% of the Member State's annual GDP, depending 
on the choice of total ceiling and other parameter choices (Table 2 and Table 3).  

Overall,  a  total  ceiling  for  the  lending  capacity  in  the  lower  range  envisaged 
(30 billion)  allows  supporting  a  non-negligible  but  limited  fraction  of  public 
investment,  while  a  higher  overall  ceiling  (100 billion)  allows  supporting  a 
proportionally higher fraction of public investment: 

  For an envelope of EUR 30 billion (0.28% of euro area GDP ), simulations run 
for the period 1985-2017 show that the maximum support which could have been 
provided on an annual basis ranges from 0.21% to 0.40% of the Member State’s 
average  GDP  over  the  previous  five  years  in  current  prices  (Table  2).  This 
corresponds  to  a  value  for  the  parameter  α  ranging  between  7%  and  14%.  It 
corresponds for the parameter β to a value ranging from 0.5 to 2.  

  For the higher total envelope of EUR 100 billion, the maximum support and the 
parameter  α  must  be  scaled  up  while  the  parameter  β  is  unchanged.  The 
maximum support then reaches up to 1% percent of national GDP or even a bit 
more, depending on the other parameterising choices.  

41 

 
Table 2: (Option 2) Affordable maximum 
support (on an annual basis, in percent of 
national GDP) depending on the plausible 
range of parameters and for an envelope of 
0.28% of EA GDP (EUR 30 billion) 

Table 3: (Option 2) Affordable maximum 
support (on an annual basis, in percent of 
national GDP) depending on the plausible 
range of parameters and for an envelope of 
0.93% of EA GDP (EUR 100 billion) 

 Threshold 

0.5p.p. 

1 p.p. 

1.5p.p. 

 Threshold 

0.5p.p. 

1 p.p. 

1.5p.p. 

Severe shock 

2 p.p. 
2.5 p.p. 

0.21 
0.24 

2 p.p. 
2.5 p.p. 

0.24 
0.27 

10 years 

0.26 
0.30 
15 years 
0.29 
0.34 

0.32 
0.38 

0.35 
0.40 

Severe shock 

2 p.p. 
2.5 p.p. 

0.68 
0.80 

2 p.p. 
2.5 p.p. 

0.80 
0.91 

10 years 

0.85 
1.00 
15 years 
0.97 
1.12 

1.05 
1.26 

1.15 
1.35 

Source: Author's calculations 
Reported numbers correspond to the maximum support, which can be provided as a percentage of the 
Member State's GDP if it receives a maximum support for the quarters of the same year. 

Concerning  the  setting  of  other  parameters,  the  maximum  support  available  to  a 
Member State is higher when (see Tables 2-3): 

 

 

 

the  threshold  on  the  increase  in  unemployment  for  triggering  support  is  higher. 
The  maximum  support  is  highest  when  the  threshold  is  set  at  a  1.5 percentage 
point  increase  in  unemployment,  and  lowest  for  a  threshold  of  0.5  percentage 
point  increase.  A  value  of  1.0  percentage  point  may  be  a  good  compromise 
between maximising support on very large shocks and timely activation.  

the  reference  period  for  calculating  average  past  unemployment  is  longer  (15 
years versus 10 years);  

the amount of support is modulated as function of the severity of the shock (i.e., 
is a proportion of the increase in unemployment rate beyond the threshold point, 
as in the formula of Box 1, and as opposed to a fixed amount). This latter point is 
further explained and documented below (see sub-section 6.1.4).  

The grant component associated to the loans would only be a fraction of the loans 
issued.  To  make  the  loans  more  attractive,  it  can  be  envisaged  as  noted  above  that  the 
interest rate cost would be (partially)  covered by a  grant. The  estimation of the needed 
resources  for  that  purpose  is  highly  uncertain  as  it  depends  on  the  degree  of  effective 
take-up  of  the  available  loans,  as  well  as  the  implied  degree  of  subsidisation  of  the 
financing. An upper bound can be gauged by assuming that the full lending capacity of 
the scheme (EUR 30-100 billion) is being mobilised, with a significant interest subsidy 
that can illustratively be set at 200 basis points.25  

25 This assumption can be rationalised by assuming that the borrowing rate of instruments backed by the 
EU budget is likely to revert up from its low level to at least 2% in the medium-term. A 200 basis points 
subsidy can therefore allow the provision of lending which in the best of case would effectively be interest 
free.  

42 

 
 
 
 
 
 
 
 
 
                                                            
Under  these  assumptions,  the  amounts  corresponding  to  the  'grant  component'  of 
the scheme could reach a maximum of between EUR 0.6-2.0 billion per year. From a 
macroeconomic  viewpoint,  this  is  relatively  small,  as  it  corresponds  to  between  0.006-
0.02 percent of euro area GDP.  

6.1.4.  A modulated amount of loans can provide larger and more targeted 

support 

When  the  mechanism  is  triggered,  the  support  can  either  be  a  fixed  amount  or 
modulated depending on the severity of the shock. For the loan mechanism (option 2), 
both possibilities have pros and cons: 

  An approach with a fixed amount is simpler but its main drawback is to treat quite 
differently  (no  support  vs.  full  support)  two  countries  in  almost  identical 
situations  (just  below  and  just  above  the  triggers).  However,  as  Member  States 
may use only partially the loan facility, some modulation may already be at play 
even with the option of a fixed amount. This option may in addition be attractive 
as it allows to control the budget envelope of the mechanism.  

  The  modulated  amount  option  is  not  subject  to  the  unequal  treatment  drawback 
and can avoid budget slippages by setting a maximum support, as proposed by the 
Commission (Figure 24). In addition, this option, for a given budget, will have a 
larger macroeconomic impact in cases of severe shocks. 

Figure 24:Commission proposal for a support 
modulated by the severity of the shock to the 
unemployment rate 

Figure 25: Maximum support which can be 
provided in the case of modulated amounts 
over the fixed amount affordable with the 
same envelope 

Support 

Max 
support 

threshold 

"severe shock" 

Unemployment 
shock 

Source/Note: Authors’ illustration 
No support is available for an increase in unemployment 
below 
is 
proportional to the increase in unemployment beyond the 
threshold. It reaches a maximum for a "severe shock". 

threshold.  The  amount  of  support 

the 

43 

authors’ 

Eurostat, 

Source/Note: 
calculations  
Based  on  simulation  for  the  EA19  since  1985.  The 
figure  compares  for  a  fixed  budget  the  maximum 
support which can be provided in the case of modulated 
amounts and in the case of fixed amounts  

 
 
 
 
Figure  26:  GDP  weight  of  supported 
Member States and effective activity rate of 
the stabilisation function 

The balance  of arguments is yet more 
clearly  in  favour  of  a  modulation  of 
support.  For  the  same  total  available 
envelope,  a  modulated  amount  option 
can  provide  larger  support  to  countries 
under a severe downturn. Simulations on 
the  period  1985  to  2017  show  that 
modulating the support allows to provide 
much  higher  support  in  cases  of  severe 
shocks for the same total envelope (with 
a threshold of 0.5 to 1.5 percentage point 
and  a  severe  shock  set  to  be  above  2  to 
2.5  percentage  points, 
the  support 
provided  can  be  from  1.2  times  as  high 
to 1.9 times as high, Figure 25).26   

authors' 

Taking into account the modulation of 
the  support,  the  stress  put  on  the 
mechanism  would  be  lower  at  each 
point  in  time.  Figure  26  recalls  that 
Member  States  weighting  up  to  70%  of 
the  EA  GDP  would  have  been  under 
support  at 
the  crisis. 
the  peak  of 
Modulating  the  support  based  on  the 
severity of the shocks affecting each Member States however limits the "activity rate" of 
the stabilisation function to 30%, i.e. only a fraction of the maximum support would have 
been effectively made available.  

Source/Note:  Eurostat, 
calculations.  
The  share  of  supported  GDP  correspond  to  the  one 
reported in Figure 23. Activity measures the share of 
the  maximum  annual  loan  support  used  in  the  euro 
area. 
is 
Reference  rate 
computed as a 10 year average, threshold is set to 1 
percentage  point  and  maximum  support  is  provided 
above 2.25 pp. increase in the unemployment rate. 

the  unemployment 

level 

for 

Under  the  assumption  that  the  recent  crisis  was  exceptional  in  magnitude  and 
duration, a less conservative calibration could target larger maximum support. Over 
the past four episodes of large downturns in the euro area, the recent crisis and its double 
dip would have stressed the stabilisation function the most, leading to the highest activity 
compared to maximum available loan support (see Figure 26). Cumulated support would 
have  been  much  smaller  in  the  nineties  and  the  early  2000s,  suggesting  that  a  more 
generous  calibration  would  be  possible  if  these  were  considered  representative.  The 
comparison  between  the  first  episode  of  stress  and  the  last  one  exemplifies  also  the 
different  scope  of  support.  In  both  cases  the  crisis  was  broad-based  and  affected  large 
Member States (Figure 23), yet the crisis was less severe in the nineties which explains 
why the provided support would have peaked at a much lower activity rate. 

26 The modulation of support with the severity of shocks is even more warranted in the case of option 3 (the 
insurance mechanism) than for option 2. Indeed, the modulation is more in line with the spirit of insurance 
and  considerations  of  equal  treatment  are  more  prominent  in  case  of  payouts/grants.  This  assessment  is 
confirmed  by  the  literature  on  insurance  mechanisms,  which  exclusively  considers  amounts  modulated 
with the severity of shocks. See Arnold et al. (2018,) Claveres and Stráský (2018), Bénassy-Quéré et al. 
(2018), Carnot et al. (2017).  

44 

 
                                                            
 
 
 
 
 
6.1.5.  Simulation of past functioning 

Figure 27: Support simulations over between 1985 and 2017 

1985Q1 to 1986Q4 

1991Q2 to 1995Q3 

2002Q3 to 2005Q1 

2008Q3 2014Q1 

Source/Note: Eurostat, authors’ calculations  
Based  on  simulation  for  the  EA19  since  1985.  "Inactive"  means  that  the  double  trigger  condition  was  not  fulfilled  in  any  of  the 
quarters by the Member State. A "small", "moderate", "large" and "maximum" support corresponds to respectively less than 25%, 
50%  and  75%  and  more  than  75%  of  the  maximum  support  on average  over  the  period.  In  practice  no  Member  State  would have 
received on average more than 75% of the maximum support (except Cyprus for which simulations are possible only since 2012), but 
some would have received this maximum over a fraction of the period. 

The  stabilisation  function  would  have  been  active  in  four  periods  since  1985.  The 
first period (1985Q1 and  1986Q4) corresponds to  the end of a recession, which started 
before the beginning of our sample. The second period corresponds to a recession in the 

45 

 
 
 
 
 
 
early to mid-nineties (1991Q2 and 1995Q3), the third to the aftermath of the burst of the 
dotcom bubble (2002Q3 and 2005Q1) and finally to the recent crisis (2008Q3 2014Q1) 
characterized  in  Europe  by  a  double  dip.  During  each  of  these  periods,  some  countries 
would have received some support from the stabilisation function. Outside these periods 
none of the Member States in the sample would have been offered support.27  

Across the four periods of activity, different member states would have benefited to 
a different degree from support (Figure 27). The distribution of support reflects both 
the  intensity  of  the  shock  and  its  asymmetry.  In  the  mid-nineties,  Finland  and  Spain 
would  have  benefited  the  most  from  support  while  many  other  Member  States,  less 
impacted,  would  have  received  a  small  support.  In  the  early  2000s,  the  euro  area 
underwent  a  moderate  downturn  and  Portugal,  Greece,  Germany  and  its  neighbours 
would have benefited from the stabilisation function. In the recent crisis, more countries 
are  included  in  the  sample.  Simulations  highlight  the  most  crisis  hit  countries  (Cyprus, 
Greece,  Italy,  Spain,  Portugal,  Ireland,  but  also  the  three  Baltics)  as  the  main 
beneficiaries of support. 

6.1.6.  The financial calibration of the insurance mechanism 

For  the  operation  of  option  3,  a  regular  flow  of  resources  is  needed  to  ensure  a 
balanced position. They could take the form of contributions from Member States or of 
a  new  own  resource.  For  the  sake  of  simplicity,  this  Impact  Assessment  focuses  on 
contributions  from  Member  States,  in  line  with  the  literature  (Table  4).  Such 
contributions can be a fixed fraction of the country's GDP (Arnold et al., 2018, Dullien et 
al., 2017). It is also possible to modulate the contribution based on the volatility of the 
Member  States,  i.e.  on  the  probability  that  it  requires  support  (Bénassy-Quéré  et  al., 
2018),  or  on  the  past  use  of  the  insurance  (a  form  of  experience  rating,  Claveres  and 
Stráský, 2018, Carnot et al., 2017). Contributions can also be called when the fund is in a 
deficit  (Claveres  and  Stráský,  2018)  or  when  the  Member  State  is  in  a  favourable 
economic situation (Carnot et al., 2017). These options are often combined (Table 4) and 
aim  at  ensuring  a  neutral  position  on  average  of  each  Member  State  vis-à-vis  the 
insurance mechanism (see section 6.3). 

Simulations  suggest  that  already  a  small  stream  of  resources  would  allow  for 
disbursements  of  sizeable  support  in  the  downturn.  Regardless  of  the  contributions 
design,  the  insurance  mechanism  should  be  balanced:  the  expected  pay-outs  should  be 
equal  to  the  expected  revenues.  Proposals  from  the  literature  suggest  that  average 
contributions to the amount of 0.1% to 0.35% of GDP would already allow a significant 
stabilisation potential (see section 6.2). Against annual contributions of 0.1% of GDP on 
average, if Member States are entitled to a support from option 3 in the same conditions 
as for option 2 (double trigger with a threshold on the change in unemployment between 
0.5 and 1.5 percentage point) and if in addition the pay-out received is proportional to the 
change  of  unemployment  beyond  the  activation  threshold  (without  a  maximum), 

27 Simulations presented in this section take a 15-year average for the reference rate, a 1 percentage point 
threshold and a 2.25 percentage point "severe shock". Some small blips of activity can appear with less 
restrictive parametrisation (e.g. around 1999-2000 in Figure 22) 

46 

 
                                                            
simulations  for  the  years  1985  to  2017  show  that  the  insurance  mechanism  would  be 
balanced over time while providing 0.13 to 0.36% of the Member States annual GDP for 
an  annual  increase  in  the  quarterly unemployment  rate  of  1  percentage point above  the 
threshold. 

Table 4: Comparison of the contributions to the insurance mechanism and its borrowing 
capacity proposed in the literature 

Carnot et al. 
(2017) 

Dullien et al. 
(2017) 

Arnold et al. 
(2018) 

Claveres and 
Stráský (2018) 

Bénassy-Quéré 
et al. (2018) 

Modulated 
contribution: 

Modulated 
contribution: 

Fixed 
contribution: 

Modulated 
contribution: 

Modulated 
contribution: 

~ 0.1% of GDP 
incl. during 
crisis, modulated 
depending on 
countries 
volatility 

~0.1% of GDP on 
average  

0.1% of GDP per 
year  

0.35% of GDP 
per year 

~0.15% of GDP 
on average 

when 
unemployment 
below the 10-15 
year moving 
average  and 
decreasing 

(proportional to 
unemployment 
decrease, fully 
symmetric to 
support), plus 
experience rating 

(80% going into 
national 
compartment, 20% 
into stormy day 
fund) 

Higher 
contributions for 
countries with 
'cumulative 
deficits' when 
unemployment 
falls 0.5pp below 
average of past 3 
years 

Two 
components 

(i) 0.1% of GDP 
by all countries 
each time the 
fund’s balance 
drops below -
0.5% of EA GDP  

(ii) 0.05% of GDP 
for every time 
the support 
scheme has 
been activated 
in the past 10 
years 
(experience 
rating). 

Borrowing capacity Borrowing capacity  Borrowing 

capacity 

Borrowing 
capacity 

No borrowing 
capacity 

The  insurance  mechanism  could  not  operate  at  its  full  potential  without  a 
borrowing  capacity.  Most  contributions  in  the  literature  suggest  that  the  insurance 
mechanism  has  a  borrowing  capacity  (Table  4).  If  the  insurance  mechanism  cannot 
borrow against future incomes, its ability to operate in full is dependent on the sequence 

47 

 
 
 
 
of  shocks  and  contributions.  Simulations  show  that  the  net  positions  of  an  insurance 
mechanism  are  bounded,  whether  contributions  take  the  form  of  a  fixed  contribution 
(Figure 28), or a contribution when the unemployment is low and decreasing (Figure 29). 
The insurance mechanism would have been ineffective had it be put in place right before 
one  of  the  peak  of  activations.  Most  importantly,  the  insurance  mechanism  without  a 
borrowing capacity would not have been able to face the recent crisis' double dip, even if 
it had been established in 1985. 

Figure 28: Net financial position of an 
insurance mechanism financed by fixed 
contributions by starting date (% of GDP) 

Figure 29: Net financial position of an 
insurance mechanism financed by 
modulated contributions by starting date 
(% of GDP) 

Source/Note:  Eurostat,  authors' 
calculations. 
Calculations  based  on  a  threshold  of  1  pp,  a 
reference  rate computed  over  15  years  and  a  fixed 
contribution of 0.1% of GDP  

Source/Note:  Eurostat,  authors' 
calculations. 
Calculations  based  on  a  threshold  of  1  pp,  a 
reference  rate  computed  over  15  years  and  an 
average contribution of 0.1% of GDP 

6.2. 

Stabilisation impact 

6.2.1.  Main qualitative impact 

The main direct economic impact of a borrowing lending scheme (option 2) would 
be to reduce the average cost of debt for a Member State facing a large shock. This 
would provide an important signal and may help stabilise markets. It would also reduce 
the  interest  burden  of  the  concerned  Member  State,  and  provide  financing  to  preserve 
public  investment.  The  loan  would  facilitate  access  to  financial  markets  at  favourable 
rates,  which  would  support  the  execution  of  the  foreseen  public  investment.  Box  2 
provides econometric evidence of this channel. 

The  main  economic  impact  of  an  insurance  mechanism  (option  3)  would  be  to 
provide significant breathing space to the national budget of a Member State facing 
a large shock. This would allow in particular preserving public investment and running a 

48 

 
 
 
 
 
more  supportive  fiscal  stance,  thereby  contributing  to  smoothing  out  the  effect  of  the 
shock  on  growth,  employment  and  private  spending.  An  insurance  mechanism  could 
therefore replicate the stabilisation properties of a very sizeable common budget.  

Some  macroeconomic  effects  of  an  insurance  mechanism  are  documented  in  the 
literature.  Claveres  and  Stráský  (2018)  find  that  for  average  contributions  of  0.5%  of 
GDP an insurance mechanism could have mitigated the trough of the crisis by more than 
1%  of  GDP.  Assuming  that  the  pay-outs  from  the  insurance  mechanisms  would  have 
been spent on top of the observed past expenditure, Dullien et al. (2017) argue that for 
Spain, GDP could have stayed 2.5% higher during the crisis. For Italy, they show that the 
impact would have been lower than 1% of GDP because the increase in unemployment 
was  less  marked.  Arnold  et  al.  (2018)  exemplify  the  stabilising  impact  of  an  insurance 
mechanism using macroeconomic model simulations similar to the ones presented below 
with Quest. Their simulations show that one third of the shocks can be cushioned by the 
insurance mechanism. Their simulations also confirm that a borrowing capacity is needed 
for  the  insurance  mechanism  to  operate  at  its  full  potential.  A  third  result  from  their 
simulations  is  that  the  insurance  mechanism  can  substantially  reduce  the  cross  country 
dispersion of the output gap. 

Box 2: Relationship between interest rates and public investment 

The  literature  on  public  investment  shows  that  an  increase  in  interest  rates  is  detrimental  to  public 
investment. European Commission (2017 E) provides a comprehensive empirical analysis of the determinants of 
public  investment,  based  on  a  panel  spanning  21  years  and  the  28  EU  Member  States  using  of  a  wide  set  of 
control variables and estimation strategies. In almost all specifications, it finds a highly significant and sizeable 
causal relationship between market interest rates and public investment. 

As  part  of  this  impact  assessment,  Commission  staff  has  run  an  additional,  more  targeted  regressive 
analysis. Compared to existing work, it focuses on the recent crisis experience, namely the period 2009-2017. 
The analysis aims to assess the relationship between sovereign financing rates (in times of large macroeconomic 
shocks) and public investment. 

The following regression equation was estimated: 

GFCFct=α+β1ict-1+β2debtct-1+β3lendct-1+β4LGDPct-1+uct 

Where GFCF is general government gross fixed capital formation at time t for country c, i is the nominal interest 
rate, debt is public debt, lend is general government net lending, LGDP is logarithm of real GDP. GFCF, public 
debt and general government net lending are measured as ratios to trend GDP, while i is the nominal interest rate 
on  10-year  government  bonds.  The  estimations  are  based  on  a  cross-country  panel,  including  the  28  Member 
States of the EU. The estimator used is pooled ordinary least squares with country fixed effects.  

The results confirm the expectation that an increase in interest rates is detrimental to public investment. 
The reported specifications take into account both current and lagged interest rates on public investment, as well 
as at the impact of nominal and real interest rates. Overall, the negative effect of an increase in interest rates on 
public investment is confirmed. Control variables turn out as expected: an increase in general government debt 
and/or net lending is found to lead to a decrease in public investment.  Overall, the analysis confirms that the 
provision  of  loans  at  favourable  rates  would  thus  facilitate  the  continuous  execution  of  public  investment 
projects. The results of the regressions are reported in Table 5. 

49 

 
 
 
Table 5. Panel estimation results EU-28, 2009-2017 (dependent variable public investment)  

coeff. 
-
0.0012 

t-stat. 

-4.13 

coeff. 
-
0.0012 

- 
- 
-
0.0289 
-
0.0567 

- 
- 

- 
-0.005 

-5.83 

-2.85 

-0.029 
-
0.0551 

t-stat. 

coeff. 

t-stat. 

-4.08 

- 
-0.27 

-5.77 

-2.65 

- 
-
0.0005 
- 
-
0.0252 
-
0.0296 

- 

-2.27 
- 

-5.05 

-1.57 

0.31 
F(26,186)=8.42 
216 

0.24 
F(26,185)=7.84 
216 

0.34 
F(26,186)=7.41 
216 

It 

it-1 
LGDPt-1 

debtt-1 

lendt-1 
R2 adjusted 
F-stat 
Nob 

Note: Significance at the 5% confidence level is indicated in bold. 

Figure 30; Long-term interest rates on EU bond 
issuance  compared  to  10-year  rates  on  German 
government bonds (2009-2017) 

The  loans  granted  under  option  2  would 
allow  to  reduce  the  interest  burden  on  the 
thereby  support  public 
sovereign,  and 
investment.  The  loan  that  would  be  granted 
would  be  at  an  interest  rate  for  a  highly  rated 
issuance  which,  particularly  in  times  of  stress 
on financial markets, could generate savings in 
interest  payments 
the  Member  State 
for 
concerned. These savings would be spread over 
the duration of the loan. The long-term interest 
rate  of  EU  bonds  issuance  follows  the  10-year 
nominal  rate  on  German  government  bonds 
with  a  slight  positive  spread  compared  to  the 
latter  (Figure  30).  Applying  this  rate  to  the 
loan  facility  would  allow  for  most  Member 
States some savings on the debt burden over the 
duration of the maturity. 

Source/Note:  ECB  statistical  data  warehouse.  COM  treasury  operations.  
For 2009-2015 EU is proxied by average interest rate of EU back-to-back 
loans. For 2016-2017 EU is proxied by 10-year nominal ESM rates. 

6.2.2.  Quantitative estimates of the stabilisation impact 

The  potential  effect  of  a  stabilisation  function  can  be  illustrated  with  the 
macroeconomic model QUEST. We simulate a crisis starting in 2018 against which for 
3  years  the  economy  faces  a  downturn  which  will  then  fade-out.  This  downturn  is 
calibrated  to  correspond  roughly  to  the  ordinary  magnitude  of  the  economic  cycle  in  a 
relatively volatile economy, i.e. Spain (4% loss in output). The crisis hitting the economy 
is assumed to be caused by a combination of domestic and external demand shocks. The 
simulated shock is therefore significant but not exceptional in terms of size and origin. 

50 

 
  
 
 
 
 
 
 
Without the  stabilisation function, the  government faces a stark  trade-off between 
controlling the public deficit and supporting activity (or at least not amplifying the 
economic  shock).    In  accordance  with  the  provisions  of  the  SGP,  a  counter-cyclical 
strategy,  without  proactively  steering  the  economy,  the  government  could  let  the  fiscal 
stabilisers play in full. Under this strategy, tax revenues decline because of the erosion of 
the  tax  bases,  while  unemployment  benefits  paid  increase.  This  corresponds  to  a  fiscal 
policy  whereby  the  structural  deficit  is  stable  and  the  expenditure  benchmark  is 
respected. In the wake of the crisis, external constraints might push the government to run pro-
cyclical  policies.  In  a  case  where  a  risk  to  public  debt  sustainability  arises  or  simply  where 
financial markets over react to the rise in public debt, the government may feel forced to a pro-
cyclical fiscal policy response and consolidate even though its economy is facing a downturn. To 
do  so,  we  assume  that  the  government  decides  a  cut  in  both  public  investment  and  public 
consumption by 0.4% of GDP each. This fiscal adjustment limits the debt increase to just below 
10 percent of GDP but amplifies and lengthens the economic downturn. 

Figure 31: GDP trajectory 

Figure 32: Debt trajectory 

Source: Commission services, QUEST simulations  

Options with a stabilisation function: 

Support in the form of loans would allow for the Member State not to consolidate as much 
but tensions on its indebtedness would remain. We assume that the loan allows the Member 
State to broadly maintain public investment but not to avoid cuts in public consumption. Indeed, 
the  loans,  even  though  at  a  smaller  interest  rate,  still  imply  an  increase  in  public  debt  which 
Member States may still try to limit. In the first years, public debt follows the same trajectory as 
when the country engages in fiscal consolidation for lack of a stabilisation function (Figure 32). 
Then,  as  the  Member  State  consolidates  less,  the  debt  trajectory  reaches  higher  levels.  This 
strategy has a mitigating effect on the recession: the trough is less pronounced by 0.4  points of 
GDP (Figure 31). 

When provided through grants, the stabilisation function has a larger impact. Thanks to the 
provision  of  the  grant  the  Member  State  can  maintain  investment  while  also  avoiding  other 
procyclical  consolidation  measures.  Under  this  scenario,  both  public  investment  and  public 

51 

 
 
 
 
consumptions are maintained. At the same time, the increase in public debt is lower than in both 
the  baseline  scenario  and  the  scenario  with  loans  provision  (Figure  32).  By  not  consolidating, 
the  Member  State  lets  the  automatic  stabilizers  play  in  full.  As  a  consequence,  the  recession  is 
much less severe by 0.8% of GDP (Figure 31). This means that 20% of the shock is absorbed in 
this case. 

6.2.3.  Stabilisation impact of a euro area budget 

The stabilisation properties of option 4, a common budget, could be significant, but 
would strongly depend on its size and composition. Through its permanent spending, a 
common  budget  would  provide  immediate  aggregate  demand  support.  In  this  sense, 
during its automatic execution it could  be more powerful than option 2. As opposed  to 
option  3,  it  would  not  provide  active/scalable  stabilisation.  However,  the  exact 
stabilisation properties would depend on the cyclicality of revenues and spending as well 
as provisions for discretionary fiscal policies.  

 One analysis of a euro area budget shows that a well-conceived design can allow for 
some stabilisation properties for a relatively modest size.28 The simulations focus on 
different  stylised  specifications.  A  budget  of  around  2%  of  euro  area  GDP  with 
diversified  revenue  sources  and  expenditure  is  estimated  to  substitute  10%  of  the 
stabilisation  achieved  at  national  level  and  stabilise  4%  of  shocks  (against  17%  for 
national  budgets).  A  design  based  exclusively  on  corporate  income  tax  and  spending 
mostly  focused  on  unemployment  benefits  is  expected  to  substitute  around  20%  of 
national  stabilisation.  A  bigger  budget  would  provide  yet  more  stabilisation,  but  not 
proportionally so. 

In  combination  with  discretionary  elements,  a  euro  area  budget  could  provide 
sizeable stabilisation. Trésor (2017) presents a blueprint of a common budget of at least 
2%  of  euro  area  GDP.  Expenditure  would  be  stable  over  time,  targeting  public 
investment.  Assigned  parts  of  value  added  taxes  (VAT)  and  corporate  income  taxation 
would  provide  each  half  of  the  needed  revenues.  In  downturns,  the  budget  would  be 
allowed to go into deficit, to allow for the free play of automatic stabilisers. In addition, 
the paper suggests  the possibility  of temporary  cuts in  the assigned part of  VAT, to  be 
triggered  by  sizeable  output  gaps.  In  this  sense,  the  proposal  combines  elements  of  a 
common  budget  with  elements  of  an  insurance  mechanism.  In  addition,  a  more 
countercyclical  design  of  fiscal  rules  is  assumed.  According  to  simulations  provided  in 
Trésor (2017), during the recent crisis, aggregate fiscal policies would have been much 
more supportive of activity, leading to overall gains of around 3% of GDP in output in 
2016 (in levels). The increase in public debt would have been partially offset by higher 
growth and stricter rules in good times. 

28 Trésor-Economics: “A Budget for the Euro Area” – 2013, No. 120: 
https://www.tresor.economie.gouv.fr/Ressources/file/392340  

52 

 
 
                                                            
6.3.  Cross-country neutrality  

In  option  2  and  3,  support  is  triggered  by  the  objective  criteria  of  an  adverse 
economic event, which could hit every Member State (section 6.1). With the proposed 
mechanism and parametrisation, each Member State is expected to benefit from support 
(Table 6). It should be noted that for some Member States benefiting most often the data 
sample is fairly limited, thereby possibly biasing the results by the recent crisis. Still, as 
discussed in section 3, national policies are critical for economic resilience, so it needs to 
be verified that incentives for such policies are not reduced. 

Table 6: Frequency of activation by country with the double trigger 

activated 
in sample 
frequency 

activated 
in sample 
frequency 

total 
198 
1777 
11% 
NL 
9 
132 
7% 

BE 
7 
132 
5% 
PT 
22 
132 
17% 

DE 
12 
132 
9% 
AT 
4 
95 
4% 

ES 
35 
132 
27% 
CY 
9 
23 
39% 

FI 
12 
132 
9% 
EE 
7 
39 
18% 

FR 
1 
132 
1% 
EL 
19 
74 
26% 

IE 
18 
132 
14% 
IT 
10 
131 
8% 

LT 
8 
52 
15% 
LV 
6 
51 
12% 

LU 
8 
132 
6% 
SI 
9 
36 
25% 

MT 
1 
52 
2% 
SK 
1 
36 
3% 

Source/Note: Reference rates computed over15 years and threshold to 1 percentage point.  
Simulations start in 1985 for BE, DE, ES, FI, FR, IE, LU, NL, PT, IT,, in 1994 for AT, in 1999Q2 for 
EL, in 2005 for LT, MT, LV, in 2008 for EE, in 2009 for SI, SK and in 2012 for CY. Results for the latest 
countries must therefore be interpreted with caution as they result only from a crisis period. 

As support in option 2 is provided via loans, there is a limited risk of moral hazard. 
Member  States  are  required  to  pay  back  the  loans  received  in  line  with  their  maturity. 
The transfer received is thus by definition not permanent. To date, Member States have 
always honoured their obligations vis-à-vis the EU. Still, the frameworks provides some 
limited risk sharing as Member States availing of the scheme benefit from the favourable 
interest rates, which stem from the high rating and the grant component. Those benefits 
appear  relatively  small  compared  to  the  size  of  the  support.  They  can  thus  not  be 
expected to be instrumental for national decisions to pursue reforms or not. 

The eligibility conditions lined out in section 5 reduce risks of moral hazard in the 
area  of  macroeconomic  policy  choices.  Concerning  fiscal  policy,  the  proposed 
eligibility criteria provide additional incentives to build fiscal buffers in good times and 
correct  gross  policy  errors.  Concerning  the  Macroeconomic  Imbalances  Procedure,  the 
need  to  provide  and  follow  up  with  adequate  corrective  action  plans  in  case  of  an 
excessive  imbalances  procedure  ensures  that  structural  macroeconomic  problems  are 
avoided or corrected before they can be harmful to the fiscal outlook.  

As support in option 3 is provided via pay-outs/grants, the risk of moral hazard and 
permanent  transfers  is  inherently  bigger.  Member  States  would  receive  significant 
pay-outs/grants from an insurance mechanism in case of an adverse economic event. The 
calibration  of  the  system  ensures  that  in  the  following  upturn,  Member  States  would 

53 

 
  
 
 
 
contribute to the fund. In practice, however, it cannot be excluded that support would be 
more frequent or bigger.  

Support  and  contributions  need  to  be  carefully  designed  to  minimise  these  risks. 
There are three design features to further minimise risks of permanent transfers: 

  Linking  support  to  changes  in  unemployment  limits  total  support  and  by 

construction makes it 'non-permanent'. 

  Contributions  could  be  designed  to  mirror  the  support  in  bad  times  with 

additional payments in bad times, allowing for symmetric workings. 

  Experience rating ensures additional contributions in exchange for more frequent 

support. 

Linking  support  to  changes  in  unemployment  limits  total  support  and  by 
construction make it non-permanent. The fact that support is linked to a deterioration 
in unemployment rates entails that the cumulated support to be received is overall limited 
(by  construction,  the  increase  in  unemployment  is  temporary,  even  if  the  level  of 
unemployment stays high). Similarly, caps on individual and the collective net position 
would effectively limit total transfers, even in case of an unusual cumulation of periods 
of support. 

A  symmetric  design  of  contributions  comforts  the  long  term  neutrality  of  the 
insurance  mechanism.  Contributions  could  be  increased  in  good  times.  The  double 
condition  on  unemployment  could  be  used  to  this  end,  triggering  supplementary 
contributions  when  unemployment  rates  are 
low  and  falling.  Such  additional 
contributions  in  good  times  would  foster  countercyclical  policies.  It  would  also  ensure 
that  Member  State  with  more  volatile  growth  and  unemployment  patterns  would  not 
benefit excessively from an insurance mechanism. 

Experience rating and enhanced eligibility conditions could increase  incentives for 
prudent  policies.  Experience  rating  could  be  used  to  define  additional  contributions  to 
an insurance mechanism as a function of past access. Such an approach would mimic the 
concept  of  insurance  premia.  It  might  also  be  justified  to  consider  more  stringent 
eligibility criteria for an insurance mechanism than for a loans facility. Experience rating 
could  take  several  forms.  Dullien  et  al  (2017)  propose  to  increase  the  contribution  of 
member states in deficit vis-à-vis the fund. Carnot et al (2017) suggest more specifically 
that  this  premium  correspond  to  the  interest  rate  cost  incurred  by  the  fund  on  this 
position. Claveres and Stráský (2018) suggest topping up contributions for countries who 
benefited  from  the  fund  in  the  previous  10  years.  On  top  of  a  similar  usage  premium, 
Arnold et al (2018) also propose to cap cumulative payments and contributions. Bénassy-
Quéré et al (2018) propose to modulate the contributions depending on the volatility of 
the trigger variable for each country. 

54 

 
The  insurance  mechanism  could  provide  sizeable  pay-outs  while  being  broadly 
balanced  vis-à-vis  each  Member  State.29  Figure  33  compares  the  net  contributions  to 
an insurance mechanism (contribution minus pay-out received) for the euro area Member 
States.  Two  cases  are  compared,  a  constant  contribution  and  a  contribution  when  the 
unemployment rate is low and decreasing (double trigger symmetric to the one for pay-
outs but without threshold). In both cases, the annual contribution is calibrated to 0.1% of 
GDP on average and the pay-out generosity is such that the insurance mechanism would 
have been balanced. These simulations highlight three stylised facts: (i) the average net 
contribution of each Member State is close to balance, (ii) against large shocks Member 
States  could  have  received  large  pay-outs,  (iii)  introducing  modulated  contributions 
improves  cross  country  equity  as  Member  States  with  more  volatile  economies  both 
benefit and contribute more. 

Figure 33: Net contributions to an insurance mechanism (% of Member States' GDP) 

Source/Note: Eurostat, authors' calculations. Simulations based on the period 1985-2017. 
Simulations start in 1985 for BE, DE, ES, FI, FR, IE, LU, NL, PT, IT,, in 1994 for AT, in 1999Q2 for EL, in 
2005 for LT, MT, LV, in 2008 for EE, in 2009 for SI, SK and in 2012 for CY. Results for the latest countries 
must therefore be interpreted with caution as they result only from a crisis period. 

The cross-country neutrality of option 4, a common budget, would depend critically 
of  its  revenues  and  spending  functions.  A  common  budget  would  not  entail  direct 
contributions from and support to Member States and is thus less prone to the risk moral 
hazard. However, it might indirectly result in income redistribution from richer to poorer 
countries  through  permanent  differences  in  tax  bases  and/or  transfer  needs.  Similarly, 
some spending functions could be more beneficial for certain Member States. This is one 
of  the  reasons  why  a  common  budget  could  preferably  focus  on  the  provision  of 
European public goods. Nonetheless, broad political ownership and ambition are needed 
for  the  proposal  to  go  forward.  Trésor  (2013)  acknowledges  that  a  common  budget 
requires  further  political  integration  and  political  accountability,  also  linked  to  the 
entailed greater extent of European solidarity.  

29 This result is also to be found in (Carnot et al 2017; Arnold et al, 2018; Claveres and Stráský, 2018) 

55 

 
 
 
 
                                                            
6.4.  Environmental and social impact 

This  short  subsection  focuses  on  the  environmental  and  social  impact  of  the  different 
options.  The  economic  impact  of  the  different  options  is  discussed  in  the  rest  of  this 
impact assessment. 

In option 2, the loan-based instrument, the protection of public investment activity 
could  support  “social  investment”.  According  to  the  Communication  of  6  December 
the  stabilisation  function  should  also  aim  at  supporting  the  upgrading/maintenance  of 
skills. According to the European public accounts (ESA2010), public gross fixed capital 
formation  also  includes  government  R&D  spending  either  protected  through  patents  or 
made freely available to the public, as well as basic research expenditure and spending on 
education that can be considered as gross fixed capital formation. Therefore, the public 
investment  indicator  also  partly  captures  the  maintenance/upgrading  of  skills  aspect.  In 
addition,  training  programmes  to  support  the  employability  and  upskilling  of  displaced 
workers,  as  well  as  support  measures  specifically  targeted  to  young  people  could  be 
considered  as  particularly  relevant  in  this  context  and  could  be  factored  in  when 
determining  the  size  of  the  support  for  each  Member  State.  The  stabilisation  function 
would  then  also  be  geared  towards  supporting  Member  States'  national  expenditure  on 
active  labour  market  programmes  and  services  dedicated  towards  training,  thereby 
avoiding  cuts  to  such  programmes  in  periods  of  large  adverse  economic  events. 
However, that would depend to which extent such forms of investment could be captured 
by objective, verifiable indicators. 

In option 3, the insurance mechanism, the environmental and social impact would 
be fairly indirect and difficult to assess. In the stylised insurance mechanism described 
in sections 5 and 6, there is no immediate link to environmental and social outcomes. It is 
fair to assume that a stronger response to large shocks would have beneficial spillovers 
for environmental and social outcomes, but these indirect effects are extremely difficult 
to  assess  at  this  stage.  In  option  1,  the  status  quo,  there  is  by  definition  no  additional 
impact.  

In option 4, the euro area budget, the environmental and social impact would likely 
be  positive,  but  the  definition  of  the  option  is  not  detailed  enough  to  allow  for  an 
assessment.  According  to  President  Macron  (2017),  a  euro  area  budget  should  support 
investment  and  Research  &  Development  amongst  others.  It  is  thus  natural  to  assume 
that it would foster the transition to a green economy. According to Trésor (2013), a euro 
area  budget  should  provide  unemployment  benefits  and  would  thereby  contribute  to  a 
positive social impact. However, at this stage, there is no sufficiently detailed proposal to 
allow for a definite assessment.  

56 

 
 
 
6.5.  Conclusions, preferred option and implementation plan 

In  option  1,  the  status  quo,  important  vulnerabilities  remain.  In  light  of  recent  and 
ongoing  reforms,  the  European  economic  architecture  is  stronger  today  than  ten  years 
ago. Risk stemming from the financial and banking sector are now detected earlier with 
European  supervision  in  place.  Private  sector  risk  sharing  is  benefitting  from  effort  to 
complete the banking union and the capital markets union. The ECB’s toolbox covers a 
wider range of monetary policy instruments. European economic surveillance is keeping 
closer  tabs  on  fiscal  and  structural  developments.  The  ESM  stands  ready  to  support 
Member  States  in  crisis  resolution  via  conditional  financial  assistance.  However, 
important  vulnerabilities  remain.  As  lined  out  in  section  2,  public  debt  levels  remain 
high. The lack of a strong fiscal centre in the European economic architecture increases 
the  burden  on  monetary  policy  and  national  fiscal  policies.  That  is  why  even  Member 
States with sound public finances are prone to the sudden occurrence of market pressure 
and thereby at risk of running pro-cyclical fiscal policies in the downturn. Table 1 gives 
an  overview  of  the  pros  and  cons  of  the  different  options  along  the  main  objectives 
defined in section 4. 

Option  2  (borrowing  lending  scheme)  would  contribute  to  the  cohesion  objective  by 
offering financing support in the event of a large asymmetric shock affecting a Member 
State. This support would target the benefit of public investments in priority sectors and 
be subject to a trigger and eligibility conditions. This provision of support will provide a 
strong incentive to protect key public investments and thereby preserve at an appropriate 
level expenditures which are essential for the future growth of the economy. As such the 
scheme  would  foster  outcomes  in  sharp  contrast  to  the  past  crisis  in  some  countries 
where  public  investment  was  sizeably  cut,  although  the  powerfulness  of  the  scheme 
would depend on its precise parametrisation. The macroeconomic stabilisation impact in 
this option is limited by the fact that support takes the form of a loan. Confronted with a 
large  shock,  the  concerned  Member  State  would  face  a  broadly  unchanged  trade-off 
between supporting activity via deficit spending or controlling the increase in its public 
debt. This trade-off would nevertheless be mitigated as the Member State would be given 
access to cheaper financing than on the market. Moreover, the provision of EU financing 
may exert a strong signalling effect to market participants, which can act as a catalyst for 
avoiding  the  loss  of  market  access  and  a  full-blown  financial  adjustment  programme. 
This option is also consistent with a requirement for no permanent transfers, in the sense 
that  loans  are  by  nature  temporary  support  and  the  Member  State  concerned  is  legally 
required to pay it back. Option 2 would therefore bring value added with respect to all the 
objectives  identified  in  this  Impact  assessment,  as  summarised  in  Table 7.  Option 2  is 
also  feasible  within  the  current  EU  legal  framework,  using  article 175  as  a  base. 
Importantly, option 2 may also be politically more feasible, at least in the near future. As 
underlined in this document (see in particular the introduction and sub-section 3.3), the 
views  of  stakeholders  remain  divided  at  this  juncture  on  the  need  and  form  of  a 
stabilisation function.  One key  concern of the more sceptical  stakeholders  concerns the 
risks  that  a  stabilisation  scheme  could  entail  in  terms  of  moral  hazard  and  generating 
permanent transfers, in other words violating the objective of cross-country neutrality. As 

57 

 
noted, this is an area where option 2 fares well in comparison to alternative options (apart 
from the status quo), as it relies essentially on temporary lending. For this reason, it can 
be considered that option 2 is a more realistic option at this point in time. Overall, given 
these  considerations  option 2  is  at  this  stage  the  preferred  option.  It  would  bring  an 
important  contribution  to  all  the  objectives  lined  out  in  section 4.  It  could  also  lay  the 
grounds for a further maturing of the debate and the possible future development of other 
options.  

Option 3 (insurance mechanism) would offer significant payouts in the event of a large 
asymmetric  shock  affecting  a  Member  State,  subject  to  the  trigger  and  eligibility 
conditions. These 'insurance payouts' would reduce the short-term trade off faced by the 
concerned  Member  States  between  supporting  activity  and  controlling  the  rise  in  their 
debts  and  deficits.  The  payouts  would  therefore  complement  the  national  automatic 
stabilisers in adverse circumstances. They would facilitate the conduct of a smoother and 
more counter-cyclical fiscal policy throughout the cycle, which would also be beneficial 
for the quality of national public finances and the avoidance of booms and busts in public 
investments. Depending on its parameterisation, that option can offer a powerful demand 
stabilisation  impact,  even  for  a  limited  amount  of  contributions.  Option 3  is  however 
relatively  challenging  to  reconcile  with  the  objective  of  country  neutrality,  as  some 
Member States could benefit from payouts more often or more than others, for example 
because  their  economies  feature  more  volatile  cycles.  Some  design  features  could  be 
important to improve on the objective of country neutrality, such as higher contributions 
in  good  times  (which  would  ensure  that  volatile  economies  contribute  more  and  would 
accelerate  the  constitution  of  buffers),  and  a  form  of  experience  rating  (contributions 
modulated  as  a  function  of  past  usage).  Overall,  option 3  can  offer  very  effective 
stabilisation properties and may be consistent with country neutrality if well-designed. It 
could  therefore  provide  a  highly  valuable  strengthening  of  the  EMU  architecture. 
However, the political support for this option appears mixed at best at this stage, as some 
stakeholders  may  see  it  as  entailing  too  many  risks  and  going  beyond  a  proportionate 
response  to  the  challenges  at  hand.  Given  the  state  of  play  of  the  debate,  further 
reflections  and  discussions  appear  needed  to  assess  the  viability  and  raise  the  political 
acceptability  of  such  an  option.  Still,  the  framework  for  putting  in  place  an  insurance 
mechanism  may  to  some  extent  be  framed  by  the  setting  up  of  a  borrowing  lending 
scheme  as  envisaged  under  option 2,  as  some  of  the  mechanisms  and  conditions  (for 
instance,  the  triggering  criteria)  could  be  similar  in  both  options.  The  limited  grant 
components  that  could  accompany  a  borrowing  lending  scheme  in  option 2  in  order  to 
make  the  loans  more  attractive  could  in  fact  be  seen  as  an  embryo  for  an  insurance 
mechanism  that  could  be  extended  at  a  later  stage.  Such  a  combination  would  create  a 
consistent ensemble enabling significant stabilisation. 

Option 4 (euro area budget) would contribute to the stabilisation of large shocks through 
the  automatic  fluctuations  with  the  cycle  of  the  revenues  and/or  expenditures  of  that 
budget.  The  effectiveness  of  that  mechanism  depends  on  the  cyclical  sensitivity  of  the 
composition  of  the  budget  and  on  its  size.  The  implications  of  option 4  would  go 
somewhat beyond that of providing a stabilisation function, as a full budget implies that 

58 

 
allocative competences on the revenues and on the expenditure sides are shifted from the 
national  to  the  European  level,  in  addition  to  the  current  EU  budget.  The  setting  up  of 
such  a  budget  would  therefore  require  strong  political  will  and  consensus.  Overall, 
option 4 can offer some stabilisation properties, the extent of which greatly depends on 
its size and composition, but further reflections and discussions are needed to assess its 
content and raise its political acceptability. 

Table 7: Comparison of options along main objectives 

Objectives 

1. counter business cycle 
fluctuation 
2. more counter-cyclical 
fiscal policy 
3. smoother public 
investment trajectories 
4. prevention of financial 
market crisis 
5. preserve cross-country 
neutrality 
6. contribute to integrity 
of the Union 

Option 1               

Option 2          

Option 3       

Option 4             

(status quo) 
- 

(BLS, loans) 
+ 

(insurance mech.) 
++ 

(EA budget) 
+ 

- 

- 

- 

+ 

o 

+ 

+ 

+ 

+ 

+ 

++ 

+ 

++ 

- 

+ 

+ 

+ 

+ 

o 

++ 

Source/Note: illustration prepared by authors 

6.5.1.  Implementation plan  

Overall,  the  different  options  have  different  main  channels  and  merits.  A  loans 
system would facilitate the execution of ongoing investment plans and provide a helpful 
signal  to  ensure  financial  stability.  An  insurance  mechanism  would  have  more 
stabilisation power in the traditional sense of demand support. A common budget could 
allow for the stable provision of European public goods.  

As  already  noted  (see  the  end  of  secton 5.2),  the  different  options  should  not  be 
considered  as  mutually  exclusive.  They  have  different  pros  and  cons  and  can  also  be 
combined.  Importantly,  the  different  options  can  also  be  combined  over  time.  A 
stabilisation function could be phased-in, for instance first via loans and then through an 
insurance mechanism.  

Option 2 would be the preferred option at this stage and could be implemented with 
the  next  MFF.  A  political  agreement  on  the  MFF  is  targeted  for  2019.  A  loan-based 
stabilisation function could thus be implemented and available with the start of the new 
MFF. Such a timeline would allow for the instrument to be available in time for the next 
cyclical  downturn.  An  insurance  mechanism  is  a  necessary  complement,  but  will  take 
more  time  to  mature.  More  ambitious  steps  should  be  taken  as  a  second  step.  An 
insurance  mechanism  (or  a  euro  area  budget)  would  be  more  effective  in  providing 

59 

 
 
 
 
macroeconomic stabilisation. It would a highly desirable complement to option 2. Both 
should be considered as a package jointly providing the stabilisation function in the long 
term. Still, in case of an insurance mechanism there is arguably a bigger risk as to cross-
country  neutrality.  While  these  risks  can  be  overcome,  further  work  on  building  a 
common understanding across Member States and on an adequate design appear needed 
before proceeding with a legal proposal.  

Overall,  a  phased  approach  is  the  most  promising.  As  already  announced  in  the  6 
December Package, the Commission approach could be to first put in place an instrument 
based on loans with a limited degree of interest rate subsidies. In a subsequent step, an 
insurance mechanism could be proposed and put in place. There is thus a need for such a 
follow-up discussion. In practice, this could take the form of a 'review clause' after a few 
years, which would give the opportunity to: i) assess the effectiveness of the borrowing 
lending  scheme;  ii)  re-examine  the  case  for  more  ambitious  proposals,  in  the  light  of 
experience and of the evolving political debate.  

A  regulation  appears  as  the  most  adequate  legal  instrument  for  option  2.  The 
instrument proposed entails the central provision of loans to Member States to ensure the 
protection  of  adequate  levels  of  public  investment.  A  regulation  as  legal  instrument 
allows for this central provision of loans. On the contrary, a directive would by definition 
not be suitable since it would require the national, tailored transposition for the operation, 
which runs counter the desire for a central mechanism. As mentioned in the conclusions 
section, the legal basis of 175 TFEU appears adequate for option 2, the loans instrument. 
The link to cohesion objectives is less direct and straightforward in options 3 and 4.  

7.  HOW WILL ACTUAL IMPACTS BE MONITORED AND EVALUATED? 

The  monitoring  and  evaluation  of  the  stabilisation  function  could  be  done  along 
three dimensions. First, it would assess the macroeconomic impact and adequacy of the 
instrument as part of the ex post evaluation. Second, the use of support provided by the 
stabilisation  function  would  be  continuously  monitored.  Third,  the  efficiency  of  public 
investment  management  in  the  respective  Member  State  would  be  assessed  to  ensure 
sound quality of public investment, ex ante before the instrument starts operating.  

The Commission could proceed to evaluations of both the instrument and each loan: 

  An evaluation of the mechanism in its entirety would be conducted after a certain 

number of years (possibly 3-5 years).  

  For each loan an ex-post evaluation would be carried out. This could occur e.g. 2 

years after the support has been granted.  

60 

 
 
 
7.1.1.  Macroeconomic impact 

The expected macroeconomic outcomes from the stabilisation function are: 

  more synchronisation of the business cycles across the Member States 

 

lower volatility of public investment  

 

less pro-cyclicality of the fiscal policy.  

The  assessment  should  therefore  be  carried  out  along  these  dimensions.  An  additional 
dimension  to  consider  is  whether  the  instrument  can  be  deemed  to  have  helped 
preventing full-blown financial crises and financial assistance programmes.  

The evaluation of the instrument would review the degree of (cyclical) convergence 
in the EU/EMU. Such an evaluation would be conducted based on macroeconomic data 
(in particular, GDP, output gap, unemployment rate) specifically with a view to assessing 
whether the marked differences in economic and financial performances observed in the 
recent past have been attenuated.  

Building on the evaluation of each loan, the overall evaluation of the scheme should 
investigate the trajectory of public investment. Based on the national accounts data (in 
particular gross fixed capital formation of the general government and more generally the 
general  government  accounts),  it  should  be  analysed  whether  boom  bust  cycles  in 
investment have been limited by the introduction or the use of the stabilisation function. 

The  Commission  would  also  assess  whether  the  stabilisation  function  has  been 
conducive to smoother fiscal policies. This assessment would build on macroeconomic 
data for fiscal policy (budget balance, cyclically adjusted budget balance, fiscal stance) to 
assess in particular whether fiscal policy has been less pro cyclical. Looking at financing 
conditions of the public debt (sovereign spreads), it should also be evaluated whether the 
stabilisation function has had an impact on market expectations. 

The evaluation could also draw lessons in terms of the calibration of the scheme(s), 
such as on adequacy of the amount of resources available given the magnitude of shocks, 
and whether the triggering criteria are appropriate. The analysis could also examine the 
distribution of beneficiaries/contributors to the stabilisation function.  

Box 3: Macroeconomic indicators  

A  non-exhaustive  list  of  indicators  to  be  mobilised  for  the  assessment  of  the  stabilisation 
function  could  include:  GDP,  the  output  gap,  the  unemployment  rate,  gross  fixed  capital 
formation of the general government and the general government accounts, including  the 
budget  balance,  the  cyclically  adjusted  budget  balance,  the  fiscal  stance  and  sovereign 
spreads. 

61 

 
 
7.1.2.  Use of funds 

The  use  of  funds  could  be  continuously  monitored  as  Member  States  benefit  from 
support  from  the  Stabilisation  Function.  In  addition,  the  analysis  and  results  from  this 
continuous monitoring could also be used in an ex post evaluation of the instrument. 

Specifically,  the  stabilisation  function  could  contain  a  post-access  monitoring 
mechanism  which confirms that the  Member State  has upheld its commitments in 
terms of public investment. This mechanism would check that the data reported ex-post 
in  the  national  accounts  of  the  Member  State  is  consistent  with  the  objective  of  the 
stabilisation  function  to  support  public  investment.  When  establishing  the  threshold 
under which the public investment level should not decrease a number of caveats need to 
be taken into account. First, the level of general government gross fixed capital formation 
reported  in  the  national  accounts  includes  co-financing  for  projects  supported  by  ESIF 
funds.  If  gross  fixed  capital  formation  decreases,  then  it  is  necessary  to  ensure  that  the 
decrease is not due to a decrease in the EU co-financing part (typically because of end-
year  shortness  of  funds  on  the  EU  side)  while  the  national  financed  part  of  public 
investment has  been  maintained  at  the  agreed levels.  Second,  the  threshold  should  also 
take into account the volatility due to the structural funds financing cycle where typically 
public investment is very high at the end of a programming period and very low at the 
beginning of new programming period. Third, the threshold should also take into account 
the  cyclicality  of  public  investment  and  ensure  that  the  Member  State  is  not  forced  to 
maintain  a  level  of  public  investment  that  is  characteristic  in  a  peak  of  the  economic 
cycle when it is in a downturn of the cycle.  

Monitoring  would  also  include  spending  in  the  area  of  “social  investment”  if  and 
once it is included in the stabilisation function. In addition to the monitoring of public 
investment  through  the  data  reported  in  the  national  accounts,  the  ex-post  monitoring 
mechanism  would  then  need  to  also  ensure  that  the  Member  State  does  not  decrease 
spending  on  the  concerned  social  investment.  Additional  data  on  such  training 
programmes would be needed to ensure regular and timely monitoring.  

On a regular basis, the Commission should consult the member states who did not make 
use of available loans in order to identify the limitations of the scheme. 

7.1.3.  Quality of public investment management 

The  quality  of  public  investment  management  would  be  monitored  ex  ante  before  the 
instrument  starts  operating.  In  addition,  the  merit  and  lessons  learnt  from  this  exercise 
would also be used in an ex post evaluation of the instrument. 

The  ex-ante  assessment  would  examine  the  quality  of  a  Member  State's  public 
investment  management  capacity,  with  the  aim  of  ensuring  that  there  are  no 
bottlenecks within their public investment management system that lead to an inefficient 
use  of  the  resources  provided  by  the  stabilisation  function.  Moreover,  a  high  quality 

62 

 
 
public  investment  management  process  would  also  ensure  that  the  support  given  to 
the  desirable 
public 
macroeconomic effects and lead to sustainable investment. 

the  event  of  a  downturn  would  produce 

investment 

in 

The  ex-ante  assessment  would  be  done  by  monitoring  the  efficiency  of  public 
investment  management  system.  This  could  be  done  by  using  the  IMF  Public 
Investment Management Assessment Framework (PIMA) and other frameworks, such as 
those  proposed  by  OECD  (2013  and  2014)  and  European  Commission  (2017  F).  The 
framework would evaluate the public investment management process at three key stages 
of the public investment cycle: planning sustainable investment across  the public sector 
("planning  phase"),  allocating  investment  to  the  right  sectors  and  projects  ("allocation 
phase"),  implementing  projects  on  time  and  on  budget  ("implementation  phase"),  and 
possibly ex post evaluation of projects (“evaluation phase”). See box 3 for details on the 
IMF PIMA framework.  

63 

 
 
 
Box 4: The assessment of the public investment framework (IMF, 2015) 

The following indicators could be used when assessing the planning phase: 
•  National  fiscal  rules  and  budgetary  planning  are  such  that  they  ensure  that  overall  levels  of  public 

investment are adequate, predictable and sustainable; 

•  National and sectoral plans are such that they ensure public investment decisions are based on clear and 

realistic priorities, cost estimates and objectives for each sector; 

•  Central and local coordination arrangements are such that public investment plans are integrated across 
levels  of  government,  provide  certainty  about  funding  from  the  central  government  and  ensure 
sustainable levels of subnational borrowing; 

•  Management  of  public-private  partnerships  (PPP)  are  such  that  they  ensure  an  effective  evaluation, 

selection and monitoring of PPP projects and liabilities; 

•  The regulation governing infrastructure companies is such that it ensures open and competitive markets 
for  the  provisions  of  infrastructure  services,  an  objective  pricing  of  infrastructure  outputs  and  the 
effective oversight of infrastructure company investment plans. 

The following indicators could be used to assess the allocation phase: 
•  Multi-year  budgeting  that  provides  transparency  and  predictability  regarding  levels  of  investment  by 

ministry, program and project over the medium-term; 

•  Budget comprehensiveness which will be reflected by the fact that all public investment regardless of 

the funding channel is authorised by the legislature and disclosed in the budget documentation; 

•  Budget unity which will be reflected by the fact that decisions about individual projects take account of 

both their immediate capital and future operating and maintenance costs; 

•  Project appraisal according to which project proposals have to be subject to published appraisal using 

standard methodology and takes potential risk into account; 

•  Project selection according to which projects are systematically selected and approved on the basis of 

transparent criteria and included in the pipeline of approved investment projects. 

The following indicators could be used to assess the implementation phase: 
•  Protection of investment which will be reflected by project appropriations which are sufficient to cover 

total project costs and cannot be diverted at the discretion of the executive; 

•  Availability  of  funding  which  allows  for  planning  and  commitment  of  investment  projects  based  on 

reliable forecasts and timely cash flows from the Treasury; 

•  Transparency  of  budget  execution:  major  investment  projects  are  tendered  in  a  competitive  and 

transparent process, monitored during project implementation and independently audited ; 

•  Project management: an accountable project  manager is identified and is working in accordance with 
improved  implementation  plans  and  provides  standardized  procedures  and  guidelines  for  project 
adjustment; 

•  Monitoring  of  public  assets:  assets  are  properly  recorded  and  reported  and  their  depreciation  is 

recognized in financial statements. 

Based on these 15 indicators, countries are given a score between 0 (no key features are in place) and 10 
(all key features are in place). The evaluation conducted by the IMF gave a mean PIMA score of 7/10 to 
the European countries in their sample. The current evaluation framework would consider that the public 
investment management capacity in a given country would be of sufficient quality if the country obtains a 
PIMA score of at least 8/10. 

64 

 
 
 
 
 
 
 
 
 
Annex 1: Procedural information 

Lead DG, Decide Planning/CWP references 

The  lead  Directorate  General  is  the  Directorate  General  for  Economic  and  Financial 
Affairs (DG ECFIN).   

The  initiative  is  foreseen  in  the  2018  Commission  Work  Programme  (CWP)  under  the 
header  “Deeper  and  Fairer  Economic  and  Monetary  Union”:  “We  will  also  propose  to 
create  a  dedicated  euro  area  budget  line  within  the  EU  budget  in  order  to  provide  for 
four functions: structural reform assistance; a stabilisation function; a backstop for the 
Banking  Union;  and  a  convergence  instrument  to  give  pre-accession  assistance  to 
Member States on their way to euro membership.” (Authors’ highlight)30 

Political steer and support for this initiative is also reflected in a number of Commission 
Communications. The Commission Communication on "new budgetary instruments for a 
stable euro area within the Union framework" from 6 December 2017 and the Reflection 
Paper  on  the  deepening  of  the  Economic  and  Monetary  Union  have  called  for  the 
creation of a stabilisation function. Earlier, the White Paper on the Future of Europe and 
the Five Presidents’ Report have suggested the creation of such an instrument as well.31  

Organisation and timing 

The works for this initiative have been launched in December 2017.  

The following Directorates General were invited to the Inter-Service Steering Group 
(ISSG): BUDG, ECFIN, EMPL, JRC, SG, SJ   

The Inter-Service Steering Group was chaired by the Secretariat General.  

The Inter-Service Steering Group has met for a number of three times to discuss the file. 
The last meeting of the steering group took place on 19 March 2018. The minutes of this 
meeting are reported at the end of this annex. In addition, there was a conference call 
with JRC colleagues located at the Ispra site. 

30 see Commission Communication on “Commission work programme 2018 – an agenda for a more united, 
stronger and more democratic Europe” – COM(2017) 650: 
https://ec.europa.eu/info/sites/info/files/cwp_2018_en.pdf  
31 Communication on new budgetary instruments for a stable euro area within the Union framework - 
COM(2017) 822: https://ec.europa.eu/info/sites/info/files/economy-finance/com_822_0.pdf   
6  December  Package.  Commission  Communication  on  “Further  steps  towards  completing  Europe's 
economic  and  monetary  union:  a  roadmap”  -  COM(2017)  821:  http://eur-lex.europa.eu/legal-
content/EN/TXT/PDF/?uri=CELEX:52017DC0821&from=EN ; 
Reflection paper on the deepening of the economic and monetary union - COM(2017) 291: 
https://ec.europa.eu/commission/sites/beta-political/files/reflection-paper-emu_en.pdf  
White  paper  on  the  future  of  Europe  -  COM(2017)2025:  https://ec.europa.eu/commission/sites/beta-
political/files/white_paper_on_the_future_of_europe_en.pdf  
Five Presidents’ Report: Completing Europe's Economic and Monetary Union: 
https://ec.europa.eu/commission/sites/beta-political/files/5-presidents-report_en.pdf 

65 

 
 
                                                            
Consultation of the RSB 

An informal upstream meeting was held on 28 February 2018 with RSB representatives 
and the participation of SG, DG BUDG and JRC. During this discussion Board members 
provided early feedback and advice on the basis of an annotated outline. Board members' 
feedback  did  not  prejudge  in  any  way  the  subsequent  formal  deliberations  of  the  RSB. 
The  Impact  Assessment  report  was  examined  by  the  Regulatory  Scrutiny  Board  on  25 
April  2018.  Based  on  the  Board's  recommendations,  the  Impact  Assessment  has  been 
revised in accordance with the following points: 

Main considerations 

The Board understands that the policy intention is to 
contribute to a stabilisation function at EU level to 
address  large  asymmetric  shocks.  The  Board  notes 
that  the  scheme  is  a  new  tool  to  address  a  well-
understood problem but controversial project for the 
completion of the Economic and Monetary Union.  
The  Board  acknowledges  the  economic  research 
and analysis that feed into the report. However, the 
report  still  contains  significant  shortcomings  that 
need  to  be  addressed.  As  a  result,  the  Board 
expresses reservations and gives  a positive  opinion 
only  on  the  understanding  that  the  report  shall  be 
adjusted 
the  Board's 
to 
recommendations on the following key aspects: 
(1) The report does not sufficiently explain how the 
scheme  would  work  in  practice  and  how  it  would 
interact with the other governance instruments.  

in  order 

integrate 

(2)  The  report  does  not  provide  an  adequate 
baseline.  It  does  not  sufficiently  explain  how  the 
scheme  would  be  funded,  how  this  relates  to  the 
MFF and whether there is a critical mass of funding 
the  scheme  work 
to  make 
which 
effectively. 

is  needed 

(3)  The  preferred  option  does  not  stem  logically 
from  the  structure  of  the  analysis  and  the  problem 
assessment. The report does not relate the choice of 
preferred option to evidence of stakeholders' views. 

and 

adjustment 

considerations 

Further 
requirements. 
 (1)  The  report  should  provide  more  detail 
regarding  the  conditions  for  activation,  the  link 
with 
of 
automaticity,  and  the  room  to  apply  judgment 
when deciding about disbursing funds. The report 
should better explain how the scheme would work, 
in  particular  the  procedure  to  trigger  funding.  The 

the  degree 

governance, 

fiscal 

Modifications to take into account the RSB 
remarks. 

Specific comments below were duly acknowledged 
and incorporated. 

See  detailed  reply  in  “Further  considerations  and 
adjustment  requirements”.  The  description  of  the 
main  policy  option  was  augmented  in  Section  5.2.  
The  interaction  with  other  instruments  is  discussed 
at the end of Section 4.2.  

See  detailed  reply  in  “Further  considerations  and 
adjustment  requirements”.  The  baseline  is  now 
described  and  justified  in  more  details  in  Section 
4.1.  The  link  with  the  MFF  and  other  funding 
considerations  are  further  described  in  Section  5.2. 
The  size  of  the  option  is  discussed  under  the  new 
Section 6.1.3. 

See  detailed  reply  in  “Further  considerations  and 
adjustment  requirements”.  Analysis  of  preferred 
option was further detailed. Stakeholders' views are 
now summarized in the introduction, detailed in the 
new  Section  3.3  and  included  in  the  choice  of 
options presented in Section 6.5. 

The  workings  of  the  scheme  is  now  explained  in 
greater  detail,  see  in  particular  section  5.2.  It 
provides  additional  details  on 
the  conditions, 
eligibility  and  timing  of  activation.  Additional 
evidence  on  the  correlation  of  the  unemployment 
the 
rates  and  ex  post  output  gaps  confirms 
timeliness  of  triggering.  The  text  discusses  the 

66 

 
 
 
 
a 

in 

event  of 

could  hamper 

issue  of  timing  of  the  activation  is  important 
because it determines the point in the business cycle 
at  which  a  country  becomes  eligible.  In  this  vein, 
the report should guide the reader through how the 
scheme  works  to  prevent  bad  outcomes,  and  what 
would  happen 
large 
the 
macroeconomic  shock.  The  report  should  also 
explain  any  interactions  between  stabilisation  and 
fiscal  governance.  In  particular,  it  should  analyse 
the  extent  to  which  the  obligation  to  respect  the 
fiscal  governance 
the 
rules 
stabilisation  objective,  given  that  –  under  the 
preferred  option  –  the  stabilisation  instrument 
would  not  directly  shrink  the  public  deficit.  The 
report  should  also  better  explain  what  kind  of 
political  decision  is  involved  in  granting  funding 
access to a Member State. Who would decide, when 
and with what margin of discretion?  
(2)  The  report  should  elaborate  further  the 
clarify  what 
baseline 
continuation  of  the  status  quo  would  mean  for  the 
resilence  of  the  euro  area.  This  should  project  the 
implications  of  the  backstop  put  in  place  by  the 
Single  Resolution  Fund  and  of  potential  support 
from the proposed EMF, including to the envisaged 
stabilisation function. 

scenario. 

should 

It 

(3)  The  report  should  more  clearly  explain  the 
composition  and  funding  arrangements  for  the 
scheme.  In  particular,  it  should  better  develop  the 
relation  to  the  MFF  and  the  EU  budget.  It  should 
explain  whether  the  scope  is  Euro  Area  (with  or 
without  ERM2  participants)  or  EU-27  and  indicate 
whether  a  critical  mass  of  funding  would  be 
necessary  to  ensure  effectiveness  of  the  scheme. 
The  issue  of  subsidised  loans  should  also  be  fully 
developed, especially regarding how high the grant 
element  would be,  how  it  would  be funded and by 
whom.  The 
clearer 
projections on the possible distribution of funds and 
acknowledge which variables are unpredictable and 
why.  Other  elements  that  need  clarifications  are 
possible caps and backstops that would prevent the 
risk of moral hazard and funding arbitrage. 

should  provide 

report 

decision  making  for  the  instrument  in  more  detail, 
delineating 
the  degree  of  automaticity  and 
discretion more clearly.    

The  interaction  with  other  instruments  is  discussed 
in  more  detail  now  at  the  end  of  Section  4.2.  It 
provides additional elements on the interaction of a 
stabilisation  function  with  the  European  fiscal 
framework,  more  specifically  with  the  fiscal  rules 
enshrined  in  the  Stability  and  Growth  Pact.  The 
necessary  minimum  compliance  with  the  Pact  is 
designed  to  support  the  enforcement  of  fiscal  rules 
without  generating  excessive  rigidities 
the 
functioning  of  the  scheme.  The  interaction  with 
financial assistance provided by the ESM is spelled 
out in additional detail as well. 

in 

Section  5.1  describes  in  more  detail  the  baseline 
scenario.  The  possible  evolution  of  the  ESM/EMF 
and its instruments is discussed in more detail, also 
in  respect  to  its  interaction  with  the  stabilisation 
function.  The  risks  associated  with  not  acting 
beyond  such  a  baseline  are  spelled  out  in  more 
detail. 

The  funding  arrangements  of  option  2  areare  now 
described  further  in  Section  5.2.  The  “budgetary 
technique”  with  respect  to  the  MFF  is  explained 
thoroughly.  The  geographical  scope  was  clarified 
and  different  considerations  explained.  The  size 
necessary  for  the  scheme  to  provide  important 
stabilisation  was  discussed  further  along  different 
stylised  options,  see  Section  6.1.3.    The  text  now 
provides  further  detail  on  the  operation  and  design 
(options)  of 
rate  subsidy.  The 
interest 
presentation of the distribution of support, which is 
covered  throughout  Sections  6.1  and  6.3,  was 
reworked.  Section  6.1.3  explains  how  past  crisis 
periods are used to calibrate the loan support to the 
available  funds.  Specific  dispositions  on  caps  and 
backstops to avoid cost overruns are also described 
in Box 1. 

the 

(4)  The  report  should  better  elaborate  how  the 
choice  of  the  preferred  option  was  made  and 
based on  which  criteria. In  this context,  it  should 
discuss  Member  States'  likely  diverging  views  for 
the  various  options  and  the  proposed  solution.  It 
should  justify  the  selection  of  preferred  policy 
option  taking  into  account  political  feasibility  and 
proportionality.  Under  the  preferred  option,  it 
should  clarify  the  degree  of  commitment  for  an 
insurance mechanism as a longer-term solution. 

The  conclusions  on  the  different  options  and  the 
choice  of  the  preferred  options  were  detailed 
further, see Section 6.5. It now includes more detail 
about  political  feasibility  and  proportionality.  The 
position of different stakeholders is also covered in 
much detail in a new subsection 3.3 and in a revised 
Annex  2.The  possibility  of  a  phased-in  approach, 
allowing 
insurance 
mechanism in the longer term is presented in more 
detail. 

the  creation  of  an 

for 

(5)  The  report  should  explain  what  success  of 
this  initiative  would  look  like.  It  should  clarify 
what arrangements would be put in place to monitor 
the  performance  of  the  scheme,  and  to  collect 
evidence  that  this  delivers  improved  outcomes 
relative  to  the  baseline.  The  report  should  also 

The description of the monitoring of the scheme has 
been  extended  in  Section  7.  It  provides  a  more 
thorough  link  with  the  objectives  pursued  and 
provides  additional  detail  on  the  frequency  of 
monitoring.An  indicative  list  of  macroeconomic 
indicators  to  be  used  for  monitoring  purposes  is 

67 

 
 
 
clearly  explain  how  the  evaluation  of  the  initiative 
would take place.  
(6)  The  report  should  present  its  arguments  in 
the  logic  of  an  impact  assessment.  It  should  not 
base  its  analysis  on  the  resulting  Commission 
proposal.  Rather, 
impact 
assessment should support the proposal. 

the  analysis 

the 

in 

provided in Box 3. 

References  to  the  upcoming  Commission  proposal 
were removed. Text now provides a more inductive 
sequence of arguments, deriving policy options and 
considerations  more  directly  from  the  problem 
definition.  

be 

complemented  with 

The  Board  notes  that  this  impact  assessment  will 
eventually 
specific 
budgetary  arrangements  and  may  be  substantially 
amended in line with the final policy choices of the 
Commission’s MFF proposal. 
Some  more 
transmitted directly to the author DG. 

technical  comments  have  been 

68 

 
 
 
 
 
Annex 2: Stakeholder consultation  

Due  to  the  compressed  timeline  for  the  preparation  of  the  legal  draft  and  the  impact 
assessment,  there  was  no  public  consultation  in  the  traditional  sense  and  no  public 
inception impact assessment. 

The  discussion  on  creating  a  stabilisation  function  for  the  euro  area  is  not  new;  it  has 
been  an  important  part  of  the  overall  process  towards  deepening  the  economic  and 
monetary union (EMU) over the past years. During this period, the Commission has put 
forward several ideas for discussion, which have indeed steered the public debate. 

Public discussion 

A number of reports have been produced over the past few years emphasizing the need 
for  a  macroeconomic  stabilisation  function:  the  Four  Presidents  report  in  2012,  the 
Five  Presidents  Report  in  2015,  as  well  as  the  Reflection  Paper  on  Deepening  the 
EMU in May 2017. 

In  December  2017,  then,  the  Commission  published  a  Communication  on  new 
budgetary  instruments  for  a  stable  Euro  Area,  explaining  the  concept  and  design 
features  of  a  stabilisation  function  with  increasing  level  of  detail,  in  the  run-up  to  the 
proposal for a new Multiannual Financial Framework (MFF).  

issued  papers 

The political declarations from Member States in this debate have been mixed, with some 
expressing  strong  support  in  principle  for  a  stabilisation  instrument  while  others  have 
shown  scepticism.  France  has  been  amongst  the  most  ambitious  advocates  for  central 
fiscal capacity, with President Macron (2017) proposing a permanent, fully-fledged euro 
area  budget  that  would  finance  common  public  goods  include  migration,  defence  and 
disruptive  innovation.  The  national  ministries  of  economy  or  finance  from  Italy  and 
Spain  have 
lining  out  proposals  for  specific  funds  providing 
macroeconomic stabilisation (see below). While views floated in the German government 
appear mixed, the coalition agreement includes a reference to "devoting specific budget 
funds to  economic stabilization, social  convergence  and structural reform in  euro zone. 
Those funds could form the basis for a future ‘investment budget’ for the euro zone."  In 
contrast, other Member States have been more sceptical of the need for an instrument for 
the  absorption  of  large  economic  shocks,  as  reflected  in  recent  speech  by  Dutch  Prime 
Minister  Rutte  (2018).  This  was  mirrored  when  the  finance  ministers  of  six  euro  area 
Member  States  (Estonia,  Finland,  Ireland,  Latvia,  Lithuania,  the  Netherlands)  plus 
Denmark  and  Sweden  did  not  mention  a  central  fiscal  capacity  in  their  priorities  for 
EMU reform. 

Other  stakeholders  than  Member  States  as  well  as  academia  have  generally  been 
supportive  of  the  idea  overall.  The  European  Parliament's  Committees  on  Budgets  and 
Economic and Monetary Affairs issued a report on a budgetary capacity for the Eurozone 
in 2015  and the European Parliament adopted a resolution outlining a roadmap for the 
creation of a budgetary capacity for the Eurozone in 2017.  The European Central Bank 

69 

 
has seen a fiscal capacity as an important part of EMU deepening (Coeuré, 2016). Other 
European actors such as the European Economic and Social Committee have emphasized 
the  need  for  a  fiscal  union  while  the  European  Stability  Mechanism  has  offered  to 
support financially a macroeconomic stabilisation function if one is created.  In the more 
academic literature, there is a wide array of papers supporting the case for a stabilisation 
function  for  Europe.  Broad  studies  on  fiscal  union  have  put  forward  the  notion  of  a 
common  stabilisation  capacity  for  coping  with  large  shocks  and  share  risks.  This  is  in 
particular the  case  of  surveys  from  international  organisations  such  as  the  IMF  and  the 
OECD (e.g. Allard et al. (2013); Berger et al., 2018; OECD, 2018). These international 
institutions have made detailed proposals for a central fiscal stabilization capacity, with 
variants  of  an  insurance  mechanism  and  a  common  unemployment  scheme.  A  non-
exhaustive  list  of  specific  proposals  from  economic  papers  includes  Dullien  (2009, 
2013), Enderlein et al. (2013), Pisani-Ferry et al. (2013), Delbecque (2013), Dolls et al. 
(2014), Drèze and Durré (2014), Lellouch and Sode (2014), Beblavy and Maselli (2014, 
2015),  Carnot  et  al.  (2015,  2017),  Benassy-Quéré  et  al.  (2018),  Arnold  et  al.  (2018), 
Dullien et  al.  (2018) and Claveres and Stratsky (2018). Some academics have  however 
also warned against the notion of a stabilisation function, or at least drawn attention to its 
risks (Feld and Osterloh, 2013; Hebous and Weichenrieder, 2015). 

Discussions among Member States and the European institutions 

First  discussions  at  the  Economic  Financial  Committee  and  among  their  alternates 
confirm  varied  views.  Notably,  besides  some  supportive  and  some  sceptical  Member 
States, there is a sizeable group of Member States who acknowledge the merit of in-depth 
discussions  but  do  not  yet  hold  a  firm  view.  The  proposal  to  be  presented  by  the 
Commission in May could seek to bridge these gaps among Member States, although it is 
likely that extensive subsequent discussions will be needed in order to create a consensus 
on both the necessity and operational characteristics of such an instrument. 

After  the  December  Communication,  the  Commission  organised  several  outreach 
missions in Member States to consult the main institutional stakeholders on the process 
of deepening the EMU. These missions consisted of targeted meetings during the visits 
with:  Sherpas,  high  level  representatives  of  Ministries  of  Economy  and  Finance  and 
Ministries responsible for cohesion policy, national parliaments' committees, think tanks 
and other stakeholders.  

These are the missions that took place: 

  Belgium: 14 March and 21 March, meetings with Federal Parliament and Finance 

Ministry, Budget Ministry. 

  Bulgaria:  13th  /  14th  February,  meetings  with  Ministry  of  Finance,  Cohesion 
policy,  Central  bank,  National  parliaments'  committees,  Social  partners,  Think 
tanks. 

  Germany:  1st  February,  meetings  with  Ministry  of  Finance,  Chancellery, 

Members of Parliament, Ministry for Economic Affairs. 

70 

 
  Spain: March 15, meetings with Economic experts on EMU, Secretary General of 

Treasury and Financial Policy, Secretary of State for the Budget.  

  France: 6th February, meetings with Treasury, European affairs, Foreign affairs, 

central bank, think tanks. 
Italy: 5 February, meetings with Treasury, central bank, Academics. 

 
  Netherlands: 5-6 February, meetings with Symposium Raad van State (Council of 
State  conference)  -  Conference  on  EMU  deepening  and  Meeting  with  Dutch 
Central Bank, Treasury, Bureau for Economic Policy Analysis (CPB), employers' 
organisation, MPs of Finance Committee. 

  Austria:  23  February,  meetings  with  Sherpa,  Minister  for  EU  affairs  in  the 
Federal  Chancellery,  Foreign  Ministry,  ministry  of  finance,  Ministry  of 
Sustainability and Tourism, Central Bank,  Think Tanks and Social Partners. 
  Poland:  9th  February,  meetings  with  Ministry  of  Finance  ,  National  Bank  of 
Poland, Committee on the European Union in the Parliament, Ministry of Foreign 
Affairs, Ministry of Investment and Economic Development. 

  Finland:  30th  January,  meetings  with  Prime  minister  Office,  Finance  Ministry, 

Ministry of Energy and Climate, Ministry of Innovation, researchers. 

In  addition, several discussions took place  on this  topic among Ministers of Finance in 
the Ecofin and Eurogroup, preceded by discussions in EFC/EWG and EFC-A/EWG-
A. 

These are the meetings in which this topic was discussed: 

  Economic and Financial Committee, of 4-5 September 2017 
 
Informal ECOFIN - Tallinn, of 15-16 September 2017 
  Eurogroup  Working  Group  +  on  Fiscal  framework:  fiscal  capacity,  fiscal  rules 

and institutions, of 27 October 2017 

  Eurogroup in inclusive format of 6 November 2017 
  Eurogroup in inclusive format of 4 December 2017 
  Economic and Financial Committee, of 11-12 January 2018 
  Eurogroup meeting of 22 January 2018 
  ECOFIN Council of 23 January 2018 
  Eurogroup Working Group, of 1-2 March 2018 
  Eurogroup Working Group + Dinner seminar - The future of the European fiscal 

architecture, of 8 March 2018 

  Eurogroup meeting of 12 March 2018 

71 

 
 
 
 
 
Annex 3: Analytical methods 

This impact assessment uses various types of quantitative tools.  

The  problem  definition  relies  on  a  retrospective  analysis  of  the  unfolding  of  the 
recent  crisis  and  an  econometric  analysis  of  business  cycles  in  the  euro  area.  This 
analysis is based on standard macroeconomic indicators (GDP growth, output gap, public 
deficit and debt, sovereign spreads). The analysis also builds on more advanced tools and 
metrics,  such  as  a  principal  component  analysis  to  identify the  common  fluctuations  in 
the  business  cycles  of  the  EA  Member  States,  the  revenue  windfalls/shortfalls  and  the 
fiscal  stance  to  analyse  the  reaction  of  the  governments  to  the  crisis  or  the  income 
stabilisation coefficients of the various tax systems. 

To  assess  the  potential  activity  and  the  calibration  according  to  the  financial 
envelope of the  stabilisation function or the  insurance  mechanism,  simulations are 
run based on past data (1985 to 2017). These simulations apply the proposed rules for 
the functioning of these mechanisms to past fluctuations in the euro area. Doing so, it is 
possible to compare the different options (trigger, calibrations), estimate the frequency of 
activation of the schemes, isolate the periods when the schemes would have been active 
and  identify  the  beneficiaries.  These  simulations  also  allow  calibrating  the  budget  for 
both  the  loans  support  and  the  insurance  mechanism  and  exemplifying  their  non-
permanent transfer properties. The analysis was performed on data mostly from Eurostat, 
using  the  software  R.  The  approach  and  the  applicable  caveats,  including  data 
availability, are described in the text.  

An  econometric  analysis  in  panel  is  also  mobilised  to  assess  the  positive  effect  of 
preferential  interest  rates  provided  by  the  stabilisation  function  on  public 
investment.  This  analysis  builds  on  and  simplifies  other  works  conducted  by  the 
Commission  (European Commission,  2017  E)  to  estimate  the  impact  of  various  factors 
on  public  investment  dynamics.  The  analysis  was  performed  using  Stata,  the  approach 
and the applicable caveats are described in box 2.  

is  assessed 

The  stabilisation  impact  of  both  the  stabilisation  function  and  the  insurance 
mechanism 
through  simulations  of  a  macroeconomic  model 
(QUEST).QUEST  is  the  global  macroeconomic  model  that  the  Directorate  General  for 
Economic  and  Financial  Affairs  (DG  ECFIN)  uses  for  macroeconomic  policy  analysis 
and research. It is a structural macro-model in the New-Keynesian tradition with rigorous 
microeconomic  foundations  derived  from  utility  and  profit  optimisation  and  including 
frictions in goods, labour and financial markets. Models of this class are used for shock 
analyses and shock decompositions, for example to assess the main drivers of growth and 
imbalances. Many applications deal with fiscal and monetary policy. This model is also 
used  to  analyse  the  impact  of  structural  reforms  in  the  EU.  The  main  caveat  of  such  a 
model  in  the  context  of  the  simulations  presented  here  are  the  modelling  assumptions 
which  constrain  the  stabilisation  channels  and  the  sensitivity  of  the  results  to  the 
calibration. 

72 

 
 
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78 

 
 
 
 
Annex 5: Glossary and acronyms

Acronyms 

EA: Euro area 
EC: European Commission 
ECB: European Central Bank 
EDP: Excessive deficit procedure 
EFSM: European financial stabilisation 
mechanism 
EMF: European Monetary fund 
EMU: Economic and monetary Union 
ESM: European stability mechanism 
EU: European Union 
GDP: Gross domestic product 
GFCF: Gross fixed capital formation 
IMF: International monetary fund 
MFF: Multiannual financial framework 
MIP: Macroeconomic imbalances 
procedure 
OECD: Organisation for economic eo-
operation and development 
OMT: Outright Monetary Transactions 
SRF: Single resolution fund 
TFEU: Treaty on the functioning of the 
European Union 
ZLB: zero lower bound 

Glossary 

function  measures 

Activity  rate:  The  activity  rate  of  the 
loan mechanism proposed as part of the 
the 
stabilisation 
support  which  is  provided  by  the 
scheme  as  a  fraction  of  the  theoretical 
maximum.  At  each  point  in  time,  not 
all  countries 
(see 
trigger) and not all support are equal to 
the  maximum  (see  severe  shock), 
therefore  the  activity  rate  will  remain 
below  100%  and  increases  as  the 

receive  support 

economic  downturn  becomes  more 
severe or widespread. 

Automatic stabilisers: Features of the 
tax  and  spending  regime,  which  react 
automatically  to  the  economic  cycle 
and reduce its fluctuations. As a result, 
the budget balance in per cent of GDP 
tends  to  improve  in  years  of  high 
growth, 
during 
economic slowdowns. 

deteriorate 

and 

Banking  Union  The  European 
Banking  Union  regroups  activities  of 
supervision  of  banks,  resolution  of 
bank failures and insurance of deposits 
at  the  EU  level,  through  the  single 
supervisory  mechanism  (SSM), 
the 
single  resolution  mechanism  (SRM) 
and  European 
insurance 
scheme.  

deposit 

Cyclically-adjusted  budget  balance: 
See structural budget balance. 

Eligibility  In  order  to  be  eligible  to 
support under the stabilisation function, 
Member  States  must  meet  certain 
criteria  (regarding  the  conduct  of  the 
economic  policies).  Eligibility  is  a 
precondition  to  receive  support  if  and 
when the economic conditions justify it 
(see trigger).  

Excessive  Deficit  Procedure  (EDP): 
A  procedure  according  to  which  the 
Commission  and  the  Council  monitor 
the  development  of  national  budget 
balances  and  public  debt  in  order  to 
assess  and/or  correct  the  risk  of  an 
excessive deficit in each Member State. 

79 

 
 
 
Its  application  has  been 
further 
clarified  in  the  Stability  and  Growth 
Pact.  

Fiscal consolidation: An improvement 
in the budget balance through measures 
of  discretionary  fiscal  policy,  either 
specified  by 
the 
improvement  or  the period over which 
the improvement continues. 

the  amount  of 

and 

Fiscal policy Fiscal policy refers to the 
decisions  influencing  the  level  and 
composition 
government 
of 
expenditure 
revenue,  budget 
deficits  and  government  debt.  Fiscal 
policy 
is  a  pivotal  element  of 
macroeconomic stability. In a monetary 
union, such as the euro area, sovereign 
states  retain  responsibility  for  their 
fiscal  policies.  Fiscal  discipline  and 
coordination are nevertheless needed to 
have  a significant  impact on economic 
growth,  macroeconomic  stability  and 
inflation.  

categories  of  expenditure  (headings) 
over a period of at least five years. The 
current  MFF  covers  2014-2020  for  a 
total  amount  of  EUR  1  trillion.  It 
provides  a  framework  for  financial 
programming  and  budgetary  discipline 
by  ensuring 
is 
predictable and stays within the agreed 
limits.  

that  EU  spending 

Output  gap:  The  difference  between 
actual  output  and  estimated  potential 
output at any particular point in time.  

limits 

Own resources Own resources are the 
EU's  revenue.  The  different  types  of 
own  resources  and  the  method  for 
calculating  them  are  set  out  in  a 
Council  Decision  on  own  resources.  It 
also 
the  maximum  annual 
amounts  of  own  resources  that  the EU 
may  raise  during  a  year  to  1.20  %  of 
the  EU  gross  national  income  (GNI). 
EU  expenditure  must  be  completely 
covered  by  such  revenue.  Revenues  in 
excess  of  expenditures  can  be  refered 
to as the margin. 

Medium-term  budgetary  objective 
(MTO):  According  to  the  reformed 
Stability  and  Growth  Pact,  stability 
programmes 
convergence 
and 
programmes  present  a  medium-term 
objective  for  the  budgetary  position.  It 
is country-specific to take into account 
the 
and 
of 
budgetary  positions  and  developments 
as  well  as  of  fiscal  risks  to  the 
sustainability of public finances, and is 
(see 
structural 
defined 
structural balance). 

economic 

diversity 

terms 

in 

Multiannual  Financial  Framework 
the 
(MFF)  The  MFF 
maximum  annual  amounts  (ceilings) 
which the EU may spend in 5 different 

lays  down 

80 

increasing 

Pro-cyclical  fiscal  policy:  A  fiscal 
stance  which  amplifies  the  economic 
cycle  by 
the  structural 
primary  deficit  during  an  economic 
in  a 
upturn,  or  by  decreasing 
downturn. A neutral fiscal policy keeps 
the  cyclically-adjusted  budget  balance 
unchanged over the economic cycle but 
lets the automatic stabilisers work.  

it 

Public investment: The component of 
total public expenditure through which 
governments  increase  and  improve  the 
stock  of  capital  employed 
the 
production  of  the  goods  and  services 
they provide. 

in 

 
 
increase 

Severe  shock:  In  the  context  of  the 
loan support, severe shock refers to the 
annual 
in  unemployment 
beyond which the maximum support is 
made  available  to  the  Member  State. 
Below  this  magnitude,  the  support  is 
proportionate 
in 
unemployment.  

increase 

the 

to 

Structural  budget  balance:  The 
actual  budget  balance  net  of 
the 
cyclical  component  and  one-off  and 
other 
temporary  measures.  The 
structural  balance  gives  a  measure  of 
the  underlying  trend  in  the  budget 
balance.  

(or 

central 

Stabilisation function: The concept of 
stabilisation function is also referred to 
as stabilisation capacity, fiscal capacity 
or 
fiscal 
stabilisation  capacity  (CFC).It  consists 
of  a  pooling  of  public  resource  which 
would  be  used 
to  reinforce  fiscal 
policies  coordination  in  the  union  (see 
fiscal policy). 

common) 

Trigger The trigger of the stabilisation 
function  identifies  thanks  to  economic 
indicators  when  support  should  be 
provided  to  Member  States  who  are 
eligible. 

81