'Game of chicken' as EU budget battle goes to extra time

Poland and Hungary have blocked the EU recovery package after refusing to countenance the strings that came attached

Euro

“How much is sovereignty worth?” That is the question posed by Brexit negotiations this week and also by Polish minister Michal Wojcik as his country and Hungary rebelled to set back the EU’s pandemic response again.

“A billion? Several dozen billion? Several hundred billion euros? For us, it’s priceless,” Wojcik said as Poland put the brakes on the EU’s historic €1.8 trillion budget and Covid recovery package.

The two countries made good on their threat to block Brussels’ plans to reboot the European economy if funding was linked to "rule of law" conditions - respect for democratic norms such as the independence of judges and a free press. 

A final deal for the EU’s seven-year budget and €750bn Recovery Fund needs unanimous approval from the bloc’s 27 members. But can Brussels overcome the latest hurdle in its pandemic recovery plan?

The veto by Poland and Hungary is “potentially a serious hiccup” for the bloc, warns Florian Hense, eurozone economist at Berenberg.

He explains that the fund is key for boosting the region's growth prospects and reducing the risk of the Covid downturn turning into a financial crisis or economic depression.

“In a bad case, it may delay the first payouts of the €390bn worth of grants from the Next Generation EU fund, currently scheduled to start at some time in the second quarter of 2021.”

The Recovery Fund was dubbed a watershed moment for the region’s integration when it was agreed in the summer after much wrangling between southern Europe and the "frugal" nations in the north

Under the plan, the European Commission will borrow substantially from financial markets for the first time to fund €750bn of grants and loans with the package likened to a “Hamiltonian moment” for the region – an allusion to when the US colonies were brought closer together in the 1790s by Alexander Hamilton’s plan for the federal government to take over their debts. 

The deal will ease the pressure on public finances in some of Europe’s most indebted countries.

Debt-saddled Italy and Spain will be given the lion’s share of the funding after being hardest hit by the pandemic, while Greece is the largest net recipient relative to GDP.

Poland and Hungary also stand to benefit from the help but could not stomach the “rule of law” conditions tied to the help.

“When in the summer European leaders agreed on a financial package worth €1.8 trillion there was an outburst of optimism that the pace of recovery could be fairly strong,” says Piotr Matys, strategist at Rabobank.

He says the “rule of law” disagreement could “substantially delay the redistribution of urgently required funds” and at worst plunge the EU into a “deep crisis”.

The roadblock will be debated at a virtual EU summit on Thursday, but analysts warn a compromise is unlikely to be found before talks in December at the earliest.

Hense expects “a lot of pressure and backroom discussions”, but believes the “EU compromise machine” will work “as usual” in the end.

Hungarian Prime Minister Viktor Orban has written to the EU saying he would veto the budget and post-pandemic relief package Credit:  JOHN THYS/ AFP

“This is a game of chicken,” explains Carsten Brzeski, economist at ING. “Hungary and Poland are now not only blocking the recovery fund, but also the entire multi-annual framework.”

He says a compromise could be to exclude the two countries from the recovery fund, or a “watering down in the rule of law condition”.

“Even without this road block, a delay in starting the Recovery Fund was already in the making.”

While the Recovery Fund's risk-sharing element breaks new ground for the bloc, countries will need to keep the spending taps turned on. 

Analysts believe the size of the Recovery Fund is insufficient alone and just a fraction of the money will be available next year. Around a tenth of the total will be doled out in 2021 with the bulk being provided between 2022 and 2024.

Brzeski says the package will be a “gradual contribution” to the recovery and will help to finance longer-term spending, such as infrastructure and digital investment. 

“The most important thing is it is symbolic because this Recovery Fund really stands for the solidarity that we saw last summer,” he says.

“This is why the other 25, or at least the eurozone, countries clearly have a deep and strong interest in getting this whole thing over the finish line.”

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