Fri. Jul 1st, 2022


Good morning and welcome to Europe Express.

Every three years, the European Commission looks at the state of economic development in regions that rely on so-called cohesion fundswhich are aimed at reducing the development gap compared to the wealthier parts of the bloc.

This year’s report, to be published today, makes for a grim reading, as it includes early findings about the impact of the pandemic on middle and low-income regions. I’ll take you through the main findings and policy recommendations.

On the Russia front, Emmanuel Macron, President of France, has claimed that he obtained assurances that his counterpart Vladimir Putin would not invade Ukraine. But the Kremlin retorted that no agreement had yet been reached “because France is a member of the EU, and of NATO, where it is not the leader. A different country in that bloc is the leader. ”

And in financial news, the EU extended – possibly for the last time – the access to UK clearing houses for its banks and fund managers for another three years.

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Development trap

This year’s report on cohesion policy – the European Commission’s first since the pandemic – shows that funding going to less-developed regions has generally boosted growth and allowed them to catch up with the wealthier parts of the EU. But the report also found that the pandemic has erased some of the gains made and highlighted social and economic disparities that linger in southern and eastern Europe.

The pandemic increased EU overall mortality by 13 per cent, but the impact has been higher in less-developed regions, where mortality increased by 17 per cent, the report states.

Health disparities have been shrinking over the past decade, with life expectancy increasing faster in less-developed regions (but still below the EU average, particularly in the east). When the pandemic hit, regional differences in healthcare capacity became more glaring.

From a social perspective, EU funding in this area reduced the number of people at risk of poverty by 17mn between 2012 and 2019, but the pandemic added back 5mn in 2020.

In economic terms, regions depending on sectors such as tourism, particularly in southern Europe, took a disproportionate hit. The pandemic has also created difficulties in crossing national borders for work, education, healthcare and other services.

But even before the pandemic, several middle-income and less-developed regions, especially in the southern part of the bloc, struggled to recover from the 2008 financial crisis – a phenomenon the commission describes as a “development trap”.

In order to avoid such a predicament in the future, less-developed regions are advised to boost education and training, increase investments in research and innovation, and improve the quality of their institutions.

On the plus side, since 2001, less-developed eastern regions have been catching up with the rest of the bloc, leading to a substantial reduction in GDP per capita gap, the report says. Their high growth rates have been fueled by structural transformation, notably a shift of employment out of agriculture and into higher-paid jobs. Some of these regions have relied on infrastructure investment and low costs to promote growth.

However, the commission warns, returns on infrastructure investment will decline and low-cost advantages will shrink if real wages grow faster than productivity.

Cohesion policy allocations relative to public investment

The report found that countries relied more on cohesion funds in the last EU budget (2013-2020) when compared to the previous seven-year budget, the exceptions being Hungary and Malta, which saw significant drops in EU cohesion funding relative to public investments.

Next year, the commission’s economic modeling projects GDP per capita to be 2.6 per cent higher in less-developed regions because of support from cohesion policy. This model also shows the gap between GDP per capita in regions representing top and bottom deciles will fall 3.5 per cent.

Last extension?

Déjà vu once again in Brussels as the commission formally confirmed it would extend access to UK clearing houses for its banks and fund managers for another three years, writes Philip Stafford in London.

Another extension heads off the likely instability on global financial markets if the permit to the end of June were allowed to lapse. A clearing house stands between two parties in a trade, ensuring one side is paid if someone defaults on payment and acts as a crash barrier to stop the effect cascading through global markets.

Publicly, authorities say it gives the markets more time to build capacity in the EU and loosen its exposure to London, where LCH still handles about 90 per cent of all euro-denominated derivatives.

Even so, Brussels yesterday gave the strong impression that this would be the last extension. As Markus Ferber, an influential German MEP, said: “If we continue to extend the equivalence decision until the dawn of the future, we will never succeed in bringing euro clearing back to the EU.”

To achieve that long-coveted goal, the commission also launched a consultation looking at ways to improve the “attractiveness” of EU-based clearing houses, with new rules to come later this year.

The 46-page document asks detailed questions about everything from the impact of higher capital requirements for EU banks if they have exposure to London to the practicalities of setting targets that reduce the level of exposure.

“The various measures are mostly stick rather than carrot,” said Pauline Ashall, capital markets partner at Linklaters, a London law firm.

How successful it will be and whether there will be another extension is another matter. Brussels has given no guidance as to what is an acceptable level of exposure.

An EU-industry working group last year produced few tangible results, illustrating the depth of resistance from the market. While users want the cheaper service that competition brings, their first priority is reducing the risks and the vast cost of running hundreds of open derivatives positions. That works best if it is done in one location, netting positions held in euros against those held in other currencies, especially dollars.

The other problem is that restrictions or added capital requirements make EU institutions less competitive than international rivals, which can continue to use London. The reality is that there are few easy options for Brussels if it wants to pursue its ambitions.

Chart of the day: Security guarantee

Chart showing responses to a survey asking 'How much do you trust the EU and NATO to protect your country's interests in the event of a Russian invasion of Ukraine?'

A majority of Europeans believe Russia will invade Ukraine this year, according to a survey carried out in seven EU nations and published today by the European Council on Foreign Relations. When it comes to NATO or the EU being best placed to protect their national interests in case of an invasion, only France and non-NATO members Sweden and Finland put the EU above the military alliance. (More here)

What to watch today

  1. EU foreign and health ministers meet for an informal council in Lyon

  2. Commission President Ursula von der Leyen and internal market commissioner Thierry Breton visit Morocco and Senegal

Notable, Quotable

  • French imbalance: France’s trade deficit in goods widened to a record € 84.7bn last year, creating what Finance Minister Bruno Le Maire called “a black mark” over the economy. The 31 per cent increase in the country’s trade deficit in goods came as its economy rebounded strongly from the fallout of the coronavirus pandemic, with annual growth of 7 per cent last year.

  • Pre-election handouts: Ahead of general elections in April, Hungary’s conservative government is paying out the country’s largest pension bonus today and giving families big tax rebates later this month. The pre-election handouts and tax cuts will amount to more than € 5bn, prompting inflation concerns.

  • Brexit opportunities: UK PM Boris Johnson has begun a cabinet reshuffle, moving Jacob Rees-Mogg, an ardent Leaver, to the role of minister for Brexit opportunities. Johnson has been criticized for not being bold enough in deregulating parts of the British economy since the UK left the EU, a task now in the hands of Rees-Mogg.

  • Poland fine: As the FT reported herethe European Commission yesterday said it would go ahead and start setting aside money for a € 500,000 a day fine that Warsaw has refused to pay and which was imposed by the European Court of Justice in September for ignoring its order to shut a mine.

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