Has the EU shot itself in the foot?

Is £1.7 billion ($2.7 billion) a lot of money for the British government to fork out? It is when it is a European Union budget demand that comes out of the blue. But the impact of the EU’s unexpected budget invoice is not just financial, for it has arrived at a time when the anti-EU, United Kingdom Independence Party (UKIP) is riding high in opinion polls. The episode reveals the arbitrary nature of EU budget setting, which puts the EU itself in a bad light – and could be the last straw for Britain’s EU membership.

The bill originates from a statistical recalculation by Eurostat, the EU statistical office, of the UK’s economic performance over the past 20 years. The longer-terms costs, however, could be much greater than the relatively small amount (0.1% of GDP) involved. The political crisis – which originated with the calculation of national budget surcharges and rebates from the EU budget – stems from an institutional arbitrariness that seems unjust and fosters immense resentment. Like friendships or marriages that break down over seemingly trivial issues that in fact signify fundamental problems, this budget crisis has highlighted a serious flaw in the UK-EU relationship.

The new financial demand surprised UK Prime Minister David Cameron, who called it “completely unacceptable.” For many Eurosceptics, this was yet another sign of a conspiracy by the European Commission against Britain. Referring to a children’s murder-detective board game, Cameron declared: “You don’t need a Cluedo set to know that someone has been clubbed with the lead piping in the library.” A better comparison might have been with the “Chance” cards in Monopoly, the Great Depression-era board game that highlighted the random injustice of capitalism.

The timing of the spat could not be better for Britain’s EU opponents. UKIP could conceivably hold the balance of power following next May’s general election, and force the government to hold its promised “in-out” referendum on EU membership. Under electoral pressure, Britain’s two main parties – Conservatives and Labour – are already advocating limits on immigration that are incompatible with EU law and the core principles of European integration. The emotional escalation may lead many people, on both sides of the English Channel, to conclude that the UK and the EU would each be better off without the other.

Pre-existing tensions have inevitably played a large part in the current flare-up. But is the EU’s budget calculation method also at fault?

It is rational for a country’s EU budget contribution to reflect its real level of economic activity. In any case, the total EU budget, at around 1% of EU output, is relatively small, and has not changed for more than 30 years. The recalculation simply attempts to achieve a more accurate picture of the EU economy, correcting for activity not officially measured in national accounts, such as charity, drugs and prostitution.

Moreover, Britain was not the only EU member to fall foul of the recalculation. Italy’s economic performance also looked better than previously assumed, necessitating an additional payment. Italian Prime Minister Matteo Renzi duly joined the chorus of outrage, calling the recalculation a “lethal weapon.”

To be sure, it is fundamentally sensible for governments to monitor and tax as much domestic economic activity as possible. An external assessment that attempts to account for the whole of the economy – and calculates the budget contribution on this basis – should increase tax efficiency. Poor taxation capacity has, after all, been an endemic problem in southern Europe, including in Italy (and especially in Greece), while France and Germany, which both received large rebates, are better tax collectors.

Italy, like Greece, has been trying to broaden its tax base. Aerial surveys now detect garden swimming pools; tax assessors investigate yachts moored in harbours; and no transactions above €1,000 ($1,268) may be made in cash.

Yet why should the EU’s budget calculations place such importance on national accounts, which constitute a set of arbitrary conventions? If, for example, wages were paid for housework, GDP would increase without any more activity taking place. In a rational world, EU budget contributions would not be arbitrarily set, but would be automatically determined, say, as a fixed proportion of value-added tax (VAT) receipts. Only a relatively small share would be needed, requiring no periodic recalculations.

Assessing, and then reassessing, members’ dues in the current way damages the EU. Taken to its logical extreme, member countries would demand recalculations to reflect the different ways they measure income and wealth, thereby pitting potential beneficiary countries against contributors. Such a fiscal set-up has already threatened to break up member states – consider Scotland or Catalonia.

If the EU is seen as being little more than a treasure chest that allots fiscal resources to its members, it is bound to fail. As geopolitical challenges mount, and Europe faces its first systemic security threat since the end of the Cold War, the stakes could not be higher. Europe cannot get bogged down in what should be a simple bureaucratic process. Rather, the EU must be able to explain what it truly represents, and these ideals must be reflected in actions that are clear, predictable and non-arbitrary.

Published in collaboration with Project Syndicate

Author: Harold James is Professor of History and International Affairs at Princeton University, Professor of History at the European University Institute, Florence, and a senior fellow at the Center for International Governance Innovation.

Image: The European Union and other European flags flutter outside the European Council building, ahead of a European Union heads of state and governments summit, in Brussels June 16, 2005. REUTERS/Yves Herman