The European Union’s Financial Perspective for 2007-13: A Good Agreement for Spain (II)

The European Union’s Financial Perspective for 2007-13: A Good Agreement for Spain (II)

Theme: The outcome of the negotiations on the European Union budget for 2007-13, reached in Brussels on December 17, 2005.

Summary: Negotiations on the financial perspective for 2007-13 have been held in a very adverse political and economic climate. On the one hand, the current economic crisis in the euro zone has put enormous pressure on the EU budget, the overall size of which has been cut significantly. On the other, Spain’s spectacular economic growth in the past decade and the recent enlargement to the East have left the country very close to the average income level for the EU as a whole. The combination of these three effects ultimately explains why Spain’s balance with the EU will decrease rapidly in 2007-13. All in all, Spain has had unquestionable success at the negotiating table: the country will continue to have an overall positive balance in the period; the Cohesion Fund will be extended to take into account the so-called ‘statistical effect’ of the enlargement; the most disadvantaged regions of Spain will continue to receive funds (though these will be reduced gradually); the Union will take even greater part in the control of migratory flows; and, finally, a specific technology fund has been created for Spain –something unprecedented in EU history–. All this has been achieved through long and very tenacious diplomatic work, whose greatest success has been to bring about a complete turnaround in the focus of the negotiations, which were initially characterised by an alliance of net contributors against Spain. In the end, Spain was able to win support and understanding for its demands from the three big contributors to the budget (Germany, France and the UK).


An Extremely Adverse Context
On April 19, 2001, the Spanish government presented the European Council with a memorandum on ‘Regional Policy and Enlargement’, indicating Spain’s desire to reach a solution to the problem caused by the ‘statistical effect’ of enlargement. The memorandum explained that the entry of a group of new countries less prosperous than Spain would automatically raise the per capita income of certain Spanish regions above the threshold of 75% of average EU income and, most likely, would put Spain as a whole above the 90% level. This would mean that six of the twelve Spanish regions that once benefited from structural funds (Asturias, Castilla y León, Castilla-La Mancha, Murcia, Ceuta and Melilla) would no longer have access to the funds, while Spain would no longer be eligible to receive Cohesion Funds. The ‘statistical effect’ would mean losses estimated in the order of €12.4 billion in cohesion funds and €2.4 billion in Structural Funds. The cost of the statistical effect of enlargement was put at around €14.8 billion (see S. Sosvilla and J.A. Herce, La política de cohesión europea y la economía española: evaluación y prospectiva. Elcano Royal Institute, Working Paper nr 52/2004, at DT 52-2004).

Spain’s EU partners reacted angrily: without studying its arguments in detail, they interpreted the Spanish position as threatening a veto against enlargement. Spain opted to temporarily put the issue aside, but not without stating its concern over the fact that, regardless of the statistical effect per se, the Cohesion Fund had no phase-out mechanisms, unlike those included in the Structural Funds.

Later, on December 15, 2003, immediately after the failed Brussels Council where the issue of the weight of Spain’s votes (and Poland’s) prevented the member states from satisfactorily concluding the European Constitution project, and in an atmosphere characterised by sharp disagreements among the Fifteen on the war in Iraq, the six ‘net contributors’ (Germany, the UK, France, Holland, Austria and Sweden) sent a letter to the president of the Commission, Romano Prodi, expressing their desire that in the 2007-13 budget the Commission reduce the spending ceiling to 1% of community GNI (Commission IP/03/1731).

Simulations done in Spain showed that fixing the spending ceiling at 1% would turn the budget negotiations into what is technically known as a ‘zero sum game’: if there were no change, EU enlargement would end up transferring all the money that Southern Europe had been receiving to the new members in Central and Eastern Europe. However, although the Commission strenuously resisted the proposal and in January of 2004 presented a budget proposal by the net contributors to set the ceiling at 1.24%, a lack of coordination between Spain and the Commission led to this being omitted from the draft proposal for transitional measures for the Cohesion Fund. As a result, the determination displayed by the net contributors soon made it clear that the coming budget negotiations were going to be the most crucial ones in Spain’s twenty years in the Union.

The Budget ‘Squeeze’
By denying the net contributors additional resources for financing the enlargement as well as any compensation for the statistical effect, Spain found itself isolated and faced with the uncomfortable and unpopular decision to veto the EU budget on its own, or else accept losses that would be very costly in political and economic terms. According to information made public previously, the Commission’s proposals combined with the statistical effects and with growth or natural convergence, Spain would accumulate losses of about €23 billion in 2007-13. At the same time, because of its different rate of growth, its budget contributions would almost treble, from €6.5 billion in 2000 to €16 billion in 2013.

Table 1. Budgetary Balance of Spain’s Membership of the EU (in € millions, at 2004 prices)

Spain’s ContributionsEU ContributionsBudgetary Balance

Source: Herve and Sosvilla 1986-99 FEDEA, Mineco 2000-04, General National Budget 2005.

The result of this can be thought of as a ‘budget squeeze’: contributions to the EU budget would grow continuously, while funds received from the EU would diminish. At some point in 2007-13, the lines would meet, marking the switchover point where Spain would become a net contributor. Obviously, the concern was not that Spain would become a net contributor at some point between 2007 and 2013, but rather that this would be caused by the statistical effect before real income convergence had been achieved (see C.T. Powell, J.I. Torreblanca and A. Sorroza, Construir Europa desde España: los retos de la política europea de EspañaElcano Report nr 2/2005).

The situation was enormously complicated by the fact that in recent years Spain had been receiving EU funds in the order of 1% of GDP. The country therefore faced the prospect of EU transfers suddenly ending, very likely with adverse effects on the Spanish economy, especially in terms of productivity, employment and public investment.

Spain’s Balance with the EU from Different Perspectives
The most adverse scenario facing Spain involved a spending ceiling fixed at 1%, the elimination of the Cohesion Fund and the loss of regional funds due to a combination of the statistical effect and natural convergence. In this scenario, Spain would suffer an abrupt cut-off of funds in 2007, and would become a net contributor in 2010-11 (see J.I. Torreblanca, ¿Adiós a los fondos?: claves para entender la posición de España a la hora de negociar el presupuesto de la UE para 2007-2013, Working Paper nr DT 21/2005).

The second most adverse scenario involved the proposal made by the Commission in January 2004. Although it raised the spending ceiling to 1.24%, it did not include phase-out mechanisms or funds that satisfied Spain. Also, there was an unintended deterioration of Spain’s final balance as a result of increased commitments to research and development spending, in line with the objectives of the Lisbon Agenda: since these funds are allocated on the basis of excellence, not on geographic criteria, this kind of spending generally brings negative returns for Spain. In this case, high spending on innovation and development would not necessarily have a positive effect on Spain’s balance.

Instead of these two scenarios, Spain was successful in having the June 15 proposal by the Luxembourg presidency (‘negotiating box’) include a two-year extension of the Cohesion Fund equivalent to 68% and 46% of the amount received in the last year of the preceding period. For Spain, this meant €1.2 billion in 2007 and €800 million in 2008. Even so, although Luxembourg’s proposal improved Spain’s overall balance slightly, simulations showed that Spain would still become a net contributor in 2011-12 (10090/05 CADREFIN 130).

Figure 1. Spain’s Financial Balance under Various Negotiation Scenarios

image001 71
Figures in € million.
Source: the author, based on official figures.

Finally, with the agreement reached in the early hours of December 17 in Brussels, under the British presidency (87643/05, provisional draft, December 16), Spain was able to extend the Cohesion Fund until 2013, securing a grand total of €3.25 billion euros, compared to the €2 billion offered under the Luxembourg proposal in June. Spain will receive an important supplement of €600 per unemployed worker in regions no longer covered by the Structural Funds, both due to the statistical effect and natural growth. More importantly, Spain has obtained extremely important compensation through the creation of a Technology Fund that will apply exclusively to Spain in the framework of the European Regional Development Fund (ERDF). Finally, apart from additional subsidies for the Canary Islands, Ceuta and Melilla, a Gobal Adjustment Fund for globalisation has been established (around €500 million a year). Spain will have access to this to compensate for phenomena such as corporate relocation. There will also be a major allocation of funds for the new EU immigration and neighbourhood policy, which will be especially beneficial to Spain.

In total, including payments pending from previous budgets, it is estimated that Spain will receive €27.3 billion in Structural and Cohesion Funds, plus around €44.1 billion in direct aid and agricultural subsidies, and another €19 billion from Spain’s participation in other EU policies. Given Spain’s relative prosperity, its contributions to the EU budget will increase by an average of €1.8 billion a year (practically the same as Spain has been receiving annually in Cohesion Funds). This means that the country’s contributions to the EU budget will rise from €61.3 billion to €74.3 billion.

Therefore, after deducting the credits already committed in the previous budget, it is estimated that the final agreement will leave Spain with a positive balance of between €5-€6 billion. As Figure 1 shows, the drop in Spain’s net balance is a phenomenon that, for the reasons expressed above, is already beginning to reveal itself in the financial perspective for 2000-06. Therefore, the latest negotiations did not focus on whether or not the balance would drop, but rather how much and when this would happen.

Official figures indicate that Spain’s balance for 2007-13 will be positive. As was suggested at the start of this analysis, this would be a very satisfactory scenario, since Spain would continue to be a net receiver of funds even though by 2013 the country will most likely be well above the average income for the EU. Meanwhile, the regions affected by the statistical effect of enlargement will have no real reason for concern, since adequate transitional mechanisms will be in place to guarantee that aid will be phased out gradually. Also, since the Cohesion Fund is not linked to any specific region, it will allow the central government to effectively complement the most pressing needs as they arise.

Financing the Enlargement or Contributing to the Budget?
Between 1986 and 2006, Spain will have contributed €117.6 billion to the EU budget, while having received €211 billion. The resulting net balance would therefore be €93.3 billion (in 2004 prices), meaning that for each euro that Spain has contributed to the community coffers, it will have received €1.85 in return. This means a net transfer of 0.83% of Spanish GDP each year for 20 years or, to put it another way, each Spaniard will have received €129.9 a year from the EU since 1986. Several studies have indicated that European funds have raised the country’s growth rate by an average of 0.4 points a year, which has translated into maintaining about 300,000 jobs a year. This explains the fact that when Spain entered the Union, its average income was 72% of the EU average, but 20 years later this figure has risen to 97.6% –practically equalling the community average–. In the medium term, it is therefore inevitable that Spain will become a net contributor, especially when the new members of the Union have income levels far below Spain’s. For this reason, the fact that the Union will allocate €150 billion to finance its member states is certainly good news.

It is said that Spain is going to pay a disproportionate part of the cost of the enlargement, but this is not true. First of all, Spain has achieved something that may even be questionable in terms of budgetary fairness: it is more than likely that in 2007-13 Spain will surpass the EU-27 average income level, but will nevertheless continue to be a net receiver of funds.

Secondly, money received cannot be counted in the same way as money contributed: while it is true that Spain will no longer receive €27 billion in Structural Funds because its regions will have risen above the threshold of 75% of average community income, this cannot be considered a ‘loss’. To do so would be like saying that a person who no longer receives unemployment benefits after finding a job has ‘lost’ money. Objectively, any region is better off above the 75% mark without funds than below 75% with funds.

And thirdly, while it is logical that the savings to the EU budget resulting from a number of Spanish regions surpassing the 75% threshold should be allocated to Central and Eastern Europe, Spain’s new contributions to the community budget resulting from its economic growth (about €13 billion) should be allocated specifically to these new members. Allowing the money to end up with the most prosperous members would make no sense.

It is true that the enlargement is going to cost €150 billion in Structural and Cohesion Funds alone, but it is not true that Spain is going to pay €40 billion of this. As we have commented, the loss of Spain’s positive balance is occurring due to the combined effect of the natural convergence of a large number of regions and the increase in Spain’s GDP in recent years. As a result, it is both simplistic and erroneous to affirm that the fall in Spain’s balance means that this country will be contributing disproportionately to financing the enlargement.

Under these circumstances, it does not seem realistic even to imagine that Spain will have leeway to consider vetoing the budgets: it is those who contribute who have veto rights in budget negotiations, not those on the receiving end. In fact, the negotiations were finally decided by the British, Germans and French –the three countries that represent more than 50% of the European economy and whose contributions do the most to sustain the European Union–.

Conclusion: Spain, like all the member states in the Union, contributes to the budget based on its GDP. Therefore, like other countries, its contribution is entirely equitable. Also, since its per capita income is at about the European average, it is natural for Spain to contribute and receive approximately the same amount. Spain, therefore, must not start focusing on net fiscal balances –a viewpoint it has consistently criticised at the European level and even more so at the national level–.

The negotiations ended with the inevitable exchange of accusations between the government and the opposition on the subject of the meaning and actual magnitude of the agreements reached. Debating ideas and contrasting data is essential in a democracy, as is the capacity of citizens to hold their leaders responsible for managing public accounts. This also requires that citizens be equipped with accurate information that enables them to reach their own conclusions. Unfortunately, under the current circumstances in which EU budget negotiations are conducted, there is little or no hope of contrasting ideas or having governments provide accurate estimates.

It is therefore to be expected that there is argument as to what each country has really achieved in these negotiations. First of all, the agreement reached in the early hours of December 17 is written in technical jargon comprehensible only to an elite minority (see Council document 15914/05 to which point 6 of the Council’s conclusions makes reference). Furthermore, neither the governments nor the European Commission make available to the media or experts the programmes used to carry out simulations of the potential balances stated in the various negotiating proposals. In a European Union immersed in a deep crisis of citizen confidence, it is not enough to preach transparency –it must also be practiced–.

A second important point involves putting into context the figures we are seeing these days. It is unquestionable that the magnitude of the budget agreed in the early hours of Saturday budget (€862 billion) justifies the effort that has been put into the negotiations, as well as the attention paid by the media and citizens. However, it should be borne in mind that the European budgets are only a small part of the European economy, with a ceiling set at only 1%. There is much discussion these days of the size of the Cohesion Fund. In 2005, Spain will receive approximately €1.79 billion euros from this fund –a figure similar to our trade deficit with the Union in a single month–. Likewise, Spain’s budgetary balance with the EU in 2005 will be around €5.8 billion –less than BBVA was willing to pay this autumn for Banco Nazionale del Lavoro in Italy–. In the discussion of the actual figures involved in the budgetary balance for 2007-13, it must be kept in mind that the funds are important precisely because they are backed by a functioning internal market that generates opportunities for prosperity for all member states. In Spain’s case, in the past twenty years, the Structural Funds have been essential to complete the modernisation of the country. However, a desire to carry out this modernisation has been as decisive as the funds themselves. When the UK entered the Union in 1973 it was the second poorest member in terms of per capita income; today it is the second most prosperous and its net contributions to the budget for 2007-13 will come to around €62 billion. Spain’s challenge for 2007-13 will also be to reach and then considerably surpass the average EU income. The country is already clearly on the way: in 2005 unemployment reached a historic and its budget surplus rose to €14.8 billion (1.66% of its GDP).

José Ignacio Torreblanca
Senior Analyst, Europe, Elcano Royal Institute

José Ignacio Torreblanca

Written by José Ignacio Torreblanca