European Parliament election heralds further fragmentation

Shift to the right is a setback for deeper financial integration, but not a dealbreaker

Sunday 9 June was a good night for the right in Europe. While the centre-right European People’s Party will maintain its majority in the European Parliament, the far-right Identity and Democracy party increased its seats by nine, and the eurosceptic European Conservatives and Reformists added four seats. There are now 36 nonaligned seats, 15 of which are held by Germany’s far-right Alternative for Germany.

No matter what coalition is formed in the coming weeks, for most issues, this shift to the right is more likely to be an evolution rather than a revolution for European policy-making. Immigration policy will become stricter, but Europe was already quite sceptical on developing country immigration. On the war in Ukraine, there is now a stronger pro-Russian faction that favours a swift conclusion to the conflict, even if that results in less economic and territorial sovereignty for Ukraine. But the majority in the European Parliament will still support the Ukrainian cause.

While the sustainability agenda may face setbacks, transition plans may slow but they will not stop. Europe may become slightly more protectionist in an effort for more strategic autonomy (evidenced by the up to 38.1% tariff on Chinese electric vehicles), but this is in line with the global trend.

For the new parliament, however, it is going to become more difficult to find consensus on ambitious pan-European initiatives, including financial integration and capital markets union.

Voters not buying into Macron-Scholz vision

Some of the biggest losers on Sunday were French President Emmanuel Macron and German Chancellor Olaf Scholz, with the former’s party losing so decidedly it has prompted him to call snap elections in France.

Though Franco-German relations have been somewhat icy recently, the two presented a united front during Macron’s visit to Berlin last month with a plea for deeper European financial and economic integration. Their address, published in the Financial Times, called for ‘more innovation, more single market, more investment, more level playing field and less bureaucracy’ in the European Union.

The challenges to achieving these goals were outlined in the Macron-Scholz letter as well. They warned against fragmentation, pointing to inefficient allocation of European savings and capital outflows to the deeper and broader US stock market as factors contributing to a loss of competitiveness for the continent. ‘To mobilise the needed investments we have to get serious about a truly integrated European financial market with the banking and the capital markets union at its core, addressing fragmentation and ensuring global competitiveness of the European financial sector,’ they said.

Since the CMU agenda was introduced in 2015, little substantive progress has been made. Political will for CMU seemed to be catching up with industry interest as of late, as OMFIF found in its ‘Competitiveness of European financial services’ report. Fiscal policy space has shrunken in much of Europe following years of pandemic-related stimulus and energy spending. At the same time, investment needs for green, digital and defence objectives are ramping up.

Pan-European projects becoming more difficult

How did Macron and Scholz suggest implementing their vision for Europe? By relaunching the European securitisation market, harmonising supervision, corporate insolvency frameworks and tax law, simplifying regulatory frameworks and developing a simple but effective cross-border investment and savings product for all Europeans. Regarding public financing, they called for the EU budget to be ‘fit for the future’ and to prioritise investments in ‘transformational expenditure and European public goods.’

Put succinctly, the problems of fragmented capital markets are solved at the EU level. Public expenditures should be leveraged – at least to some extent – via common European financing mechanisms, akin to the Next Generation EU fund.

What does the new composition of the European Parliament mean for the prospects of CMU? There are a few possible outcomes. A coalition between the centre parties – EPP, centre-left Socialists & Democrats and liberal Renew – would grant European Commission President Ursula von der Leyen’s party a slight majority. In this case, it would be harder but not impossible to make progress on the CMU agenda.

But there is also the possibility that the EPP builds a coalition with the ECR (or some less extreme members of the party). Given the ECR’s track record on voting against initiatives like NGEU, this would certainly be a worse outcome for deeper financial and capital markets integration. And the other parties would be much less likely to co-operate with a governing coalition that includes the likes of Georgia Meloni’s Brothers of Italy and Poland’s Law and Justice.

It is worth noting that the European Parliament is not the only decision-making body with a stake in the CMU process. Any meaningful progress will need to be made with support from member states, as well as the European Commission. But it is clear that a governing coalition comprised of the three centrist groups is much more likely to be on board with CMU than a coalition containing all or some members of the ECR.

Fragmentation will weaken Europe on the global stage

As Mario Draghi, former Italian prime minister and European Central Bank president, expressed in his warning in the FT late last year, ‘Either Europe acts together and becomes a deeper union… or the EU will not survive other than being a single market.’ With the Macron-Scholz vision for Europe falling out of favour, it seems that the latter option is becoming more appealing to European voters.

But a less unified Europe will fare poorly in the face of geopolitical headwinds. Much-needed initiatives to overcome fragmentation and bolster European competitiveness will become harder to finance, both publicly and privately. Economic growth in Europe will suffer as a result.

Voters have very real qualms about the increased cost of living and eroded purchasing power over the past several years. For many, a vote for the far-right was a protest vote against incumbent centrist governments. Unfortunately, the parties that appear to have capitalised on citizens’ very real frustrations are even less likely to deliver policy solutions that productively address the challenges facing Europe’s economy.

Taylor Pearce is Lead Economist of OMFIF’s Economic and Monetary Policy Institute.  

Read more on this topic in OMFIF’s Q1 edition of the Bulletin.

Image source: European Parliament

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