Compromise budget

Published : Jan 27, 2006 00:00 IST

British Prime Minister Tony Blair speaks at the European Parliament in Brussels, Belgium, flanked by European Commission President Jose Manuel Barroso (left) and European Parliament president Josep Borrell Fontelles. - PAUL O'DRISCOLL/BLOOMBERG NEWS

British Prime Minister Tony Blair speaks at the European Parliament in Brussels, Belgium, flanked by European Commission President Jose Manuel Barroso (left) and European Parliament president Josep Borrell Fontelles. - PAUL O'DRISCOLL/BLOOMBERG NEWS

The European Union agrees on a figure for expenditure after a heated debate between the rich member-states, which do not want to pay more, and the newer members, which need investment.

FOR the European Union (E.U.), 2005 ended with the agreement on the budget for 2007-13 and several E.U. leaders expressed relief at having averted a crisis. The accord was preceded by intense negotiations during the summit in Brussels on December 15 and 16. The budget puts the total expenditure for the 25 E.U. member-countries for the seven-year period at 862.36 billion euros, which is 1.054 per cent of the E.U.'s combined gross national income.

Behind this compromise figure lies tensions generated by the debate between the richer, older members, who do not want to pay more, and the poorer, newer members, who need investment. Over the past year, E.U. countries faced increasing domestic political pressures driven by high unemployment and competition from eastern Europe and Asian economies such as China and India. On account of the slow economic growth, many of the major contributors to the E.U. budget baulked at paying more.

In fact, the budget debate began in mid-2005, and Luxembourg, which held the six-month presidency until June, had proposed an expenditure amount equivalent to 1.06 per cent of the E.U.'s gross national income. The United Kingdom opposed the proposal and, on taking over the presidency in July, proposed a figure of 1.03 per cent, which included cuts in development aid to the new member-states, mostly from eastern Europe. The new members, led by Poland, strongly opposed the proposal and in the end the E.U. arrived at the compromise figure of 862.36 billion euros.

The E.U. budget is financed by a system of contributions by member-countries in proportion to the size of the economy of each. As the largest economy in Europe, Germany made the largest gross contribution in 2004. A country's net contribution is calculated after deducting from its gross contribution the money it gets back through E.U. spending. Poor members and regions receive a large proportion of E.U. funding. Though the largest net contributor, Germany receives less from the budget than Spain and France. Countries whose net contribution is the highest as a proportion of their national incomes are the Netherlands, Sweden, Germany, the U.K. and Italy.

As the biggest net contributor per capita to the E.U. budget, the Netherlands has advocated low expenditure. It would prefer the E.U. expenditure to remain within 1 per cent of the bloc's gross national income, a position close to that of the British but in conflict with the interests of the new east European members. A significant factor in the Dutch rejection of the European Constitution in a referendum in May 2005 is the widespread feeling that the country has an excessive financial burden towards financing the poorer members of the E.U.

Sweden, another large net contributor, has been for cuts in both the budget and its own contribution. Besides, the nature of Sweden's economy determines its approach on E.U. budget allocations. It is an exporter of high-tech products and has a small agricultural sector. It would thus like less spending on agriculture and regional development and more on sectors such as research and development and foreign aid.

On the other side are countries such as Poland and the new entrants to the E.U. from central and eastern Europe, which protested that the initial British proposals on regional aid were too little to meet their development needs. Poland stood to lose an estimated six billion euros. Said Polish Prime Minister Kazimierz Marcinkiewicz: "This proposal, if it stays as it is, will be met by a veto from Poland." Among the older members, France joined Poland in opposing the U.K.'s proposed cuts in development aid to the poorer countries and called for higher British contribution to the costs of enlargement.

As the largest contributor to the budget and facing a difficult economic situation marked by a decline in domestic demand, Germany was expected to fall in line with the British proposal. However, Chancellor Angela Merkel, who has expressed herself in favour of more aid to the new member-states, is said to have played a major role in the E.U. leaders reaching an agreement. She described the budget agreement as a "good accord for Europe".

The compromise resulted in the earmarking of 157 billion euros towards development aid for the poor countries, including the new entrants. This is seven billion euros more than what the U.K. envisaged in its first proposal on December 5, but less than what Luxembourg had proposed.

On the eve of the December summit, European Commission President Jose Manuel Barroso voiced his concern about a repetition of the failed summit in June, which, he said, would send a negative signal to the world that Europe was in deadlock. The two major issues on which the summit faltered in June were about Britain's E.U. budget rebate and the question of reforms to the E.U.'s Common Agricultural Policy (CAP).

The rebate on the budget contribution by the U.K. has become a point of discord between it and other E.U. members. The U.K. has been under growing pressure to reduce the size of its rebate so as to make more funds available for the E.U. budget. The pressures have increased owing to the increased costs on account of E.U. enlargement. The Margaret Thatcher government won the rebate in 1984 because the U.K. then made one of the largest net contributions to the E.U. despite being the third poorest member. This anomaly resulted from the fact that with relatively few farms, the U.K. received only a small share of agricultural subsidies, which at the time made up 70 per cent of the E.U.'s expenditure.

Now, after more than two decades, the U.K. is one of the richest members of the E.U. The other 24 members continue to pay for the U.K. rebate in proportion to the size of their economies. The European Commission has documented this anomaly of less prosperous members not having a rebate.

The E.U. Trade Commissioner declared last June that it was "wrong to ask the poorer new accession states to pay for any part of the rebate". Through the E.U. system of calculations, France and Italy between them end up paying a major share of the U.K. rebate. France is a vocal critic of this rebate and has demanded stiffer reductions than the U.K. is prepared to concede.

In the compromise agreement for the 2007-13 budget, the U.K. has agreed to a cut of 10.5 billion euros in its rebate, which is a 20 per cent reduction of its total rebate.

The U.K. had linked its rebate reduction to cuts in agricultural subsidies under the CAP. It considers the large farm subsidies as a major imbalance in the E.U. budget. France is the largest beneficiary of E.U. agricultural subsidies, and the French government is keen that these are maintained at current levels, especially in the face of next year's presidential and parliamentary elections in the country.

However, since taking over the E.U. presidency, Prime Minister Tony Blair has pressed for a modernising orientation to the E.U. budget. He has argued for the cutting down of farm subsidies and the redirecting of investment towards sectors such as research and development in order to increase the E.U.'s competitiveness.

As part of the latest accord, E.U. leaders have agreed on a "full and wide-ranging" review of the budget, which would include the CAP and the U.K. rebate. The review, to be undertaken by the European Commission, is scheduled for 2008-09.

It could lead to reductions in farm subsidies, though individual governments will have veto powers on actions resulting from the review. The agriculture and rural development budget for 2007-13 is 292 billion euros, making it the largest component of E.U. expenditure.

Farm subsidies under the CAP began operating in the early 1960s and helped bring down Europe's reliance on imported food. Soon, however, the policy also led to overproduction and the creation of massive food surpluses. In the 1970s the European Community introduced taxes on imports and subsidised agricultural exports, which in turn had a damaging impact on foreign farmers. Until the 1990s, most of the CAP budget was spent on price support, while a small percentage was earmarked for export subsidies. The size of the subsidy was linked to production levels.

In 1992, the E.U. introduced reforms to the CAP, reducing the guaranteed prices to farmers. More reforms in 2003 and 2004 further delinked subsidies from production levels. The E.U.'s 2005 budget on agriculture was 49 billion euros (46 per cent of the overall budget). Ten million people (5 per cent of the E.U. population) are engaged in agriculture, while the sector generates only 1.6 per cent of the E.U.'s GDP.

The declaration adopted at the Hong Kong World Trade Organisation Ministerial Conference in December 2005 gives the E.U. and the United States until 2013 to eliminate export subsidies in agriculture. Though developing countries demanded an earlier end date, the E.U. was keen to have time up to the budget cycle of 2013 to effect reforms to the CAP. In any event, export subsidies form a small percentage of the total farm subsidies and developed countries gave no specific undertaking on the reduction of other forms of domestic support to agriculture. In adopting the budget, E.U. leaders have agreed on a review of agricultural subsidies, but individual countries could still veto the cuts.

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