Viewpoint: The Sound of Music, fiscal integration and this week’s Eurozone meeting

Costas Milas, Professor of Finance at the Management School

“In the musical ‘The Sound of Music’, Maria repeatedly breaks the rules set by Mother Abbess (who runs the Nonnberg Abbey), and for this reason is asked to exit the monastery.  

For many Eurozone leaders, Greece represents a modern version of Maria who ruthlessly breaks the fiscal rules set by Angela Merkel (the modern version of Mother Abbess), and for this reason is threatened to exit the Eurozone monastery. 

However, “How do you solve a problem like Maria” is not that simple. Rather than one Maria, we now have five (that is, Greece, Portugal, Ireland, Spain and Cyprus) out of the seventeen Eurozone countries being bailed-out (or in the process of securing a bail-out) with Italy (possibly) next in line.  This threatens the very existence of the Eurozone-Abbey and calls for immediate action to revive growth at the very time when Eurozone unemployment is cruising to 11%.

As Eurozone leaders prepare this week for yet another meeting in Brussels to discuss possible ways of dealing with the ongoing crisis, the issue of growth needs to be put firmly back on the agenda. German Chancellor Angela Merkel has repeatedly flagged the importance of promoting fiscal integration before agreeing on debt-sharing (in the form of issuing Eurozone bonds).

Heavy tax burden

Indeed, let us talk about fiscal integration.  Eurozone policymakers should kick-off discussions by recognising the heavy tax burden their economies face relative to the rest of the world.  The higher the tax wedge, the higher the companies’ labour costs and therefore the less their desire to create jobs.   Amongst the Eurozone countries, Belgium faces the highest tax burden (55.5%) whereas Ireland faces the lowest one (26.8%).  Outside the Eurozone area, United States has a tax burden of as low as 29.5%.  For most Eurozone economies, this measure of tax burden is much higher than the OECD average of 35.3%.  

It is time for the high tax burden and the big dispersion within Eurozone countries to be addressed.  In fact, empirical studies suggest that a cut in the tax wedge by some 5 percentage points could promote employment and reduce unemployment by up to 1.5 percentage points.  At the end of the day, moving towards this direction is consistent with the idea of fiscal integration Angela Merkel is extremely keen to promote.  Therefore, fiscal integration should definitely be on the agenda of Eurozone policymakers even if Eurobonds are not.”