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26 February 2024

Guns vs butter - 2024 edition

In our lead story, we write about the looming fiscal trades-offs in Germany between continued support for Ukraine and social spending; we also have stories on why Bruno Le Maire's idea of a limited capital markets union won't work; on the sunset for Germany's solar industry; on Emmanuel Macron's attempt to ingratiate himself with farmers; on why the ECB is wrong on crypto; and, below, on how Sweden needed to bribe Viktor Orbán first before he signed off on Sweden's Nato accession.

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Today's free story

Orbán's power gamble

Victor Orbán and Recep Tayip Erdogan know one or two things about the power of keeping someone waiting. The two countries were holding off Sweden’s bid to join Nato, delaying several times for different reasons.

Sweden, as an old Western democracy, had to swallow its pride when its government agreed to adopting its protest and terrorism laws to get the approval from Ankara so that it could join Nato. Prime minister Ulf Kristersson also had to retreat from his earlier insistence that he only would travel to Budapest once Hungary signed off on Sweden’s Nato bid. Instead, Kristersson went to meet Orbán, and chipped in some fighter jets to sweeten the deal so that Orbán would finally give his green light to Sweden’s Nato accession. A deal on defence and military capacities to rebuild trust, as Orbán put it. The deal was to purchase four new Swedish-made Saab Gripen C aircraft and extend its support and logistics agreement for its existing Gripen fighters. which make up the whole of Hungary's small airforce. Kristersson’s visit to Budapest looks to us like the road to Canossa, with Orbán visibly enjoying the whiff of old imperial flair.

The power was on Turkey’s and Hungary’s side, once Sweden decided that it wants to do whatever it takes to get into Nato. One of the tactics employed was that Erdogan and Orbán kept Sweden guessing what was required to get their approval. The list of grievances kept changing. Turkey increased its demands for prisoners to be extradited, or laws to be changed. For Hungary it was first about the respect for Hungary, Sweden’s keen support for rule of law procedures in the EU, and now a visit to Budapest with a military deal in the luggage. One may call this childish, as a Swedish MEP did, but in Erdogan’s and Orbán’s world, this trick helped to signal more power to the outside world and boosts their leaders’ ego. It made Sweden bow to their demands. Don’t expect Orbán to become any easier inside the EU.

23 February 2024

Is Tsipras back?

The Syriza saga has some Greek drama qualities, with clashing protagonists and party styles. The latest turn of events is that Alexis Tsipras showed up after months of silence to call for a new presidency elections to stop the demise of the party. The timing of his intervention was just hours ahead of the party congress and completely changed the scene. Stefanos Kasselakis, the new Syriza leader, had to adapt his opening speech, and other speakers were sidelined. Kasselakis took up the gauntlet, saying find me an opponent and let’s go. He seemingly enjoyed his rock star-like appearance on the stage of the opening of the congress meeting last night. What happens behind the scenes will look more like a fight between strong personas with the daggers pulled out.

In his statement, Tsipras lashed out not only against Kasselakis, who he accuses of wanting a three-year blank cheque without accountability for electoral failures. He also pointed fingers at those who disagree silently in the background, waiting for an election failure to speak for them. Tsipras condemned those who left Syriza too, for seeing Kasselakis as an opponent just because they lost against him in the leadership contest, and for causing with their departure further fragmentation inside the party.

Euclid Tsakalotos, his former finance minister, is one of dissenters. Tsakalotos put the blame squarely at Tsipras's feet. The rot did not start with the election of Kasselakis, he assured, but with Tsipras in 2019, when Syriza lost with a slight gap behind New Democracy. Tsipras failed to produce a plan for how to change the party, tackle the aggressive rhetoric from the conservatives, and address the party’s credibility deficit. It was also Tsipras who changed the election system for its leaders, direct election by the members, which meant someone could show up on election day, pay €2 to register, and vote. This resulted in a party with a rock star-style leader, but without a debate on politics or ideology.

22 February 2024

War fatigue ahead of elections

The EU and the US are heading for elections this year with support for Ukraine on the line. Joe Biden and Olaf Scholz seem to have come to the conclusion that the war cannot be won with all of Ukraine's territories reclaimed. It is ultimately for the Ukrainians to decide how to proceed with the level of support they get from the EU and the US.

For a settlement, states would first have to define what a meaningful agreement with Russia looks like. Ukraine would need credible guarantees from the EU and the US to be able to accept any territorial losses. A West Germany scenario as advocated by Ivan Krastev is in discussion, where unoccupied Ukraine would become Nato member, putting red lines up for Russia, while granting it some territorial concessions. Both sides win something.

The mood has been clearly changing in the US and in Europe towards Ukraine. Frontline states, which had been the most supportive for Ukraine at the beginning of the war are now amongst the most sceptical about Ukraine’s chances to win. The support package, which is crucial for Ukraine’s military campaign, has been stalling in the House of Representatives.

An ECFR poll confirms an unsettling war fatigue, with European citizens preferring the EU to push for a settlement in seven out of the 12 EU countries. Poland may still be the keenest military supporter, but only 17% there think that Ukraine can win. And there is no appetite to fill the gap if the US gets out. If Donald Trump were to win the elections and pulls out of supporting Ukraine, a majority of Europeans in nine countries would want the EU to maintain its level of support or reduce it in line with the US.

Then there are conflicting interests inside the EU. Farmers have been protesting for more safeguards against agricultural imports from Ukraine. The EU Council adopted yesterday the European Commission’s proposal to extend the solidarity lanes for Ukraine exports. The proposal had widespread support, except from frontline member states Poland, Hungary, Romania, Bulgaria, and Slovakia. To appease them, the Commission had introduced safeguarding measures: a brake on Ukraine’s exports of poultry, eggs and sugar if they exceed the 2022-2023 level.

But this may not be the last word on those emergency measures. MEPs in the Agriculture Committee (AGRI) have produced 127 amendments to extend the list of products on this list and change the threshold to pre-war trade volumes in 2021 instead. How many of those proposals will be taken up by the trade committee is the next question. The Commission will have to negotiate with parliament to get this draft legislated. Protests, meanwhile, continue. At the Polish-Ukrainian border they escalated on Tuesday with a near-total blockade, prompting Kyiv to call on the Commission to take action.

21 February 2024

Syriza's Captain America

What happened inside Syriza over the past couple of days is a clash of different political cultures. Here is Stefanos Kasselakis, coming from Florida with his mission to change Greece, after winning the party's leadership contest on the back of a short PR campaign. Now he is finding that his party decision-making body is not willing to join him on his quest.

An emergency meeting was called by the political secretariat on Monday after Kasselakis sent out a questionnaire to all party members asking for their opinion about the party’s identity, logo and name without consulting the secretariat. Basis democracy is not for a party that works in a clearly defined institutional decision-making structure. Tensions escalated after Kasselakis, who spoke at the London School of Economics rather than attending their meeting , sent a letter from there accusing them of a conspiracy against him. Last night another meeting, this time with Kasselakis, produced a truce. They confirmed their mutual trust after Kasselakis challenged them to present a contender while a censure motion was on the table. In return, he retracted his letter and the questionnaire. The loss of allies in the secretariat is real though. The truce will hold for now as everyone has an interest for the party not to implode ahead of the European elections. But after that, the knives will come out.

How the party is to be reorganised is one of the main tenets of Kasselakis's battle. He told the LSE audience that if Syriza structures had worked properly, he would not have been elected as its president last year. He may be a successful businessman, but that does not mean that he is a good politician. Where was Syriza, for example, when Greece’s conservative prime minister got a same-sex marriage bill through parliament with a sound majority, the first Orthodox country ever to acknowledge the rights of same-sex families? Unless Kasselakis manages to make a mark on Greek politics, he and Syriza are heading towards a divorce. With his can-do attitude, he won’t give an inch to resistance inside the party - the irresistible force is about to hit the immovable object.

20 February 2024

Nearly united on Rafah

The red line for Western countries’ support for Israel is Rafah, where 1.5m Palestinians are kettled in with nowhere to flee except Egypt. If Israel were to enter Rafah, it would lose Western support. The US demands credible plans for evacuating civilians before it would give its green light to such an operation. The EU countries are united on Rafah like they were never before, even if they have yet to put their economic leverage behind those words. The operation may not even happen, despite all those political announcements from Israel.

Amongst the Europeans, Victor Orbán is the last one holding out against the EU mostly unified position for Israel to spare Rafah. Both Hungary and the Czech Republic have a history of vetoing EU criticism of Israel, dating from long before the Hamas attack. Both also vetoed sanctions against settlers in the West Bank. But the Czech Republic changed its position on Rafah, and is expected to change its veto on the settlers' sanctions too. On Rafah, the EU thus ended up with an informal joint declaration backed by 26 out of 27 member states. It is not an official position, which would require unanimity, but it is a significant change.

Not being in a hurry to act allows leaders to choose. Despite the strong rhetoric, neither Benjamin Netanyahu nor the IDF are showing signs of preparing to go into Rafah. It would need more troop mobilisation and planning, and hostage negotiations are running in parallel.

In Europe, Orbán is holding out not only on Israel. Hungary is also the only country left that has yet to approve Sweden’s Nato accession bid. This is not technically a negotiation. The reason for another delay this month is also the fallout from a domestic political scandal that has nothing to do with the Nato bid. Nevertheless, time plays into Orban’s hands. The Swedish prime minister will travel to Budapest to meet Orbán and to explore what cooperation the two countries could come up with. This role suits Orbán well.

19 February 2024

Human rights and trade agreements

When it comes to Israel’s war in Gaza, Ireland, Spain and Belgium are the most outspoken of all EU member states, warning Israel severely about the disproportionate response to the terror attack of 7 October. Two of them have now taken the institutional route inside the EU.

The Irish and Spanish prime ministers sent a letter to the European Commission last week, requesting an urgent review of whether Israel is still in compliance with human rights obligations under international law in its trade agreement with the EU, and asking the Commission to propose appropriate measures in case Israel is found to be in breach. 

Israel signed an Association Agreement with the EU in 1995. It cancelled the associated annual talks in 2013 in protest at an EU decision to differentiate between Israeli settlements on the West Bank and the rest of Israel in all agreements.

We do not expect that Israel will be deterred in its immediate actions in Gaza or Lebanon by such an investigation, nor do we expect Ursula von der Leyen to risk her re-election bid by opening up this chapter. But it should be a moment for Europe to reflect on its own inconsistencies. The request for an investigation into the Israel-EU agreement comes at a time when EU member states are to vote on a revised version of the Corporate Sustainability Due Diligence Directive, which is imposing due diligence obligations for big companies to both actual and potential adverse impacts on the environment and human rights violations in their supply chains. The draft the Commission published last week hit the wall after Germany, Italy, Estonia, and Finland signalled they would abstain. But this is not the end of it, and a revised version will be presented in the coming weeks. When talking about human rights abuses, actual and potential, how can companies be held accountable for human rights abuses in their supply chains if governments are not?

Ireland and Spain both have their own experience with terrorism, and are thus familiar with moral dilemmas and the question of proportionality. In their letter, they had no doubt that given the death toll of 28,000 Palestinians, with 70% of amongst them women and children, is impossible to consider that Israeli actions comply with the mandatory principles of distinction, proportionality and precaution under international law.

Their letter was signed by 78 MEPs from the EPP, the S&P, Renew, the Left group, and the Greens.  If the Commission were to take up the case, it would be an investigation for after the European elections and anyway a matter up to the member states to decide.

16 February 2024

How to make your models even worse

A group of economists has written a letter to the European Commission that it should change its economic models to take climate policies into account. If climate were an important factor in macroeconomic performance over the forecasting horizon, usually a year or two, then so it should. But it isn't.

We are no slouches ourselves when it comes to criticising general equilibrium based economic models, the kind of which the Commission uses. Our argument is that these models are worse than useless. Not only do they get it wrong all the time. The massive forecasting errors guide policymakers into making wrong decisions. A specimen of one such Commission forecast came out yesterday. We recall an analyst - obviously not in the employ of the Commission - who once took it upon himself to check the forecast against the actual data. He came up with a correlation coefficient of zero. This is quite hard to achieve even if you tried to. 

The argument by the 200 economists goes in a complete different direction. They don't care about accuracy. They want to introduce even more bias. 

Their main argument is that current models favour market-based over regulation-based solutions. If that were the reason for the models' poor performance, we would accept this argument. But again, this is not the case. The purpose of a change in model is to introduce a positive bias in favour of climate change investment, presumably because electorates are pushing in the other direction.

The whole assumption that we are not investing because of faulty models is plainly wrong. We are not investing because the way fiscal policy works in Europe is that austerity is always applied to investment first. Governments don't change their policies because of economic models. They serve agendas that are supported by majorities.

The letter is testimony to ongoing delusions amongst economists that they are in charge of economic policy and that their models really matter to the world. We are seeing central banks, like the ECB, are starting to distance themselves from those models because of chronically poor performance.

What the ECB and Commission should be doing instead is to supplement their existing models with data-based approaches that include large volumes of data which are not usually included in economic models. But the purpose of that exercise should not be to cajole governments into some policy action, but to make a good forecast. 

We find there is an astonishing lack of interest in the economics community about forecast accuracy. 

15 February 2024

France sanctions settlers

Europe is deeply divided over a common response to Israel’s war in Gaza. Germany and other member states won’t accept the call for an immediate ceasefire. Hungary and the Czech Republic hold out on joint sanctions against settlers in the West Bank, which needs unanimity to pass. The EU is thus paralysed and cannot act jointly, leaving the response to member states instead. France has been the first EU country to enact sanctions against settlers, following the examples of US and the UK, even if the French response is different from theirs. France sanctioned 28 people, rather than the four individuals the US put on its list. France also did not publish their names, nor is there a way to know what type of sanctions they imposed.

This is not quite a Jacques Chirac moment in French foreign policy. Chirac stood up for a land-for-peace process for Palestine and against the US invasion of Iraq. He challenged Israel over its land confiscations and demolitions of Palestinian houses. This was the height of French diplomacy in the Middle East.

Today, Macron is unlikely to fill those shoes. The US is clearly in the lead in the mediation process here. The French can hope that their sanctions may be taken up by other EU member states. Belgium and Ireland are keen, Germany said it is ready for sanctions too. The rest of their diplomacy, also with regards to Lebanon, is happening in the backroom.

Will the settler sanctions stop Benjamin Netanyahu from going into Rafah or continuing his offensive against Lebanon? Unlikely. They may be the first concrete steps to convince Israel that it is not in their interest either to continue ignoring warnings from its allies. But more steps will have to follow to get Israel to commit to an exit strategy, and to start a political process towards the eventual recognition of a Palestinian state. 

14 February 2024

Farmers protests everywhere

Many countries seem to have their meet-the-farmers moment. The responses are diverse, depending on budget capacities and varied list of demands from farmers. Germany did not give in to the farmers' demands to keep the tax break on diesel for farming uses. France and other EU member states did. The French government promised even more, including to stop the Mercosur trade deal the EU had hoped to conclude soon. Those promises helped to get protesters off the streets for now.

Their protests may have disappeared from the front pages, but they continue. Poland’s farmers hold widespread rallies throughout the country against the glut of Ukrainian imports. Spanish farmers are blocking roads in protest against costly EU sustainability rules, and for better compensation for droughts and rising production costs. Greek farmers have yet to decide whether they want to stop their road block protests after Greek's prime minister offered cheap electricity for two years on top of the diesel subsidies and the compensations to flood victims. Moldovan farmers are protesting at the border to Romania for more subsidies and help with the banks that the government had rejected last year. Belgian farmers are protesting in the ports of Antwerp, disrupting the operations of Europe's biggest container ports. French farmers are on standby, threatening that they could resume protests if the government does not more to meet the demands for better pay and working conditions.

These are all country-by-country protest movements that have both common and particular grievances. There are also bigger gatherings coming up. Farmers unions from central and eastern European countries met in Poland yesterday to agree on joint protests against EU agricultural policy on 22 February. They want the EU to protect them from surplus Ukrainian imports, better environmental legislation, compensation for farmers, and a reduction in red tape.

We expect those protest waves to continue until the European elections. They are likely to intensify even, especially as droughts and flooding affect their regions. We expect EU governments to struggle to respond to those grievances without a structural change to the Common Agricultural Policy.

13 February 2024

Issing's Europe

The famous McKinsey four-quadrant matrix is much derided, but it introduced a healthy dose of non-linear thinking into companies. In politics, people often think in terms of left and right on a straight line, which leaves them unable to understand important developments, like populism. 

The same goes for the European debate. The straight line that goes from pro to anti-European does not capture our reality. Even a simple four-quadrant can help clear the mental fog. Think about the two dimensions of political and monetary union - and the four combinations between them - both, neither, and two mixed. The EU is firmly in the quadrant where it has a monetary union, but not a political/fiscal one. Our own first preference would be to have both. But where we disagree with the vast majority of straight-line thinking pro-Europeans is that our second preference would be to have both firmly located at the national level. We think they belong together. The mixed versions are toxic. 

What keeps us from outright anti-euro advocacy is the hope that the EU will develop into a proper political and fiscal union at one point - possibly decades away. If, however, it became clear at one point that this would never happen, we believe that the case for a monetary union can no longer be made. You could not express such nuance if you constrained yourself to a single dimension of pro- vs anti-European thinking. 

Otmar Issing sees the monetary union in a similar way. He was the ECB's first chief economist, and played a huge role in setting up the ECB's current monetary policy framework. Since his retirement in 2007, he has come up with what appeared to be increasing eurosceptical essays. Like us, he too favours a political union but he believes the EU is further away from this goal than ever. Sadly, we agree with him.

This morning, he published a very long essay in FAZ, in which he argues that the ultimate judgement on the monetary union is still not possible. He sees fiscal divergence as the main risk to the monetary union, and that the stability pact failed to get the job done. He is scathing about the recently agreed compromise that gives countries between four and seven years to adjust. What it means is that the adjustment is pushed into the next electoral cycle, which means that it will never happen. 

Issing zooms in on France, recalling Jean-Claude Juncker's refreshingly honest response to the question why France gets away with breaking the rule. "Because it is France." This is true, as it is unsustainable.

Where we differ with Issing is our focus on the divergence between France and Germany - not only France alone. The reason why France still enjoys high sovereign debt ratings is the view prevalent in financial markets that the ECB would bend all of its rules to bail out France if that were ever needed. The alternative would be a financial collapse. 

We don't think that a fiscally virtuous Germany would agree to a bailout of any kind. German political parties are paying a big political price to enforce the domestic debt rule. Should it come to a crisis, there are no good options left. At that point, we would struggle to make a rational economic case for Germany to remain in the eurozone. That goes for most of the EU's northeast as well.