House of Lords - The euro area crisis - European Union Committee

The euro area crisis - European Union Committee Contents

CHAPTER 5: THE DECEMBER 2011 EUROPEAN COUNCIL AND THE PROPOSals for treaty change

71. In the European Union the most controversial issue of the past few months, indeed one of the more controversial issues in the Union's history, has been the proposal for a treaty on budgetary discipline and economic policy co-ordination centred on the euro area states. This chapter sets out the background and identifies the key features of the proposed treaty. We then examine some of the key legal issues including those created by the fact that the proposed treaty sits outside the EU treaty architecture. Finally we examine the implications for the United Kingdom.

Background: developments during 2011

72. Our March 2011 report on economic governance argued that the root cause of some of the problems currently being experienced within the euro area can be traced to the structural failings within the foundations of EMU.[66] One of the people involved in the construction of economic and monetary union, Mr Amato, agreed with this view and told us that in designing this architecture "we made a mistake", because "we wanted to believe that co-ordinating national policies was enough, for the simple reason that nobody wanted to transfer national policies" to the EU. Mr Amato expressed surprise that the markets accepted this flawed design for so long, with lending rates to all euro states held at very similar levels until the crisis erupted in 2007-08.[67]

73. In our March 2011 report we also found that the Stability and Growth Pact, which was meant to ensure discipline on fiscal policies at the national level, did not work as planned. In particular it lacked an effective enforcement procedure, as demonstrated when France and Germany both breached the Pact in 2002-03, and avoided any adverse consequences.[68]

74. To remedy these structural deficiencies, calls grew for greater fiscal integration. Speaking to us in November 2011 Professor Begg said that a "union of rules" was already being put in place through the combination of economic governance measures described as the "six pack" that sought to put a better preventive system in place.[69] Further measures on closer monitoring and co-ordination were agreed at the October 2011 Brussels summit. And in November the Commission published two new proposals for "stronger economic governance": the first to permit the Commission to ask euro area governments to revise their draft national budgets in line with their euro area obligations;[70] and the second to enhance surveillance for euro area countries being supported by financial assistance or that are threatened by serious financial instability.[71]

The emergence of the new treaty

75. At the European summit on the evening of 8-9 December 2011 the EU's leaders debated how to improve the co-ordination of fiscal and economic policy across the euro area, and whether agreement could be envisaged to the necessary amendments to the EU treaties. After a fraught meeting, and faced with the refusal of the United Kingdom to contemplate any such treaty amendments without certain safeguards, the 17 euro area countries agreed on a "fiscal compact", to have the status of a formal treaty. Nine of the ten non-euro countries indicated the possibility of taking part in this agreement, subject to consultation with their national parliaments where appropriate.[72]

76. At an informal summit on 30 January 2012 the euro area Member States finalised the text of the "treaty on stability, coordination and governance in the economic and monetary union", with signature of the treaty expected to take place at the European Council on 1-2 March. Eight of the ten non-euro Member States indicated that they would sign the treaty. The Czech Republic declined to participate for the time being, but held open the possibility of signing the treaty at a later date. The United Kingdom maintained the position it had taken in December.[73] The text of the proposed treaty following the 30 January summit is summarised in Box 2.

BOX 2

Summary of the draft treaty on stability, coordination and governance in the economic and monetary union

Article 1(1) states the purpose of the treaty: "to strengthen the economic pillar of the Economic and Monetary Union by adopting a set of rules intended to foster budgetary discipline through a fiscal compact, to strengthen the coordination of economic policies and to improve the governance of the euro area, thereby supporting the achievement of the European Union's objectives for sustainable growth, employment, competitiveness and social cohesion".

Article 1(2) provides that the treaty applies to euro area states and (read with Article 14) to non-euro contracting parties when they adopt the euro. The latter may declare their intention to be bound by its substantive provisions earlier if they so wish.

Article 2 establishes the precedence of European Union law over the treaty, including in article 2(2) that "The provisions of this Treaty shall apply insofar as they are compatible with the Treaties on which the Union is founded and with European Union law. They shall not encroach upon the competences of the Union to act in the area of the economic union."

Articles 3 and 4 set out the terms of the fiscal compact: that—

government budgets shall be balanced or in surplus, with the annual structural deficit not to exceed 0.5% of GDP (unless government debt is very low, in which case the structural deficit can be up to 1%);
there must be an automatic correction mechanism, triggered if the state deviates from a country-specific medium-term objective, or its adjustment path towards that objective;
if the ratio of general government debt to GDP exceeds 60%, the difference between the actual ratio and 60% should be reduced by an average of one-twentieth per year.

Article 3(2) provides that the parties must put into national law the balanced budget rule "through provisions of binding force and permanent character, preferably constitutional, or otherwise guaranteed to be fully respected and adhered to"; and also to transpose the automatic correction mechanism specified in Article 3 (above).

Article 5 requires parties in breach of the deficit criterion and subject to the excessive deficit procedure to put in place a programme of structural reforms to reduce the deficit. The form and content of such programmes is to be defined in EU law.

Article 6 requires the parties to report their borrowing plans ex ante to the Commission and the Council, for the purpose of better coordination of debt issuance.

Article 7 provides that the parties undertake to support European Commission recommendations where a euro area state is in breach of the deficit criterion and subject to the excessive deficit procedure—unless a Qualified Majority of euro area states does not support the recommendation.

Article 8 provides that the EU Court of Justice may rule on whether parties have complied with the requirements of Article 3(2); and that the Court may levy a fine of up to 0.1 per cent of GDP if its ruling is not complied with.

Articles 9 to 11 cover economic policy coordination. Under Article 9 the parties "undertake to work jointly towards an economic policy fostering the smooth functioning of the Economic and Monetary Union and economic growth through enhanced convergence and competitiveness". Article 10 encourages the parties to make use of existing procedures in the TFEU to take forward measures specific to the euro area states (Article 136 TFEU in relation to the euro area; and Articles 326 to 334 in relation to the enhanced cooperation procedure).

Article 12 provides for Euro Summit meetings to be held at least twice a year.

Article 13 provides for a conference of MEPs and national parliamentarians of the parties.

Article 14 provides that the treaty shall come into force when twelve euro area states have ratified it.

Article 15 provides that after it comes into force the treaty shall remain open to other Member States of the European Union.

Article 16 expresses the aim that within five years the treaty may be incorporated into the EU treaty framework.

Note: This summary, and this chapter of the report, refer to the sixth draft of the treaty, dated 31 January 2012

77. The treaty will come into force when 12 euro area states have ratified it. Ratification by all 25 states is not a foregone conclusion. For example, it is expected that France will not ratify until after the Presidential election in April (with Socialist candidate Francois Hollande expressing reservations about key features of the treaty); and Ireland may hold a referendum on it.

78. Six drafts of the treaty have been produced, several of them by a working group consisting of officials from the states involved, and three MEPs, plus an observer from the United Kingdom. This report does not parse the differences from draft to draft, and our comments relate to the sixth draft, dated 31 January 2012. We note that the changes in successive drafts, and the unusual speed of negotiations in preparing new treaty provisions, have not made it easy to understand and analyse the provisions of the treaty. Evidence from witnesses has necessarily reflected the text of the treaty as it stood at that time: the oral evidence heard by the Committee relates to the third and fourth drafts.

BOX 3

Which treaty?

The following sections refer to three treaties. The first two listed are the principal EU treaties and are sometimes together called the Lisbon Treaty as they were most recently amended by the treaty signed in Lisbon in December 2007.

Treaty on European Union (TEU) Sets out the broad principles for the European Union.
Treaty on the Functioning of the European Union (TFEU) Sets out in greater detail the functioning and institutions of the European Union.
Draft Treaty on stability, coordination and governance in the economic and monetary union (usually referred to in this chapter as the proposed treaty) This is the outcome of the decision by Member States at the December European Council to agree a new treaty on budgetary discipline and economic policy coordination.

Legal and related issues

79. The proposed treaty raises several critical legal and related issues, especially because it is separate from the EU treaty architecture. This section highlights the relationship between the treaty and EU law; whether the proposed treaty can legitimately confer new functions on EU institutions (and whether it does in fact seek to do so); transparency and accountability; and whether the treaty imposes any new obligations on participating states.

80. Professor Craig raised a point of legal principle which he argued did not appear to have been addressed. Under the EU Treaties, agreement among all 27 Member States is required for any additions or other changes to those treaties. The decisional rule is unanimity. The proposed treaty would, by contrast, be agreed by fewer than 27 states, in effect substituting a decisional rule permitting a majority of states to proceed. Professor Craig did not argue that this was unlawful, pointing out that Member States retain their inherent power to make an international agreement, but he questioned whether it is legitimate to proceed to an outcome desired by a majority of EU Member States by way of a treaty not agreed by all those states. The principle would be established that "a majority, whether it is 12, 15 or 26 states, could attain ends that are not attainable via unanimity and they can use the EU institutions in order to achieve their goal."[74]

RELATIONSHIP WITH EU LAW

81. The fact that, because not all the Member States were willing to agree to it, the new treaty is outside the treaty architecture of the European Union raises several difficult legal and practical questions. Mr Amato made plain his own concerns, stating bluntly: "I do not like this treaty very much".[75]

82. The proposed treaty cannot amend the EU Treaties or their protocols. Nor may it affect the obligations of Member States and the functions of the EU Institutions under the EU treaties and other EU law. The proposed treaty repeatedly acknowledges the precedence of the EU treaties.[76] Article 2 provides that "This Treaty shall be applied and interpreted by the Contracting Parties in conformity with the Treaties on which the European Union is founded", and that "The provisions of this Treaty shall apply insofar as they are compatible with the Treaties on which the Union is founded and with European law. They shall not encroach upon the competences of the Union to act in the area of the economic union." The fiscal compact set out in Article 3 is to be applied "without prejudice to the obligations derived from European Union law"; Article 7 on sanctions for states in excessive deficit procedure is applicable "While fully respecting the procedural requirements of the European Union Treaties" and Article 10 on enhanced cooperation applies "In accordance with the requirements of the European Union Treaties".

83. Despite these multiple disclaimers on the face of the treaty, the fact remains that a group of Member States has decided to establish a separate framework concerning the monetary union established by the EU treaties, which includes amongst other things provision for closer economic policy coordination.

84. For example, Article 9 provides that "Building upon the economic policy coordination as defined in the Treaty on the Functioning of the European Union, the Contracting Parties undertake to work jointly towards an economic policy fostering the smooth functioning of the Economic and Monetary Union and economic growth through enhanced convergence and competitiveness".

85. Article 10 provides that signatories will make greater use of "enhanced cooperation" (a procedure under the Lisbon Treaty which permits a group of EU Member States to take forward initiatives under certain conditions) "on matters that are essential for the smooth functioning of the euro area". The Article specifies that this must be done "without undermining the internal market". The enhanced cooperation procedure in the Lisbon Treaty includes a number of procedural and substantive requirements in addition to the requirement not to undermine the internal market, for example that "Authorisation to proceed with enhanced cooperation shall be granted by a decision of the Council, on a proposal from the Commission and after obtaining the consent of the European Parliament"; and that "such cooperation shall not undermine the internal market or economic, social and territorial cohesion. It shall not constitute a barrier to or discrimination in trade between Member States, nor shall it distort competition between them".[77]

86. Article 12 provides for regular euro summit meetings to be held, with a President (who is currently Mr Van Rompuy, president of the European Council), in close collaboration with the President of the European Commission, and at whose meetings the President of the European Parliament may be invited to be heard.

87. It is inevitable that there will be concerns about the possibility that the provisions on economic policy coordination and governance might impinge on matters related to the internal market, which should be the province of the full Union. There are also concerns that euro area states meeting together might informally reach common views on matters which would then fall to be decided by the full European Council ("caucusing"). All three current holders of the key posts of President of the Euro Summit / European Council, President of the European Commission, and President of the European Parliament, are from euro area countries. The question arises whether it might in practice prove difficult in future for the holder of any of these key posts to be nationals of non-euro area countries.

CAN THE TREATY CONFER NEW FUNCTIONS ON EU INSTITUTIONS, AND DOES IT TRY TO DO SO?

88. The question of whether the proposed treaty can confer new functions on the institutions of the European Union caused immediate controversy in the aftermath of the December European Council. On 13 December the Prime Minister told the House of Commons that "we will look constructively at proposals to use the EU institutions with an open mind, but this is new territory which raises important issues"[78], while Commissioner Olli Rehn argued that, though a full EU treaty would have been preferable, "this fiscal compact treaty was bold and effective and legally viable".[79]

89. On 17 January the Minister for Europe clarified the Government's position: "We think that the legal position is that any proposal to confer new tasks on the EU institutions requires the consent of all Member States".[80] The Government have now indicated that they will not oppose the use of EU institutions under the proposed treaty provided that the interests of the United Kingdom are not threatened.[81] On 31 January the Prime Minister explained to the House of Commons that "The new intergovernmental agreement is absolutely explicit and clear that it cannot encroach on the competencies of the European Union and that measures must not be taken that in any way undermine the EU single market. Nevertheless, I made it clear that we will watch this matter closely and that, if necessary, we will take action, including legal action, if our national interests are threatened by the misuse of the institutions."[82]

90. Professor Craig argued that the proposed treaty could not lawfully confer any new functions on the institutions of the European Union.[83] He explained that this clear view was based on Articles 5(2) and 13(2) TEU, which provide that:

"the Union shall act only within the limits of the competences conferred upon it by the Member States in the Treaties to attain the objectives set out therein" (Article 5(2) TEU)

"Each institution shall act within the limits of the powers conferred on it in the Treaties, and in conformity with the procedures, conditions and objectives set out in them" (Article 13(2) TEU)

91. The functions of the EU institutions are governed by the EU treaties. The proposed treaty does not and cannot alter this position. It is less clear, however, whether the proposed treaty does actually seek to impose any new obligations (as distinct from recognising functions which are already exercised by the institutions under the EU treaties and legislation made under the treaties).

92. Commissioner Rehn indicated that the treaty would not confer any new functions on the Council or the Commission: "for the implementation of the agreement, the institutions of the Union will act within the framework of their powers as provided by the European Union Treaties". Therefore, he argued, the question about whether or not it would be legitimate for the treaty to confer new functions on the Commission was "purely speculative".[84] Commenting on the fourth draft of the treaty Professor Craig suggested that aspects of Articles 3, 7 and 8 did seek "in substance [to] confer new powers on the Commission".[85] The Government have indicated that they share the concerns of some other (non-specified) Member States in relation to Articles 7 and 8 "which raise important questions of compatibility with EU law".[86]

93. It has been commonly assumed that no legal difficulty is caused by the proposed treaty setting out functions conferred on the EU institutions under the existing EU legislative framework in the context of the proposed treaty. But Professor Craig also raised the question whether it is in fact legitimate for the Commission to exercise existing powers in "this new setting" under the proposed treaty.[87] For example, Article 5(1) makes it clear that contracting parties subject to the excessive deficit procedure shall implement a programme the content and format of which "shall be defined in European Union law"; with the submission of such programmes to the Commission and Council for endorsement or monitoring to "take place within the context of the existing surveillance procedures of the Stability and Growth Pact". Article 5(2) seems to give a (closely related) duty to the Commission and Council but without a reference to existing EU law: that "the implementation of the programme, and the yearly budgetary plans consistent with it, will be monitored by the Commission and by the Council".

EU COURT OF JUSTICE AND THE EUROPEAN COMMISSION UNDER ARTICLE 8

94. Considerable attention has been focused on Article 8, under which the EU Court of Justice may determine whether a party to the treaty has complied with Article 3(2). The first part of this Article requires transposition of the fiscal compact into national law "through provisions of binding force and permanent character, preferably constitutional", implying that the role of the Court would simply be to assess whether or not this had been done. The Article goes on to require the putting in place at a national level of an automatic correction mechanism to keep states on the right path towards meeting the goals of the compact. If a state has failed to comply with Article 3(2), the Court can specify the time period within which the state must take the necessary measure to comply. If the state then fails to comply with this ruling, the Court may impose a fine "that shall not exceed 0,1% of its gross domestic product".

95. A case may only be brought by another party (state), but there is also a role for the Commission. If the Commission concludes in a report that a contracting party has failed comply with Article 3(2), then "the matter will be brought to the Court of Justice" by one or more of the other parties. This appears to be a requirement, but it is not clear how it will be decided which state or states will commence proceedings.

96. The preamble to the proposed treaty states that Article 273 TFEU gives the Court jurisdiction; and Article 260 TFEU empowers it to impose a fine. Article 273 provides "The Court of Justice shall have jurisdiction in any dispute between Member States which relates to the subject matter of the Treaties if the dispute is submitted to it under a special agreement between the parties"; Article 260 specifies the circumstances in which the Court may impose a fine.

97. Professor Craig agreed that Article 273 was sufficient to give the Court jurisdiction, but that Article 8 of the proposed treaty caused difficulties because even though the Commission would not bring a case in name, the provisions meant that it might do so in effect, and there is no provision under the EU treaties for the Commission to bring such a case.[88]

TRANSPARENCY

98. Concerns have been raised that the distribution of important rules regarding the economic governance of the EU's Member States, and particularly the euro area states, between the EU Treaties, a range of legislation made under those treaties, and the proposed treaty, will cause confusion about what exactly is required. Professor Peers concluded that "the EU's economic governance rules fail the test of transparency, because of their near-total complexity and unreadability".[89]

99. This lack of clarity, for Member States expected to follow the requirements and for anyone who wishes to have a clear understanding of the laws which are affecting them, is undesirable in principle. It is also causing some confusion in specific matters of interpretation. For example, commenting on the third draft of the treaty Professor Peers queried whether Article 3(1)(b) added anything to obligations that euro area states already have under the Stability and Growth Pact.[90]

DEMOCRATIC ACCOUNTABILITY

100. Under the EU treaties there is an established framework for democratic accountability, through national parliaments and the European Parliament. As the proposed treaty is outside the EU set-up, the framers have sought in Article 13 to introduce a role for parliamentary scrutiny:

"As foreseen in Title II of Protocol (No 1) on the role of national Parliaments in the European Union annexed to the European Union Treaties, the European Parliament and the national Parliaments of the Contracting Parties will together determine the organisation and promotion of a conference of representatives of the relevant committees of the national Parliaments and representatives of the relevant committees of the European Parliament in order to discuss budgetary policies and other issues covered by this Treaty."

101. This Article raises a number of questions.

The opening words "As foreseen in" are puzzling. While the reference to the EU treaties is helpful, the Protocol was not drafted foreseeing its application outside the ambit of those treaties.
The reference to the Protocol also creates an element of ambiguity. The United Kingdom Parliament (and the Parliaments of all EU Member States), of course, participate fully under Protocol 1, while it is not currently envisaged that the United Kingdom (and one other state) will be a party to this treaty—and the reference elsewhere in the Article to "the contracting parties" makes clear that non-signatories will not be involved.
Given that the key subject matter of the treaty is national budgets, for which national governments are accountable to their national parliaments, and that this treaty sits outside the EU treaties, it is not immediately apparent why the European Parliament "will together determine the organisation and promotion" of the conference along with the relevant national Parliaments.

DOES THE TREATY IMPOSE ANY NEW OBLIGATIONS ON MEMBER STATES?

102. Witnesses gave two answers to the question of whether a new treaty is actually required in order to achieve the ends set out in it: one legal, and one political. Professor Peers argued that the treaty adds "very little to the measures already set out in EU law or which have been or could be proposed as part of EU law" but it "might nonetheless have a useful impact if it encourages Germany or the European Central Bank to take a more active role in saving the euro".[91] In December, Guy Verhofstadt, one of the three MEPS involved in the treaty negotiations, agreed that "it is for political, symbolic reasons that they want to do this agreement".[92] The legal aspects of the question are considered in this section; the political context in the following sections.

103. There was general agreement with Professor Peers' view of the legal aspect, and our witnesses highlighted the ways in which provisions in the proposed Treaty were effectively mirrored in existing EU Treaty and legislative obligations.[93]

104. It is worth considering further whether there is any significant element of the treaty which is not or could not be achieved within the existing legal framework, not least for its relevance to the ease with which the proposed treaty might in due course be integrated into the EU legal framework, as proposed in Article 16. The Minister for Europe cited two such points:

"there is no provision in the European Union treaties to make a balanced budget rule binding in a Member State's national law or subject to the jurisdiction of the European Court of Justice. There is no provision in the existing treaties for an automatic correction mechanism where a Member State deviates from that balanced budget path".[94]

Mr Amato broadly agreed with this analysis.[95] But the legal question, whether measures could be adopted under the EU Treaties to deal with both points, remains open.

Will the treaty help in the short-term?

105. Commissioner Rehn stated that the proposed treaty is aimed at targeting "weaknesses in economic governance and ... the lack of credible enforceable mechanisms for fiscal discipline".[96] There was a widespread view amongst our witnesses that the treaty was necessary, but not sufficient; and that the direct impact of the treaty would be more about preventing future crises by hardwiring fiscal rectitude into the system, and not directly resolving the current crisis.

106. Giving evidence to us on 17 January the Minister for Europe described as the "prime justification" for the treaty the view of Germany that if you get the rules right for the future, "you therefore restore confidence about long-term stability, [and] that in turn will help you to secure confidence and recovery now". He added that "even on the optimum assessment of what is likely to come out of the intergovernmental negotiations there is still a great deal more that needs to be done in both the short and long terms".[97] Mr Amato agreed that in the short-term the proposed treaty "is not enough", but that it "was and is necessary to restore trust" on the part of Germany. He explained, "trust may be the main outcome of this treaty, on which you can build what in the treaty itself is missing".[98]

107. In considering what else needs to be done, the Minister for Europe highlighted the need in the short-term for the effective implementation of the October 2011 agreement on Greek debt write-down; bank recapitalisation and rescue funds. This is consistent with chapters 3 and 4 of this report. Mr Amato emphasised the importance of increasing the capital of the European Stability Mechanism, and as noted in paragraph 102 Professor Peers highlighted the role of European Central Bank.[99]

Will the treaty help in the long term?

108. There has been little questioning of the policy embodied in the balanced budget rules set out in the proposed treaty. To a degree this is unsurprising because, as has been identified, they are very similar to what is already required in recently passed EU legislation. And there is a universal desire to avert future crises by avoiding the accumulation of large government debts and an over-reliance of states on the debt markets.

109. However, it is worthy of note that the rules being implemented by the European Union countries, and the euro area states in particular, amount to a major innovation in fiscal policy. This is softened by the fact that the proposed treaty specifies that it is only the structural deficit that must be eliminated, allowing for some continued variation over the course of the economic cycle. Article 16 of the proposed treaty, which is considered further below, notes that there will be an assessment of experience with implementation, well within five years of its coming into force. We express the hope that this assessment will encompass a reflection on this major development in the fiscal policy of euro area states.

110. There is also a tension between the desire to hardwire balanced budgets and automatic sanctions for excessive deficits into the system; and the desire to retain flexibility where that is justified. This has been highlighted during the negotiations on the various iterations of the proposed treaty. In January the European Central Bank issued a strongly-worded warning that too many get-out clauses were being written in;[100] while by contrast Mr Amato expressed satisfaction that one element of flexibility which was important in the case of Italy (regarding the reduction of excessive government debt) had been added into the fourth draft of the treaty.[101]

Conclusion

111. It is vital that, while the euro area states take the steps they consider necessary to strengthen the euro, including on fiscal integration, matters relating to the internal market remain the preserve of all 27 EU Member States. We welcome the disclaimer on the face of the treaty which is designed to ensure that this point is respected.

112. The proposed treaty raises a number of other questions, particularly concerning the relationship between it and the EU treaties and laws made under those treaties; and the proper role of EU institutions. The history of the institutional development of the European Union is characterised by pragmatic flexibility and 'finding a way', suggesting that some of the rough legal edges of the proposed treaty will be softened over time. With the United Kingdom reducing its objection to the use of the EU institutions under the proposed treaty, it might be argued that this process is already underway. But even so, the lack of clarity about whether it is legitimate for the proposed treaty to confer new functions on institutions of the European Union, and the extensive overlap between the provisions of this treaty and functions which have already been imposed by EU legislation, is undesirable. The treaty aims to bring certainty about the fiscal rules that euro area states will follow, and anything that risks creating new areas of confusion should be avoided. Therefore the objective of bringing these provisions within the scope of the EU treaties, as provided for in Article 16, is one which we consider is in the interests of all Member States including the United Kingdom.

Implications for the United Kingdom

THE APPROACH TO THE DECEMBER 2011 EUROPEAN COUNCIL

113. Even though the UK is not a member of the euro area, it is far from immune from the effects of the euro area crisis. The size and importance of the financial sector to the UK's economy makes it particularly vulnerable. As we have seen, part of the emerging solution to the crisis has been a move towards closer fiscal integration among members of the euro area, and there has been an understandable tension underlying the approach of the United Kingdom Government towards these developments.

114. On one hand, the Government have been supportive, accepting the "remorseless logic" of closer integration.[102] The Financial Secretary to the Treasury explained in October 2011 that "The reason we opposed membership of the euro is we recognised that along with monetary union must come closer fiscal integration, and we are urging that on our eurozone partners to enable them to get the right institutional mechanism in place to support monetary union."[103]

115. On the other hand, there has been a fear that a closely integrated bloc based on the euro area might shape EU policies to benefit this core, to the detriment of the ''periphery'' including the United Kingdom. Before treaty change moved decisively up the political agenda the former, supportive, view tended to be to the fore. When asked on 8 November 2011 about the danger that euro area states might work together to 'pre-cook' matters for discussion at the Council of Ministers, the Minister for Europe accepted that "when the new voting weights provided for in the Lisbon Treaty come in in 2015, at that stage the 17 current members of the eurozone would have a built-in qualified majority, should they vote as a bloc. Clearly there is an inherent risk, just in that arithmetic", but he added that "there is no evidence whatsoever that that is how eurozone countries themselves are thinking at the moment."[104]

116. The lead-up to the December European Council seemed to signal a hardening of the UK Government's position, towards seeking explicit guarantees that any significant moves to further integration would not disadvantage the UK. Immediately before the 9 December summit, the Prime Minister set out the Government's view of the crisis: "What matters most to Britain's national interest now is that the eurozone sorts out its problems ... That requires three things. First ... there needs to be much tighter fiscal discipline and closer fiscal co-ordination within the eurozone ... Second, the members and institutions of the eurozone should take whatever action is necessary to prevent a second global credit crunch ... above all a big firewall to prevent contagion along with properly capitalised banks. Third, and more fundamentally, we need to see improved competitiveness ... a change in the treaty governing all 27 members of the European Union ... is the most comprehensive and credible way to provide tough sanctions to ensure that eurozone countries stick to the rules on debt".

117. Significantly he added that "If we are changing the treaty that applies to all EU countries and allowing the eurozone countries to have new rules, it is also important that there are rules to keep the single market fair and open for key industries for Britain, including financial services." In the event that a treaty of the 17 euro area members were introduced instead and they were applied through the EU Court of Justice and the Commission, then "their use outside the treaty of the 27 would clearly require safeguards."[105]

118. As we have seen, the UK Government refused to negotiate changes to the EU treaties. Soon after the break-up of the negotiations Mr Cameron explained his reasons for refusing to take part:

"We want the eurozone countries to come together and solve their problems. But we should only allow that to happen within the EU treaties if there are proper protections for the single market, for other key British interests."[106]

WHY DID THE UK REFUSE TO PARTICIPATE?

119. In evidence to us on 17 January the Minister for Europe explained to us in some detail the reasons for the Prime Minister's actions on 9 December. First, he reiterated that the Government had hoped to secure an agreement: "when the Prime Minister went to Brussels for the December European Council, he did so on the basis of an agreed government position that the optimum outcome would be agreement of all 27", provided that certain safeguards could be achieved.

"The reason why we wanted the safeguards was that it was not at all easy to predict—even now it is not easy to predict—what the outworking of the new arrangements would be in practice. We accept that the economic logic of a common currency is that there should be a move towards greater fiscal and economic integration of the eurozone. Given those countries' sovereign decision to take part and to commit themselves to the single currency, it is in our interest as a nation that they should be able to sort out their grave problems and to restore economic stability.

Clearly, also, the creation of a tightly integrated structure focused on the eurozone within the architecture of the EU would mean giving a higher priority in the activities of the European Union to the concerns of the eurozone ...

When it was clear that explicit safeguards were not forthcoming, the Prime Minister took the decision that it is not in our national interest to agree. We have as an outcome an intergovernmental structure that, whatever else it does or does not do, cannot create obligations on the United Kingdom, cannot form part of the European Union's acquis and cannot be a treaty basis for future EU secondary legislation that is binding on us."[107]

SAFEGUARDS

120. The Government's case is therefore that the events at the December European Council, including their inability to achieve what they describe as the "optimum outcome" of an agreement between all 27 Member States, were dictated by the failure of the other Member States to agree the safeguards sought by the UK Government.

121. We repeatedly asked the Minister for Europe to explain precisely what safeguards the United Kingdom had sought at the December European Council.[108] Members of both Houses of Parliament have done the same.[109] While Ministers have outlined in general terms the safeguards they say were sought, they have consistently refused to give a precise answer, or to make available to Parliament the text of the draft protocol they put forward at the December European Council and which the other Member States declined to agree. The Minister for Europe argued that "I do not think that any Government have got into the habit of disclosing routinely the text of negotiating amendments that they suggested to European partners in a particular context".[110]

122. The Government's position on this point is regrettable, not least because the system by which Parliament scrutinises proposals for European legislation relies on the provision of often quite detailed information by the government about its views on matters to be discussed at forthcoming Council meetings, and the system usually works well. It is unacceptable that the Government have not released appropriate details of the safeguards which the Prime Minister sought at the December European Council. This makes it impossible to form a balanced judgement about the outcome. Coming to the present, we invite the Government to indicate what necessary safeguards they think have yet to be achieved, and what provisions (if any) in the proposed treaty are objectionable to them.

123. As there has been no authoritative detailed statement from the Government on this matter, we set out three suggested explanations of the safeguards sought. The first is from the Minister for Europe, who explained in general terms that the Government had focused on two areas, seeking: "some sort of general safeguard with respect to the integrity of the single market and ... something more specific on the issue of financial services" ... to protect "the financial services industry in every EU Member State against the risk of discriminatory legislation or protectionist legislation on financial services".[111] The Minister denied that the Government was tilting at imaginary windmills: "We have had, in the European Central Bank's location policy, an example already of a legislative initiative that we believe goes blatantly against single market principles and which has been brought forward because the ECB regards it as their priority to protect the interests of the eurozone. We did not want to see that becoming a trend."[112]

124. The second explanation is from the Financial Times, which reported that the UK's demands included: a clear statement that euro area integration would preserve the interests of the single market and would not undermine the common interest of all 27 Member States; a "protocol on financial services" in relation to the powers of the new European Supervisory Authorities (including a reassurance that the EBA would remain in London) and including a unanimous vote on any "user charges" in financial services regulation, which would have attempted to clarify that the UK would have been able to veto any variant of the financial transaction tax proposal; ensuring that stringent rules did not close off the EU to US or Asian financial groups; and allowing the UK the flexibility to raise capital requirements for retail banks, in reflection of the recommendation of the Vickers Commission.[113]

125. The third is from the French President Nicolas Sarkozy: "in order to accept treaty revision among the 27 EU states, David Cameron asked us—something we all judged unacceptable—for a protocol to be inserted into the treaty granting the United Kingdom a certain number of exonerations on financial services regulations ... We could not accept this, since we consider, quite on the contrary, that a part of the world's woes stem from the deregulation of the financial sector."[114]

THE FUTURE

126. The proposed treaty would impose no new obligations on the United Kingdom as a non-member of the euro area, whether or not the UK chose to sign and ratify the treaty. Article 14 makes clear that the treaty applies to contracting parties whose currency is the euro; and that it does not apply to other contracting parties until they adopt the euro—unless, that is, they choose to declare their intention to be bound by the substantive provisions of the treaty.

127. The United Kingdom Government have consistently recognised the "remorseless logic" of further integration between the euro area states. In principle those states should be supported in their efforts, given the severity of the crisis and the implications for the United Kingdom of a failure to resolve it. However, this further integration does raise important questions about the future development of the EU, and in particular whether and how the internal market can be maintained and developed further as a level playing field across all 27 Member States when the majority, but not all, of those states are also engaged in the fiscal integration that must ultimately accompany monetary union. The United Kingdom Government, together with the other Member States of the Union, and the EU institutions, must devise a means of securing the fiscal integration desired by some of the euro area Member States while at the same time protecting the integrity of the single market, including its provisions for financial regulation, as an engine of economic growth for all 27 Member States of the Union.

128. We agree with the assessment of the United Kingdom Government that the "optimum outcome" at the December European Council would have been an agreement at the level of all 27 EU Member States, with the interests of the United Kingdom protected. But the creation of mechanisms outside the EU treaties risks causing confusion, and we have sought to identify some of these issues in this report. Shifting discussions outside the main EU channels to forums where the United Kingdom has no voice also risks marginalising the UK over time.

129. For the longer term, we note that the proposed treaty states in Article 16 that it remains the intention for its provisions to be folded in to the main EU treaty framework. We can see no reason in principle why this should not in due course be achieved.

66 The future of economic governance in the EU, paras 30-33. Back

67 Q 98 (Select). Back

68 The future of economic governance in the EU, chapter 3. Back

69 Q 86 (Sub-Committee). Back

70 http://ec.europa.eu/commission_2010-2014/president/news/documents/pdf/regulation_1_en.pdf. Back

71 http://ec.europa.eu/commission_2010-2014/president/news/documents/pdf/regulation_2_en.pdf. Back

72 http://www.consilium.europa.eu/uedocs/cms_data/docs/pressdata/en/ec/126658.pdf. Back

73 Press remarks by the President of the European Council Herman Van Rompuy, following the informal meeting of members of the European Council, 30 January 2012. Back

74 Q 86 (Select). Back

75 Q 100 (Select). Back

76 For a helpful summary, see Professor Peers (Select). Back

77 Articles 329 and 326 TFEU respectively. The enhanced cooperation procedure is set out in Article 20 TEU and Articles 326 to 334 TFEU. Back