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How could net balances change in the next EU budget?

Summary:
The gap between payments into the EU budget and EU spending in a particular country has importance when EU spending does not constitute European public goods, or there are risks for their improper use. I estimate that the Juncker Commission’s proposal for the next seven-year budget would lead to big reductions (as a share of GNI) in the net payments to most central European countries, while the changes for other countries seem small By: Zsolt Darvas Date: January 23, 2020 Topic: European Macroeconomics & Governance Negotiations about the EU’s next seven-year Multiannual Financial Framework (MFF) for 2021-2027 are running over. The Juncker Commission made its proposal in May 2018 and wished to conclude the negotiations before its mandate expires, which did not work out. The

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The gap between payments into the EU budget and EU spending in a particular country has importance when EU spending does not constitute European public goods, or there are risks for their improper use. I estimate that the Juncker Commission’s proposal for the next seven-year budget would lead to big reductions (as a share of GNI) in the net payments to most central European countries, while the changes for other countries seem small

By: Date: January 23, 2020 Topic: European Macroeconomics & Governance

Negotiations about the EU’s next seven-year Multiannual Financial Framework (MFF) for 2021-2027 are running over. The Juncker Commission made its proposal in May 2018 and wished to conclude the negotiations before its mandate expires, which did not work out. The December 2018 European Council summit conclusions set the target to finalise the negotiations by autumn 2019, but this has not succeeded. The Finish Presidency of the EU Council prepared a compromise proposal for the December 2019 European Council summit, but there was no agreement, nor a new target date for the approval has been set. Most likely, negotiations will continue for many more months to come.

Crucial debates relate to the overall size of the budget, cuts to agricultural and cohesion policy spending, increases in spending on new priorities like the fight against climate change, linking EU funds to the respect for rule of law, the elimination of rebates, new revenue sources, the euro-area budget, and a number of other issues.

One important aspect of the discussion relates to net balances with the EU budget – the balance between payments into the EU budget and EU spending in a particular country. In principle, the EU budget should provide truly European public goods that benefit every European country, in which case net balances should not matter. But in practice, this is not the case. If the largest net contributor member states believe that a big share of the EU budget is redistributed to countries for spending which do not constitute European public goods, or there are risks for their improper use, the attempt of reducing the overall size of the budget and thereby net contributions is understandable.

In a recent paper, I estimated the impact on net balances of the Juncker Commission’s MFF proposal. This proposal is still being discussed and the only comprehensive proposal available. Let me first show the main results and then I’ll briefly introduce the complexity of this calculation and my methodology in the annex.

Three scenarios

The EU budget is burdened with an ad-hoc, complex, non-transparent and regressive system of revenue correction mechanisms, or rebates. They originate from the Fontainebleau European Summit in June 1984, which granted a major reduction in the budget contributions of the United Kingdom (“UK rebate”) and a reduction in Germany’s contribution to the gap left by the UK rebate (“rebate on the rebate”). Since then, many different types of revenue corrections have been introduced as I discuss and quantify here. Using the opportunity of Brexit, the European Commission proposed to gradually eliminate all rebates in 2021-2025. In my net balance calculations, I explore three scenarios:

In scenario 1, all rebates are abolished as of 1 January 2021 (except the corrections for the security and citizenship opt-outs of Denmark and Ireland).

In scenario 2, they will be reduced gradually between 2021 and 2025 as proposed by the European Commission (again, with the exceptions of the security and citizenship corrections for Denmark and Ireland).

In scenario 3, they remain in place in the full period from 2021 to 2027 (except for the UK rebate and the rebates on the UK rebate).

Two indicators

I use two indicators of net balances.

One is the ‘operating budgetary balance’ (OBB) indicator, which is regularly calculated by the European Commission (see its definition on pages 72-73 here and excel files for the annual data between 2000-2018 here). However, OBB takes into account only 80.6 per cent of EU spending and 76.8 percent of EU revenues (based on 2014-2018 data). Moreover, OBB does not correspond to actual net balances arising from the expenditure and revenue items considered, but represent adjusted values. The OBB calculation adopts a particular adjustment to ensure that the sum of the net balances of the 28 member states is zero. Without this adjustment, the sum of national OBBs would have resulted in an overall surplus of €17 billion between  2014 and 2018.

The other net balance indicator is a novel one I develop in the paper and call ‘net direct balance’ (NDB). It considers all EU budget expenditures and 90.2 percent of EU revenues (based on 2014- 2018 data). I do not adjust my NDB calculations to ensure that they sum up to zero for all EU member states, because what matters to member states is how much they actually get or pay in net terms, and not a hypothetical adjusted value.

Both indicators consider only the direct financial balance, yet companies and national budgets get revenues from EU spending in other countries. For example, if German companies participate in the execution of cohesion projects in Poland, they obtain higher revenues, leading to higher profits and they pay more taxes in Germany. Or higher Polish imports resulting from EU spending in Poland will increase German exports to Poland, leading to more corporate and tax revenues in Germany. These and other indirect financial impacts on a country from EU spending in other countries is not included in net balance indicators.

Main results

Figure 1 shows my results for OBB, while figure 2 for NDB.

The most visible result is the major reduction in the net payments received by central and eastern European member states, under all three scenarios and using both indicators. The biggest reduction would be for Hungary from the largest net positive balance with the EU budget amounting to about 4% of GNI between 2014 and2020 to about 2% between 2021 and 2027. And yet, Hungary would be still the fifth highest net beneficiary in the next MFF (as a share of GNI). Six central and eastern European countries would receive about one per cent of GNI less, namely Bulgaria, Czechia, Lithuania, Poland, Romania and Slovakia. The expected reduction in net EU funding in 2021-2027 compared to 2014-2020 would be somewhat less than one per cent for Estonia, Latvia and Slovenia, while Croatia and Cyprus would receive somewhat more (as a share of GNI) in the next MFF than in the current MFF.

Among the largest net contributors, under Scenario 2 which corresponds to the proposal of the Juncker Commission, Germany’s net contribution (using OBB) is expected to go up from 0.40% of GNI to 0.44%, while the Dutch contributions would be up from 0.35% to 0.36%. On the basis of the NDB indicator, Germany’s net contribution would go up from 0.32% of GNI to 0.33%, while Dutch contributions would go up from 0.47% to 0.52%.

In Scenario 2, Italy’s net position would improve from a net contribution of 0.23% of GNI between 2014 and2020 to 0.09% between 2021 and2027, according to the OBB indicator. France’s position would improve marginally, i.e. by 0.04 percentage points of GNI under OBB and by 0.08 percentage points of GNI under NDB. Spain’s net position would improve even less, while Greece and Portugal would face reductions of about 0.2 percentage points of GNI.

There are only two countries, Luxembourg and Ireland, for which the sign of net balance would change. Surprisingly these two countries are net beneficiaries of the current 2014-2020 MFF (though at a relatively small scale), even though they have the largest GNI per capita in the EU. Between 2021 and 2027, both countries would make net contributions of 0.12-0.15 per cent of their GNI, under the Juncker Commission proposal – which is much lower (as a share of GNI) than the expected net contributions of other countries with lower GNI per capita.

Overall, with the exception of central and eastern European countries, the changes in net balances (as a share of GNI) seem small.

Annex: The methodology in brief

Estimating the expected net balances under an MFF proposal is challenging, for several reasons.

On the expenditure side, a complicating factor is the difference between ‘commitment appropriations’ (or ceilings on spending promises), ‘payment appropriations’ (or ceilings on possible payments) and actual payments. The Juncker Commission’s proposed 1.11 per cent of GNI for commitment appropriations and 1.08 per cent of GNI for payments appropriations for 2021-2027. However, it is actual payments that matter for net balances, not the various ceilings. Typically, actual payments are about 6 per cent lower than commitment appropriations: my main assumption is that between 2021 and2027, the ratio of actual payments over commitment appropriations will be the same as it was between 2014 and 2020.

Identifying the allocation of actual payments to countries is another challenge, as well as estimating ‘absorption’, the amounts actually used from the available allocated amounts. For cohesion and agricultural policies pre-allocations exist, but not all countries are able to absorb available EU funding and thus the distribution of actual payments differs from the distribution of pre-allocations. My main assumption is that the rate of absorption between 2021 and2027 will be the same as it was between 2014 and 2020. I also assume that countries lagging behind with absorption between 2014 and2018 will have improved somewhat between 2019 and 2020 (note that the latest available actual data is for 2018).

For other programmes, such as research funds, there are no per-country pre-allocations. My guiding assumption is that the country-distribution of EU spending from these specific programmes in the next MFF will be the same as the distribution of actual payments in the annual budgets from 2014 to 2018, except for some new spending priorities such as border control, for which I assume spending will be proportional to GNI.

In terms of revenues, the Juncker Commission proposed new revenue streams on the basis of a yet-to-be adopted common consolidated corporate tax base (CCCTB), the EU’s emission trading system (ETS) and a levy on non-recycled plastic waste. While the Commission presented some estimated ranges for the total EU budget revenues from these new sources, estimates for the proportion of these revenues from each country were not given. The Commission also proposed a major simplification of the value-added tax (VAT) based own resources calculation methodology. I try to stick to the calculation methods proposed by the Commission as much as possible based on publicly available information.

The Juncker Commission also proposed to reduce the share of customs duty revenues retained for ‘collection costs’ from 20 per cent to 10 per cent, which would have direct budgetary consequences for member states. This factor is not included in the OBB indicator, but I included it in my new NDB indicator. I assumed that total customs duty revenues will increase at the same rate as the increase in total imports of goods, for which I used European Commission and IMF import growth forecasts.

I also assume that there will be no customs duty revenues from EU imports from the UK, because a temporary or a permanent free trade agreement is signed or the transition period which keeps the UK in the EU’s customs union is extended.

Brexit will have an impact on the next MFF, because the UK was a large net contributor to the EU budget. However, not all UK contributions will be missing after Brexit. According to the EU-UK withdrawal agreement, the UK will contribute its share of the 31 December 2020 value of outstanding EU budget commitments and will pay liabilities related to the pensions of the employees of EU institutions. Also, ongoing EU programmes will continue to be executed in the UK after Brexit. I estimated both the UK contribution to the next MFF and EU payments in the UK during the next MFF (see the details in this blogpost).

Between 2014 and 2018, the EU annual budgets altogether collected €51.5bn in ‘other revenue’, including various fines paid to the EU and contributions from non-EU countries. It is difficult to predict such revenues, so I assume that they will remain the same as a share of GNI, implying a total of €79bn between 2021 and 2027.

The paper details all the assumptions I made.

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Zsolt Darvas

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