Debating Fiscal Federalism in EMU: Plus ça change...

The adoption of a single currency in Europe has introduced an asymmetry in the level of monetary and fiscal governance. The monetary instrument is given to a central supra-national authority with a view to safeguarding areawide price stability, whereas the fiscal instrument is still within the hands of individual governments. Decisions on the management of the monetary instrument are thus taken at the EMU (European Economic and Monetary Union) level, whereas the use of the fiscal instrument is decided separately at the level of the nation states. The merits of this institutional arrangement in terms of helping achieve price stability have been rigorously analysed in the literature and agreed upon among EMU policy makers. What is less obvious, and perhaps more uncertain in the future however (especially in view of further enlargement), is the role that the fiscal instrument will acquire in this asymmetric set-up. The argument put forward in the literature is that in the absence of a national monetary instrument, governments are more likely to resort to a greater than otherwise use of their fiscal instrument. What will that mean for macroeconomic stability in general and for prices more specifically? It is often quoted that excessive use of the fiscal instrument can jeopardise price stability. And the question that arises as a result is whether European countries are more likely to use their fiscal instrument now than in the past, and if they are, whether this will make the European Central Bank’s objective of price stability more difficult to attain.