The current budget debate is an accounting matter: how can we increase revenue and cut spending to reduce deficits in order to comply with EU budgetary rules that limit public deficit to 3% of GDP and national debt to 60%?
These rules, which the vast majority of economists agree are meaningless, reflect the conditions in place 35 years ago when the Maastricht Treaty was negotiated. This snapshot of the state of public finances in the early 1990s became a sacred cow, and EU law decided that the world would never change again! Public action is now constrained by a self-imposed straitjacket; remember that the debt of the United States amounts to 124% of its GDP and Japan’s to 260%. This is likely to cost the EU dearly.
A budget debate should be focused on implementing a vision of future public action. It should be dynamic and economic in nature, it should take into account how the world is changing and, above all, it should be based on a comparison between the cost of action and the cost of inaction.
While the cost of action to prepare for the future is undeniably high, it is crucial not to consider this alone, as doing so risks leading to poor decision-making.
The cost of action is an immediate one. The recent Draghi report puts the figure at EUR 800 billion a year for the European Union, equivalent to 5% of its GDP, while the Finance Watch report “Europe’s coming investment crisis” puts it at EUR 1,200 billion, or 7.5% of GDP. All in all, the figures are of comparable orders of magnitude, and their size is commensurate with the scale of global upheaval we face. The key point highlighted by the Finance Watch report is that only a third of these investments can be financed by private capital. The remaining two thirds will therefore have to be financed using public money, with an additional annual cost of between 3% and 5% of EU GDP.
The cost of inaction, while deferred, is significantly greater. If the necessary investments are not made, by the time Gabriel Attal reaches the age Michel Barnier is now, the annual deficit of France’s public accounts will be at least 30% of GDP.
The reason is simple. Climate change will have a major negative impact on economic activity, and over the long term, all else being equal, government revenue will fluctuate in line with changes in GDP.
The chair of the IPCC, Jim Skea, has just given us a clear warning: global warming of 1.5°C is now out of reach, and limiting the rise to 2°C would require unrealistic global efforts. 3°C is now the most likely landing point on a global level, although warming could reach 5°C in Western Europe.
Reliable economic modelling shows a negative GDP impact of at least 30% for a 3°C rise in temperature, and some predict an impact of 50%. The impact on the public deficit will be of the same order of magnitude.
The only viable solution is immediate investment, not only in the competitiveness of the EU economy, but in essential climate adaptation and mitigation initiatives.
For example, the European Environment Agency’s projects that coastal flooding will cause damages amounting to EUR 1,000 billion per year or 6% of the European Union’s GDP. Governments of EU countries should act now to develop infrastructure that could prevent these floods, which are set to have a massive negative impact on the economy and, consequently, on public finances. This move alone would avoid an additional public deficit of 6%, equivalent to France’s current deficit, which is the cause of so many political headaches.
From the point of view of financial rationality, the choice between action and inaction is a simple function of the ratio of the cost of one, to the cost of the other. For example, according to the experts, the cost-benefit ratio of investing in climate change adaptation may be as high as 1 to 10: we invest 0.6 to avoid losing 6. This is without even taking into account the appalling human and social cost of inaction, nor the positive economic impact of action, because the 0.6 would be added to the GDP generated today.
Simple? Rationally, yes, but perhaps not politically, because two questions remain:
Do political leaders have the appetite to consider the state of the world in forty years’ time and to weigh up both the cost of action and the cost of inaction?
Do they have the vision and the courage to reform EU budgetary rules that are clearly ill-adapted to a radically disrupted ecological, economic and geopolitical environment?
A negative response to these two questions would be suicidal.
Thierry Philipponnat
This article was originally published in Le Monde, accessible here in French
