Cohesion With an Expiry Date

Setting a potential expiry date on cohesion funds would mobilise the EU to innovate and find new ways to help convergence

24 September 2019

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The background: Cohesion funding has been a point of contention for years and will reach fever pitch with the new Multiannual Financial Framework (MFF). The net contributors have expressed concerns about funding new member states, who have made considerable strides in convergence; especially since there are regions in net contributor countries which have slipped below the cohesion threshold, and their domestic governments would rather allocate funding to them than to the greater European pot. The situation is exacerbated by Brexit, which will reduce the available total for the EU budget. This emboldens Eurosceptic politicians from across the continent to question the benefits of European Union membership. What would happen if the EU reconsiders its stance and introduces a more hands-on approach to cohesion funding?

 

The Brexit crisis has amplified the funding dilemma in the EU.Regardless of promises for increased support from countries like Germany, the total budget for cohesion spending will decrease, and all the member states are forced to accept the reality on the ground.

A decrease will especially hit the V4 as cohesion spending is principally aimed at the so-called “lagging” regions (i.e., those with a GDP per capita below 75 per cent of the EU average). The national averages of the V4 countries have  already passed or are very close to passing this threshold.

At present, Hungary records some of the highest growth rates, but it is still only at 70 per cent of the EU average although some time ago it had a higher income than Poland and Slovakia. However, all of the V4, along with the majority of New Europe overall have higher growth rates than the EU average and thus can be expected to continue catching up with the Union’s average. In this sense, enlargement is viewed as a success.

By contrast, the South has witnessed a divergence from a previously superior position (over 83 per cent of the EU average in 2000 to below 70 in 2017, and thus below the current level of the V4).

The narrative behind the Structural Funds has been simple, from their inception in the 1990s. Lagging regions are held to be poorer because they do not have the appropriate infrastructure. It should thus be sufficient to build enough roads, ports, or airports to ensure that these areas can catch up to the level of the rest of the Union. The support for infrastructure has been massive. In the V4 countries, the EU has financed around one half of all public spending on infrastructure under cohesion funding.

The effectiveness of EU cohesion spending to foster growth in lagging regions was a hotly contested issue for a long time, mostly with regard to spending in the EU-15. Many regions in old member states have been receiving Structural Funds for a long period (25  and more years) but did not manage to converge as documented above. This is particularly the case in countries which have experienced an overall crisis; for example, Greece has fallen back from a GDP per capita of over 85 per cent of the EU average to about 67 today. Portugal has also fallen back.

At the present speed of convergence, most of New Europe (and all of the V4) would enter the transitional regime (between 75 and 100 per cent of the EU average) during the next MFF based on their national averages. But some of their regions as well as those in old member states seem set to continue to qualify for support.

This reversal of fortunes has brought to the EU a solemn realisation that cohesion funding can be used either for catching up or for preserving inefficient economic models. The question is: should cohesion support continue indefinitely, even when there is no evidence that it always has led to convergence.

The Commission noted that “The potential of the EU budget can only be fully unleashed if the economic, regulatory and administrative environment in the Member States is supportive. Ths is why, under the current Multiannual Financial Framework, all Member States and beneficiaries are required to show that the regulatory framework for fiancial management is robust, that the relevant EU regulation is being implemented correctly, and that the necessary administrative and institutional capacity exists to make EU funding a success.”

These are several of many factors deciding whether funding is effective or not. In fact, most of them are hard to quantify and control by the EU at a central level. However, the EU has decided that access to cohesion spending should be subject to member states following sensible macroeconomic policies and providing a supportive administrative and regulatory environment. An even more important move was to shift the responsibility for the effectiveness of spending to the local communities. The real long-term issue for cohesion spending is rather what to do with regions that despite large transfers do not catch up with the EU average.

Continued financing does not make sense in these cases. Therefore, a temporary limitation for cohesion funding has been introduced. It is based on the time it takes a region to reach 75 per cent of EU GDP per capita based on a normal convergence scenario.

So far, the experience with the new member states confirms that convergence proceeds at about 2.5 percentage point per annum (i.e. the difference between starting GDP per capita and that of the EU average is reduced each year by about 2.5 per cent). Based on this regular pattern, which has also been found to hold for the US until the 1990s, one can estimate the time it would take to reach 75 per cent of EU GDP per capita for regions, which are still below this threshold today. A country or region which stands at the beginning of the evaluation period at 70 per cent of the EU average, should need only about seven years, or one full MFF period, to reach 75 per cent. A region starting at 63 per cent today would be expected to need 14 years, or two MFF periods to reach 75 per cent.

When a region or country fails to catch up on time, the Commission commences a closer investigation of the reasons for the under-performance. It may extend the catch-up period up to 50 per cent if the cohesion funding has been properly spent or in case there exist additional factors, which could explain the under-performance and justify continued EU support. Otherwise, access to funding is first limited and then stopped.