Two Keys to Reforming EU Financing: More Subsidiarity, More Transparency

Two keys to reforming EU financing: more subsidiarity, more transparency

Report by the Advisory Board to the Federal Ministry of Finance 01/2016

Two keys to reforming EU financing: more subsidiarity, more transparency

Report by the Advisory Board to the Federal Ministry of Finance

April 2016

Contents Page 3

Contents

Page Summary 5 1. Introduction 7 2. The current system of financing the EU budget 9 3. EU taxation rights – the legal situation 11 3.1 What are EU taxes? 11 3.2 Existing EU taxes 11 3.3 Could the EU already levy its own taxes? 12 3.4 The question of legitimacy: “No taxation without representation” or “no representation without taxation”? 13 4. Reforming the own resources system – potential benefits 16 4.1 Distribution of the financial burden among member states 16 4.2 Coordinated reform of tax regimes 20 4.3 Making the EU budget more transparent to EU citizens 22 4.3.1 The problem of pseudo-taxation 22 4.3.2 ‘Declaratory’ taxes 23 5. Conclusion 25

Members of the Advisory Board to the Federal Ministry of Finance 27 Page 4 Two keys to reforming EU financing: more subsidiarity, more transparency Page 5

Summary

Two keys to reforming EU requiring approval from all member states. However, Article 311 TFEU provides no ba- financing: more subsidiarity, sis that would give the EU such powers of more transparency taxation. Moreover, such powers are hardly justifiable on the basis of the current level of European integration. In the debate over efforts to reform the EU If one assumes that the EU’s current in- budget, repeated calls are made (a) to ensure stitutional framework is unlikely to undergo more transparent and fairer burden-sharing fundamental change for the time being, and (b) to replace the widespread juste-re- then the scope for reforming EU financing tour (“just returns”) mindset with a stronger practices is limited. Proposals that call for focus on policies that serve the interests of revenue from certain taxes to be dedicated Europe as a whole. This report argues that to the EU, but that would basically replace it is possible to make EU financing prac- only part of the revenue from GNI-based tices more transparent and, in this way, to own resources, would infringe upon mem- improve democratic control over the EU ber states’ tax sovereignty without ensur- budget. However, it is unlikely that estab- ing greater transparency. This would also lishing new sources of financing will suc- be very unlikely to reduce the juste-retour ceed in eliminating the juste-retour mindset. mentality, because the offsetting of new This mindset primarily affects EU spending own resources against GNI-based own re- and can therefore only be effectively coun- sources would immediately raise the issue teracted through reforms to the expenditure of burden-sharing among the member side of the EU budget. states. Against this background, the objec- Introducing an EU tax would mean tive of enhancing transparency would best that the EU would gain the power to enact be achieved by eliminating VAT-based own legislation on one or more taxes and to resources and expanding GNI-based own collect the revenue from these taxes. The resources. Another alternative would be to EU’s current institutional architecture does introduce a ‘declaratory’ tax, which means not provide for such powers. It is true that that the costs of the EU budget would be the EU can introduce new forms of own re- shifted mathematically to the goods and sources. However, any such decisions can be services purchased by EU citizens and dis- taken only by unanimous vote. Thus mem- played accordingly on invoices and receipts. ber states will retain their fiscal sovereignty. This would not infringe upon national pow- EU tax sovereignty would exist only if the ers of taxation and would not violate the EU were able to alter its revenues without subsidiarity principle. Page 6 Summary

EU budget funds are spent only partly on EU-wide public goods: this is a key reason why reforming the way in which the EU budget is financed may not have much of an impact on the juste-retour mindset. For this reason, the aim of enacting policies that serve the interests of Europe as a whole and that create EU-wide added value should be pursued on the expenditure side of the EU budget, not on the revenue side. However, this would mean that the member states would have to give up national competences and to allow European institutions to take independent action in areas involving EU- wide public goods, such as foreign and security policy. EU Financing Reform: More Subsidiarity, More Transparency Page 7

1. Introduction

The financing of the EU budget is currently However, the current system also has its the subject of intense debate. The present proponents. They point out that GNI-based system of own resources has garnered harsh own resources3 in particular have proved criticism from certain quarters. The Presi- to be a reliable, transparent, and well-ad- dent of the European Parliament described ministered source of funding. In their view, it as “overly complex and outdated”1. Others the fact that the member states themselves decry its lack of transparency and see it as can decide how to raise the money for their an obstacle to funding projects that deliver EU contributions is in line with the subsidi- European added value. They think the cur- arity principle and ensures that taxes are rent system encourages a juste-retour (“just collected in an effective way.4 They also ap- returns”) mindset, in which member states prove of the budgetary discipline imposed strive to ensure that the benefits they ob- by the budget cap, the prohibition of deficits tain from the EU budget are commensurate and the unanimity principle. with what they pay in, at the expense of a In its opinion on the multiannual finan- broader emphasis on EU-wide public goods cial framework for 2014-20205, the Advisory and policies that are in the interest of all of Board to the Federal Ministry of Finance Europe. According to these critical voices, essentially shares this positive assessment of what is missing is a direct link between Eu- GNI-based own resources, especially when ropean citizens and the EU budget. Another compared with VAT-based own resources, common objection is the lack of demo- whose calculation is unnecessarily compli- cratic control, particularly the fact that the cated and which are not conducive to fair European Parliament only has a right to be burden-sharing. The Advisory Board sup- heard, but no real say in the financing of the EU budget. There is also a debate about fair burden-sharing and the reduced contribu- 3 GNI-based own resources are currently the main source of funding for the EU budget. The tions paid by certain member states.2 member states pay financial contributions that are calculated as a percentage of their gross national income. The importance of GNI-based own resources is described in more detail in Section 2. 1 European Parliament press release of 25 Febru- 4 See Vilen Lipatov and Alfons Weichenrieder ary 2014 (2015), A decentralization theorem of taxation, 2 See, for example, High Level Group on Own SAFE Working Paper 105. Resources (2014), First assessment report, Brussels, 5 See Advisory Board to the Federal Ministry of 17 December 2014, and European Commission Finance (2012), Ein Haushalt für Europa: Stellung- (2011), Financing the EU budget: Report on the op- nahme zum neuen mehrjährigen Finanzrahmen der eration of the own resources system, Commission EU 2014-2020 (in German only), especially pages Staff Working Paper SEC(2011) 876 final/2, Brus- 21-22. sels, 27 October 2011. Page 8 Introduction

ports calls to simplify the rebate system by introducing lump-sum rebates. Against this background, reform efforts should focus on improving the rebate system, eliminating VAT-based own resources, and replacing them with GNI-based own resources. But should there be further-reaching reforms? As Europe’s political and economic integration progresses, it is worth think- ing about the possibility of using new own resources to finance the EU budget. These could have the advantage of being more visible and tangible to the general public as well as giving EU institutions greater autonomy and responsibility. It is certainly the case that debates and negotiations about the EU budget tend to focus less on EU-wide issues than on individual member states’ interests, which are often reduced to net balances. However, since this problem mainly becomes evident on the expenditure side of the budget, it is not clear whether reforming the own resources system would be enough to encourage member states to put greater emphasis on issues that serve the interests of Europe as a whole. The Advisory Board takes a critical view of some of the reform proposals, particularly those centring on taxes that would require revenue fluctua- tions to be continually evened out through adjustments to GNI-based own resources in order to comply with the EU budget cap. Such a solution would create the false impression that specific taxes are linked to the level of EU expenditure, which would amount to a sort of pseudo-taxation. If any- thing, it would reduce the transparency of the EU financing system. Instead, the Advisory Board advocates greater reliance on GNI-based own resources. This would strengthen the subsidiarity principle by allowing member states to decide what taxes to use to finance their contributions to the EU budget. EU Financing Reform: More Subsidiarity, More Transparency Page 9

2. The current system of financing the EU budget

At present, the EU has neither the right to Own resources are currently divided into levy taxes nor the right to take on debt. Ar- three categories (see Figure 1). First, there ticle 311 of the Treaty on the Functioning of are ‘traditional own resources’, which con- the European Union (TFEU) states: “without sist of customs duties and agricultural levies prejudice to other revenue, the budget shall such as the sugar levy. These are collected be financed wholly from own resources” by the member states, which keep a share of (Article 311, second sentence, of the TFEU). the receipts to cover the cost of collection The term ‘own resources’ suggests a certain (25% up to 2013, 20% since 2014). In 2014, degree of autonomy over revenue. In fact, revenue from this category amounted to however, own resources are primarily fi- €16.4bn, more than 12% of the EU budget. nancial contributions from the EU member The second category refers to own resources states. based on value added tax (VAT). A standard Responsibility for the own resources sys- percentage of 0.3% is levied on the harmo- tem lies not with the European Parliament, nised VAT base of each EU member state. but with the Council. Any reforms of the There are a number of special rules and own resources system must maintain the exceptions. For example, the VAT base to fiscal sovereignty of the member states: be taxed is capped at 50% of GNI for each “The Council, acting in accordance with country. With revenue of €17.7bn, VAT- a special legislative procedure, shall unani- based own resources accounted for almost mously and after consulting the European 13% of the EU’s total income in 2014. The Parliament adopt a decision laying down third category are GNI-based own resources, the provisions relating to the system of which are calculated on the basis of each own resources of the Union. In this context country’s gross national income. Here too, it may establish new categories of own re- there are special arrangements for various sources or abolish an existing category. That countries. GNI-based own resources are de- decision shall not enter into force until it is signed to close the gap between other types approved by the Member States in accord- of own resources and the total volume of ance with their respective constitutional the EU budget, which is determined by the requirements.” (Article 311 of the TFEU) multiannual financial framework. At almost €100bn (2014), GNI-based own resources ac- count for 75% of the EU’s total budget, making them by far the most significant source of funding for the European Union. Page 10 The current system of financing the EU budget

Figure 1: EU own resources, 2000–2014 (in € bn)

180 GNI-based own resources VAT-based own resources 160 Traditional own resources Own resources ceiling 140

120

100

110.2 99.1 80 98.2 88.4 73.9 74.5 91.1 37.6 82.0 70.9 70.1 34.9 69.0 60 51.2 45.9

40 35.2 31.3 19.4 19.0 17.7 16.0 17.2 14.8 14.9 14.0 20 22.4 21.3 13.9 12.8 12.5

15.3 15.0 16.6 17.3 15.7 16.8 16.5 15.4 16.4 14.6 9.2 10.9 12.3 14.1 14.5 0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Source: European Commission and own calculations

As Figure 1 shows, the share of GNI-based According to the Council Decision of 26 own resources has increased considerably in May 2014 on the system of own resources recent years. of the European Union, the existing system Despite the dominance of GNI-based will basically continue until 2020. The cur- own resources, there is no strict proportion- rent EU budget limit of 1.23% of GNI will ality between EU contributions and gross remain in place.6 national income. This is partly a result of correction mechanisms, which change the distribution of burdens among the member states. The best-known correction mecha- nism is the UK rebate. It was introduced in 1984 and has been modified several times since. Essentially, its effect is to reimburse the United Kingdom about two thirds of the difference between its contribution to the EU budget and what it receives back from it. There are also a number of other correction mechanisms that favour other countries, 6 This is the upper limit for payment appropria- including Germany. tions. Commitment appropriations are capped at 1.29% of GNI. EU Financing Reform: More Subsidiarity, More Transparency Page 11

3. EU taxation rights – the legal situation

Any discussion about EU financing reform spite the numerous VAT directives, mem- should start with a basic question: Would it ber states retain the power to legislate on be possible to give the European Union its VAT. Even though VAT plays a central role own power to tax at this time? This section in financing the EU, forming as it does the examines the possibility of EU taxes from basis of a whole category of own resources, a legal point of view, addressing two issues: this should not be confused with a constitu- Does primary Union law – in other words, tional right to collect revenue from the tax. the Treaty on European Union (TEU) and By the same token, the definition does not the Treaty on the Functioning of the Eu- cover a harmonisation of the corporate tax ropean Union (TFEU) – contain provisions base. The question of whether the EU can that would already allow the EU to levy use harmonisation as a way of forcing its its own taxes? If not, could the treaties be member states to impose a certain tax, such amended in such a way as to make this pos- as a CO2 tax or a financial transaction tax, is sible? not addressed here. The practice of specifying, in individual tax assessment notices, the amount of member state tax used to finance 3.1 What are EU taxes? the European Union does not in itself repre- For reasons of terminological clarity, this sent the introduction of an EU tax. section will begin by defining ‘own taxes of the EU’. In this study, the term is used in a narrow sense to refer to taxes for which 3.2 Existing EU taxes the European Union has both the power to Based on this narrow definition, customs enact legislation and the power to collect is an area in which the EU already has the revenue. Administrative responsibility is power to impose its own taxes. The cus- immaterial here, as it is in federal contexts. toms union, set up on the basis of Articles 28 National taxes that are based on harmo- et seqq. of the TFEU, requires joint foreign nisation cannot be described as EU taxes trade policy and thus joint customs policy. – after all, the power to enact legislation The right to enact customs legislation and on and collect revenue from such taxes re- collect customs revenue lies with the Euro- mains partly with the member states. VAT, pean Union. Apart from that, however, there for example, is largely a harmonised tax and are only a small number of minor areas in thus does not fall under the definition. De- which the EU has the right to levy its own Page 12 EU taxation rights – the legal situation

taxes. Until it was absorbed by the Euro- The real question, then, is whether a new pean Community, the European Coal and Own Resources Decision could be used to Steel Community imposed the ECSC levy on introduce such taxes as a new category of the basis of Articles 49 and 50 of the ECSC own resources. Article 311 (third paragraph, Treaty. In addition, the Communities and second sentence) states that Own Resources the Union have always taxed their own em- Decisions can establish new categories or ployees. However, this EU tax does not serve abolish existing categories of own resources. the purpose of financing the EU, but is in- Which narrows down the question even tended to balance out the exemption from further: Could this include taxes for which member state taxation that is granted to EU the EU has the power to enact legislation officials for completely unrelated reasons. and collect revenue? In principle, this would appear to be a possibility. There is no limit on the number of own resources categories. 3.3 Could the EU already The concept of own resources is, at its core, levy its own taxes? one of form rather than substance. How- ever, the fact that Own Resources Decisions As set out above, the Union’s powers to im- derive their legal legitimacy from being tied pose its own taxes are very limited. In ad- to unanimity among the member states (Ar- dition, there are strict unanimity require- ticle 311, third paragraph, third sentence of ments in financial matters, reflecting the the TFEU) in itself represents a limitation of member states’ reservations over national sorts. This is a special area of primary Union sovereignty. In the Advisory Board’s view, law, in which the member states remain the the introduction of any real EU tax would ‘masters of the treaties’. The Own Resources require a basis in primary Union legislation. Decisions that are periodically issued do not In other words, it is not possible to make change this basic principle. In other words, substantive changes to the way the EU is fi- if a real EU tax, using the narrow defini- nanced using secondary legislation alone. So tion set out above, were to be introduced the question is this: Does the current system by means of an Own Resources Decision, it of own resources, based on Article 311 of the would remain tied to the unanimity require- TFEU, offer a suitable framework? Specif- ment and would therefore not give the EU ically, could a tax-based system of own re- any real financial autonomy. On the other sources be introduced using the rules with hand, a complete shift to a system in which which Own Resources Decisions are made the EU finances itself by imposing its own (that is, if all member states agree)? There taxes without requiring the agreement of has been surprisingly little debate about this all member states would not be possible on legally controversial issue. Article 311 of the the basis of the existing treaties, as it would TFEU does not represent a general legal ba- represent a circumvention of the financing sis for the introduction of EU taxes in sec- concept explicitly set out in Article 311 of ondary law. The German Federal Constitu- the TFEU, which is the only provision in pri- tional Court too has found that the first par- mary legislation that specifically deals with agraph of Article 311 of the TFEU does not obtaining financial resources. In summary, give the EU kompetenz-kompetenz – i.e. ju- the Advisory Board believes that, although risdiction to rule on the extent of its own ju- it would be possible to implement EU taxes risdiction – when it comes to EU financing. as individual categories of own resources, member states could not use this as a way to waive their final say in matters relating to the financing of the European Union. EU Financing Reform: More Subsidiarity, More Transparency Page 13

Another relevant issue is the permis- 3.4 The question of legiti- sible level of ‘other revenue’ (other than macy: “No taxation with- own resources), a term used in the second paragraph of Article 311 of the TFEU. One out representation” or conceivable approach would be to introduce an EU tax on the basis of the EU’s compe- “no representation with- tence in a specific area or through changes out taxation”? in primary legislation, with the explicit aim of financing the EU budget. In this context, The previous section concluded that the it is fair to say that the treaties show a clear TFEU does not confer the right to introduce preference for financing the EU using own an EU tax that can be applied without the resources. Other revenue has to be based on unanimous backing of all member states. EU competence in a specific policy area to This section will focus on whether the trea- become part of the budget. As ever, this is ties could be amended in such a way as to difficult to quantify. What is clear is that the make this possible. From the point of view focus has to be on the policy goal in ques- of legitimacy, the EU’s level of integration is tion, not on obtaining revenue. such that it is still (at least partly) a depend- Under the current treaties, this does not ent entity. How does this affect the possi- apply to the introduction of EU taxes for the bility of giving the EU the right to impose purpose of reaching specific policy objec- its own taxes, in the sense defined above, by tives. An example is Article 192 (2)(a), which means of changes to primary Union law? refers to fiscal provisions in the area of envi- In its Maastricht decision and the deci- ronmental policy. The question of whether sions based on it, the German Constitutional revenue from such levies could also be used Court unpacked the EU’s dual legitimisation to finance the European Union does not structure, which is in part built on the legit- appear to have been resolved conclusively. It imacy granted by the member states. The should be borne in mind that the incentive decision was implemented authentically effect of such steering taxes could also be by means of Article 23 of the Basic Law. achieved if the member states were the ones According to this ruling, the EU’s main to collect the revenue. In any event, the pri- strand of democratic legitimacy is derived mary motivation would have to lie with the indirectly via the Council of the European specific policy in question (in the example Union, which is the EU body that holds given above, it would be environmental pol- primary legislative powers. The Council is icy). Also, the revenue obtained in this way made up of government representatives would have to remain below the upper limit who, in turn, draw their legitimacy indi- of own resources sanctioned through the rectly from the national parliaments or agreement of all member states. elected presidents who appoint and super- vise them. Based on the current level of integration in Europe, the EU’s independent democratic legitimation via the European Parliament only plays a supplementary role, albeit one that is steadily growing in importance. The own resources system (Article 311 of the TFEU in conjunction with the applicable Own Resources Decision) is in line with the Page 14 EU taxation rights – the legal situation

Union’s legitimation structure: the Own “The Union shall provide itself with the Resources Decisions, which function as pri- means necessary to attain its objectives mary Union legislation, provide a financial and carry through its policies.” framework that is limited in absolute terms. Meanwhile, on the expenditure side, the Un- The Second Senate of the Federal Con- ion is largely autonomous when it comes to stitutional Court issued the following inter- making decisions about its spending, even pretation in 1993: though the European Parliament’s budgetary authority is not equivalent to that of “The requirement that the transfer of member states’ parliaments. The amount sovereign powers – and thus parliamen- of money coming in determines the maxi- tary accountability for this transfer – be mum amount that can be spent. This results sufficiently defined by law would be [...] in an asymmetry in the EU’s finances that, violated if Article F(3) of the TEU [now while not unproblematic, mirrors the level the first paragraph of Article 311 of the of integration achieved much more accu- TFEU] formed the basis for granting kom- rately than integration policy programmes petenz-kompetenz to the European Union, ever could. In this context, the points of as an association of sovereign states. Ar- reference are the member states, not their ticle F(3) of the TEU does not empower citizens. The Union’s legislative acts do not the European Union to provide itself yet have the same degree of democratic by its own authority with the financial legitimacy as member states’ tax laws. Con- means and other resources it considers sequently, calls for an EU tax – frequently necessary for the fulfilment of its objec- heard in the integration policy debate – tives. Instead, it should merely be read as could not be met even if primary Union law a statement of intent regarding policies were amended accordingly. Given the cur- and programmes, setting out that the rent level of integration of the ‘association member states that make up the Union of states’, there is no need to impose direct aim to provide said Union with sufficient taxes on EU citizens in order to finance the resources by taking the steps necessary European Union. Rather, own resources are for this in each case. If European institu- collected directly from the member states tions were to interpret and apply Article and only indirectly from EU citizens. In the F(3) of the TEU in a way that is contrary Maastricht decision, the German Constitu- to these terms, which form part of the tional Court issued an interpretation of the German Act Approving the Treaty of Lis- ambiguously formulated first paragraph of bon, such actions would not be covered Article 311 of the TEU (previously Article by said Act and would thus not be legally F(3) and then Article 6(4) of the TEU) that is binding within Germany.” binding for Germany. The Article in question reads as follows: The treaty revisions made since 1993 have not changed this, nor did they set out to do so. The exact formulation of Article 6(4) of the TEU – which the Constitutional Treaty set out to replace and the Treaty of Lisbon succeeded in replacing – is now worded less ambiguously in the first paragraph of Article 311 of the TFEU. The basic legitimacy structure of the European Union remains unchanged. EU Financing Reform: More Subsidiarity, More Transparency Page 15

Another pro-integration school of thought is to approach the problem from the opposite direction. According to this view, the introduction of EU taxes could actually remedy democratic deficits, including those of the European Parliament. “No taxation without representation” was the rallying cry of the American Revolution. Proponents of this approach would have this slogan turned on its head, with reference to the EU, as “No representation without taxation”. However, like a constitutional state, the European Union, as a community based on the rule of law, can only move in one direction: The first step is to lay down the foundation of legitimacy. Only then can further powers be transferred. Based on the rule of law, neither a state nor a union of states can put the cart before the horse by availing itself of unlawful constellations, even as a sort of political catalyst, to fix a problem of insufficient legitimacy. Page 16 Reforming the own resources system – potential benefits

4. Reforming the own resources system – potential benefits

The previous section explained why, given 1. It would redistribute the financial burden the EU’s current institutional framework, among the member states. the European Union cannot be given com- 2. A reform of the own resources system prehensive powers to impose taxes for could bring about a coordinated reform which it can enact legislation and collect of member states’ tax systems. revenue without the unanimous consent of 3. Introducing a new tax could increase the the member states. Such taxes would require transparency of the EU budget. far-reaching institutional changes that are not currently on the agenda. As long as this remains the case, reform options are limited 4.1 Distribution of the to incorporating new or existing taxes into financial burden among the present system of own resources on the basis of a unanimous decision by the mem- member states ber states. For reasons of fairness, it might appear de- In this scenario, the Council would re- sirable to redistribute the financial bur- main responsible for making decisions on den among member states7. At the same the volume of the EU’s budget and the sys- time, however, there is potential for con- tem of own resources. The unanimity prin- flict. There are two ways of looking at the ciple would continue to apply. Given the distribution of the financial burden. One is volume of the EU’s budget and assuming the to focus solely on the revenue side of the prohibition against debt remains in place, budget and examine whether each mem- the European Union would still need finan- ber state is contributing a fair amount.8 cial contributions from its member states,

such as GNI-based own resources. Under 7 Member states can use national fiscal or social these conditions, there are three potential policy measures to balance out individual redistri- benefits to be gained from (a) introducing a bution effects if they deem this necessary. new tax as a category of own resources or (b) 8 In some cases, it is difficult to attribute taxes to individual member states. The most obvious changing existing own resources: example are customs duties, which are levied at the EU’s external borders and in major ports, such as Rotterdam. It would not make sense to see this as a financing contribution from, say, the Netherlands. After all, customs duties are collected at the external borders no matter which EU country is actually importing the goods. That is precisely what makes customs duties suitable as own resources. EU Financing Reform: More Subsidiarity, More Transparency Page 17

In this context, one possible measure of to be very systematic. For example, Bulgaria, fairness is economic strength. GNI-based the EU’s poorest member state, contributes own resources, which represent the larg- more (relative to its GNI) than Germany or est source of revenue, are directly linked to the UK. member states’ economic capacity. Figure 2 shows the financing share to GNI share ratio for each EU member state.

Figure 2: 2013 financing share to GNI share ratio

2.5

1.5

0.5

Data: European Commission

A value of 1 means that the country’s The other way of approaching the prob- share of financial contributions to the EU lem is to also look at the expenditure side of budget corresponds exactly to its share of the EU budget. The focus here is on member the EU’s GNI. A value less than 1 means that states’ net balances, which are shown in the country contributes less than it would Figure 3.9 This approach presents a very dif- based on its share of the EU’s GNI, and vice ferent picture. Poorer member states receive versa. It is clear that the distribution of the substantial transfers from the EU budget, financial burden is, in fact, roughly pro- sometimes to the tune of more than four portional to GNI. That is hardly surprising, percent of their economic output. given the EU budget’s reliance on GNI- based own resources. However, the devia- tions from a purely proportional distribu- 9 The figure is based on the methodology used in tion of the financial burden do not appear the European Commission's financial reports. The net balances exclude EU administrative expendi- tures but include the UK rebate. Page 18 Reforming the own resources system – potential benefits

Figure 3: Net balances for the 2012 EU budget (% of GNI)

-1

Data: European Commission

Detractors of the net balance approach Ultimately, greater EU involvement in these believe that it gives a distorted impression areas is in the interest of all member states. of how much member states benefit from Meanwhile, one of the biggest weak- the EU budget. They say the usefulness of nesses of the EU budget is that a large EU policies cannot be measured by the pay- part of the money is clearly not spent on ment flows to and from individual member providing EU-wide public goods, but on states. EU policies serve common interests completely different things. Expenditure and generate added value. That is a valid on agricultural subsidies takes up 40% argument to the extent that the EU’s budget of the EU budget, even though the Com- is actually used to finance EU-wide public mon Agricultural Policy does not pro- goods. If that is the case, all EU countries duce EU-wide public goods. Nor can it be benefit, albeit not to the same extent. For demonstrated convincingly that the CAP example, countries with high levels of im- serves other common European interests.10 migration will, for obvious reasons, have a stronger interest in policies aimed at 10 This criticism is voiced in numerous public overcoming migration-related problems finance studies that examine the EU budget, e.g. than other countries. Due to the Ukraine Alberto Alesina and Romain Wacziarg (1999), Is Europe going too far?, NBER Working Paper 6883; crisis, Eastern European countries are pre- André Sapir, Philippe Aghion, Guiseppe Bertola, sumably more invested in intensifying the Martin Hellwig, Jean Pisani-Ferry, Dariusz Rosati, José Viñals and Helen Wallace (2004), An agenda EU’s efforts in the area of defence policy. for a growing Europe: The Sapir report, Oxford Future crises could change the situation. University Press: Oxford; Alberto Alesina, Ignazio Angeloni and Ludger Schuknecht (2005), What EU Financing Reform: More Subsidiarity, More Transparency Page 19

The underlying reasons here are redistri- Such projects exist because member bution effects in favour of individual coun- states try to get as much EU money back tries as well as the power of special interest into their country as possible (the juste-re- groups within the member states. tour problem). From a general economic Similarly, much of the spending on EU point of view, this is not a sensible form of regional policy does not generate European redistribution, as it can ultimately result in added value, either. These are tasks that the funding of inefficient projects. It would could easily be carried out at the national be preferable for such expenditure to be re- level. For example, it is difficult to justify re- placed by open redistribution in the form of gional policy projects in rich countries such rebates or direct transfers. as Germany from the point of view of eco- However, distribution tug-of-wars are nomic cohesion. Nevertheless, the EU funds not the only reason why so many expendi- a wide range of projects in Germany. For in- ture items in the EU budget do not generate stance, it invests in drinking water reservoirs European added value. Another explanation in Brandenburg11, even though Germany is that member states are unwilling to give is in a position to organise its water supply the European Union decision-making pow- without external financial support. These ers over the provision of European public investments have no obvious cross-border goods, for example in the area of defence. implications. A similar example is funding Lacking influence over spending in these for brownfield redevelopment in Nurem- fields, European Union institutions – re- berg.12 This may well be a useful project, but grettably but understandably – try to amass due to its lack of cross-border or European powers in other areas, sometimes without relevance, there is no economic justification regard to the subsidiarity principle.14 Ac- for it to be financed from the EU budget.13 cording to this explanation, the reason why projects with European added value fail to be realised has nothing to do with the rev- does the European Union do?, Public Choice 123, pp. 275 -319; Friedrich Heinemann and Iain Begg enue side, but rather is a result of member (2006), New budget, old dilemmas. Centre for Eu- states’ fear of losing control over important ropean Reform Briefing Note, 22 February 2006, London; Friedrich Heinemann, Philipp Mohl and policy areas. If the EU were given more pow- Steffen Osterloh (2008), Reform options for the EU ers on the revenue side without correspond- own resources system. Heidelberg: Physica; ECO- ing powers on the expenditure side, there RYS, CPB and IFO (2008), A study on EU spending, Final Report, Rotterdam; Sjef Ederveen, George is the danger that the EU budget might be Gelauff and Jacques Pelkmans (2008), Assessing used to finance even more projects that fail subsidiarity, in: G. Gelauff, I. Grilo and A. Lejour (eds.), Subsidiarity and economic reform in Europe. to generate any European added value. Springer, Berlin, pp. 19-40; and Clemens Fuest, Friedrich Heinemann and Martin Ungerer (2015), 2007–13 Financial Perspective: domination of na- Reforming the financing of the EU: A proposal. tional interests, Journal of Common Market Studies ZEW Policy Brief, May 2015. 48, pp. 347-372. 11 http://ec.europa.eu/regional_policy/index. 14 Such behaviour is not rational from an eco- cfm/en/projects/germany/drinking-water-reser- nomic point of view. The European Union is already voir-gets-new- lease-of-life, downloaded on 2 May responsible for providing plenty of public goods 2015. that benefit all of Europe. For structural reasons, 12 http://ec.europa.eu/regional_policy/index.cfm/ however, the budgetary expenditure involved is en/projects/germany/a-second-chance-for-dis- very limited. Examples of such areas include Euro- used-industrial-sites, downloaded on 2 May 2015. pean environmental policy, the harmonisation of 13 With reference to these examples, cf. Fuest et legal provisions, and a common competitive frame- al. (2015, loc. cit). With reference to the role played work for the European internal market. So it is not by national interests, cf. Steffen Osterloh, Friedrich fair to measure the performance of the European Heinemann and Philipp Mohl (2009), EU budget institutions by their direct budget expenditure. Cf. reform options and the common pool problem, Stefani Weiss (ed.), (2013), The European added Public Finance and Management 9, pp. 644-685 value of EU spending: Can the EU help its member as well as Vasja Rant and Mojmir Mrak (2010), The states to save money? Exploratory study. Gütersloh, Bertelsmann-Stiftung. Page 20 Reforming the own resources system – potential benefits

In a situation where a significant share This raises the question of whether it of the EU’s spending has a redistributive makes sense to pursue both aims by means effect and does not result in any discerni- of a reform of the own resources system. ble European added value, it is not entirely After all, it would be perfectly possible to unreasonable to use net balances as an make coordinated changes to national tax indicator of the extent to which a country regimes without introducing a new tax benefits from or is burdened by EU policies. whose revenue accrues to the EU budget. This does not mean that net balances alone Conversely, however, the introduction of a are sufficient to determine whether individ- tax as a new category of own resources does ual member states are getting a good deal. require coordination. For a tax to take on For example, EU regional policy spending the function of own resources, it needs to in poorer and economically less developed be collected uniformly across the EU. Ex- member states is arguably in the interest of isting taxes for which there is no common all of Europe. Nonetheless, it is not appro- tax base – examples include income tax and priate to dismiss net balances completely as corporation tax – are hardly suitable for this a way of measuring how the costs of the EU purpose unless the necessary harmonisation budget are distributed. steps are taken. Without harmonisation, each member state has an incentive to reduce the tax base in order to have to pay 4.2 Coordinated reform of less into the EU budget. This would result tax regimes in distorted tax bases and ultimately in an unfair distribution of burdens among the A number of specific alternatives and member states. But even if the tax base and amendments to the existing own resources tax rates were harmonised, there would still system have emerged in the current debate. be unwanted national policy incentives in These include: tax administrations with a decentralised structure. While half-hearted efforts on the - A financial transaction tax (FTT) or a part of national tax administrations have financial activity tax (FAT) no effect on GNI-based own resources, they - New VAT-based own resources could lead to reduced payments to the EU in - A duty on energy the case of a separate EU tax. - The auctioning of European CO2 certif- Closer tax policy coordination would icates also impinge on the subsidiarity principle. - An aviation tax So far, subsidiarity has mainly been dis- - A European corporation tax cussed in the context of the EU’s responsi- bilities and spending. However, it is also an It is important to keep in mind that important aspect in connection with the each of these proposals has two goals. The EU’s income (High Level Group on Own first is to coordinate fiscal policies among Resources, 2014, loc. cit., p. 31). Particularly the member states.15 The second is to raise in cases where national taxes exert no fiscal money to finance the EU. externalities on other member states, national contributions are preferable to an EU tax, as they allow member states to decide 15 This study does not include a detailed discus- what taxes to use to finance the European sion of the individual proposals, as they differ sub- 16 stantially, especially in terms of tax coordination. Union. The focus of this paper is the financing of the EU budget, not the coordination of national tax systems. 16 Even where a tax does have an impact on the tax receipts of other member states, national con- EU Financing Reform: More Subsidiarity, More Transparency Page 21

Giving member states the freedom to pur- Another approach would be to deduct sue their different taxation preferences en- national financial transaction tax payments hances welfare. According to optimal tax from taxpayers’ liability for an EU financial theory, such differences can be caused by transaction tax. This would create a strong varying supply and demand elasticities in fiscal incentive for each member state to markets for goods or markets for factors of introduce its own financial transaction tax, production. Another explanation is that dif- as it would allow national tax authorities to ferent taxes encroach on privacy to different raise revenues up to the level of the EU FTT extents, and not all countries place the same without placing an additional burden on value on privacy. Finally, national tax sys- taxpayers. It is true that the European Union tems are tied to political ideas of justice that would raise little or no money, but the solu- are bound to vary from country to country, tion would do away with tax competition. which is another argument in favour of na- The EU financial transaction tax would thus tional freedom of taxation. be an instrument for the coordination of Redistributive effects across countries member states’ taxation.18 are a key factor affecting the political fea- sibility of a new tax or the harmonisation of an existing tax. In the case of the finan- 4.3 Making the EU budget cial transaction tax, for example, several more transparent to member states refused their consent, which was no doubt partly due to the associated EU citizens redistribution effects and partly because People often criticise the EU for making de- they did not think an FTT made sense re- cisions that are too removed from citizens gardless of what was done with the revenue. and taxpayers. Another common criticism As a result, the project is now being pursued is the lack of democratic control. Language under the process of enhanced cooperation, barriers, geographical distances, the com- meaning that only some member states will plexity of the EU’s decision-making pro- introduce the tax.17 However, this raises the cesses and the fact that there is not yet a problem of what contribution non-par- real ‘European public’ mean that citizens ticipating member states should make to find it difficult to inform themselves of EU the EU budget. Under the Commission’s policies. As a result, policies that favour spe- proposal, the revenue generated by the FTT cial interests can prevail more easily, gener- will be credited against the GNI-based con- ally at the expense of the common good.19 tributions of participating countries. The To counteract this, it would be desirable to hope that the ensuing discussion about the make EU policies more transparent and tan- appropriate offsetting amount will make gible to people. people forget about the juste-retour debate appears unjustified – after all, the offsetting procedure means that the fundamental sig- 18 A similar crediting system was used in the US nificance of GNI-based own resources will from 1926–2001 to avoid tax competition in the remain unchanged. area of inheritance tax. Germany currently offsets trade tax against the income tax owed by partner- ships (for different reasons). tributions can have advantages over a wholly har- 19 Cf. (inter alia) Roland Vaubel (1994), The public monised tax. Cf. Lipatov and Weichenrieder (2015, choice analysis of European integration: A survey, loc. cit.) European Journal of Political Economy 10, pp. 17 Cf. European Commission (2013), Proposal for 227-249. In principle, the problems of insufficient a Council Directive implementing enhanced coop- transparency and excessive influence of lobbying eration in financial transaction tax (COM(2013) 71 groups are not limited to the EU level. They also final), Brussels, 14 February 2013. arise at the member state level and in decentralised decision-making processes. Page 22 Reforming the own resources system – potential benefits

A reform of EU own resources could nisation would be necessary.20 An EU share help to make the EU budget – and people’s of VAT could then be displayed on every in- contributions to it – clearer and more trans- voice and receipt. This amount would then parent. This is an argument for financing be remitted to the EU as own resources. the EU budget using taxes that are easy to understand and collected in a way that is 4.3.1 The problem of pseudo- perceived by as many citizens as possible. What kind of taxes would fit the bill? taxation The financial transaction tax proposed by the European Commission would be paid The idea of increasing transparency and vis- primarily by banks, insurance companies ibility by introducing new taxes as EU own and other businesses in the financial sec- resources is not undisputed. The obvious tor. Most people would hardly notice it in question is whether it would really be worth their daily lives. This makes it unsuitable the effort to establish a new tax or restruc- for the purpose of increasing the visibility ture an existing tax with the aim of creating and transparency of EU financing. The same a category of own resources that would be applies to other potential sources of EU own more transparent to the general public. The resources, such as proceeds from the auc- link between the tax burden on EU citizens tioning of CO2 emission certificates. and EU spending would remain indirect. From the point of view of transparency, The existing EU budget cap – which, as set other kinds of taxes would be more suitable, out above, is still necessary due to the EU’s notably special excise duties such as a min- legitimation structures – would ultimately eral oil duty or electricity duty. Other pos- lead to a kind of pseudo-taxation, as the sibilities include taxes on tobacco products revenue from the new source of financing and alcohol or the introduction of a new would merely replace GNI-based own re- levy on air tickets. The problem with the lat- sources. ter in particular is that the group of taxpay- There are two ways GNI-based own ers would be significantly smaller than the resources can be adjusted to balance out group of those who benefit from EU spend- higher receipts from other types of own re- ing. Also, it should be borne in mind that all sources. In the first model, GNI-based con- the taxes listed above are partly intended to tributions are corrected at the member state encourage certain behaviours. As a result, level. If, for example, a European electricity conflicts between the incentive effect and duty were to be introduced, the associated the function as own resources could arise. payments made in Germany would be cred- Of course, this does not completely rule out ited against Germany’s GNI-based contribu- the use of such taxes. Despite the intended tion while the duties paid in France would incentive effect, an erosion of the tax bases be credited against France’s contribution. is not to be expected in the short or even Each country’s financing burden would the medium term. However, tax revenue sources of this kind could fail to keep pace 20 There are differing views on this issue, however. with general economic trends in the long For example, Cipriani (2014) even suggests accept- term. ing the unequal tax burdens that would arise from Yet another option would be a general differences in national VAT systems and not making the introduction of a new category of VAT-based value added tax. Because current rules give own resources dependent upon further harmoni- member states substantial freedom to shape sation, cf. Gabriele Cipriani (2014), Financing the EU Budget: Moving forward or backwards? CEPS, value added tax, however, further harmo- Rowman & Littlefield, London. The harmonisation effort involved is also an argument against using corporate taxes as own resources. EU Financing Reform: More Subsidiarity, More Transparency Page 23

remain unchanged. On a national level, the 4.3.2 ‘Declaratory’ taxes financing burden would shift to electricity consumers (unless other national electricity The introduction of a declaratory tax would duties were cut to compensate for the EU be an alternative to pseudo-taxation. In duty). It is obvious that this model would be the case of VAT21, for example, this would tantamount to pseudo-taxation. European mean converting EU budget contributions citizens would be led to believe that an EU into a VAT rate by dividing the sum of all tax was being introduced. However, the tax contributions, including GNI-based own would not in any way affect the economic resources, by the VAT tax base.22 The result burden arising from contributions to the EU would be a VAT rate reflecting the burden budget, as it would always be neutralised by of financing the EU budget. It would be dis- GNI-based contributions. played on invoices and receipts as the EU In the second model, GNI-based contri- share of VAT. The VAT share calculated in butions would not be reduced in each coun- this way would serve a purely declaratory try, but on an aggregate basis (as is already function; it would not be tied to any actual the case with import duties). The overall financial flows. It could be adjusted annu- effect of the new tax would be the same as ally or every few years. This solution would the declaratory effect under the first model, require no further efforts to harmonise VAT. plus a redistribution among the member There are two conceivable ways to cal- states. This redistribution would be based on culate the VAT share to be displayed on the level of the national tax base and the in- invoices and receipts. One option would cidence effects of the tax chosen. However, be to calculate it for each member state not only would this result in pseudo-taxa- individually by applying national financial tion in the same way as with the first model contributions (currently GNI-based own (after all, any additional tax revenue would resources and VAT-based own resources) to ultimately be balanced out by a reduction the VAT tax base. The result would be differ- of GNI-based contributions), it would ac- ent EU shares in different member states.23 tually decrease transparency with regard to The other alternative would be to apply the real burden. Furthermore, it would de- the financial contributions of all member couple member states’ contributions from states to the EU-wide VAT tax base, thus their GNI. Because GNI remains the most calculating an EU-wide percentage of VAT accepted measure of economic capacity, this used to finance the European Union. The would be detrimental to contribution equity while simultaneously amounting to pseudo- 21 In principle, the same approach could also be taxation. taken with other taxes, such as income tax. Moreover, for member states to agree to 22 Cf. Fuest et al. (2015, loc. cit). It has been sug- gested that invoices and receipts should display an such a change, it is likely that the rebates EU VAT share equivalent to the amount remitted to would have to be adjusted to compensate the EU specifically as a result of the sale in ques- for the redistribution. In the end, specifying tion. This, however, would invite the objection that the real financing burdens would not be reflected the share of taxes used as EU own resources accurately due to the fact that these revenues would serve as little more than a reminder would still be supplemented with GNI-based own resources. Using a purely declaratory tax would to EU citizens that some of the taxes they solve this problem by depicting the entire contribu- pay flow into the EU budget. However, spec- tion. ifying a number – for example one percent 23 The attempt to increase the transparency of of VAT – would create the illusion of a direct EU financing for EU citizens could be hampered by the fact that most people are not well informed link between the tax payment in question about differences in the way the VAT tax base is and the volume of EU spending. defined. As a result, different tax rates could lead to misinterpretations. Page 24 Reforming the own resources system – potential benefits

first option would be more informative, as it European Union. The VAT share would be would reflect taxpayers’ actual burden more an accurate reflection of a country’s contri- closely. The second would have the advan- bution to the EU budget. As such, it would tage of highlighting a European perspective increase the level of transparency. In con- by calling taxpayers’ attention to the EU trast, the second model (converting the EU budget and its volume, rather than empha- budget into an EU-wide VAT share to be dis- sising the variable distribution of financial played on invoices and receipts) would not burdens among the member states, which enhance transparency to the same degree. It would be the effect of the first option (i.e. would be closer to pseudo-taxation in that, different tax rates). far from reflecting the contribution actually Figure 4 shows what percentage of the made by each member state, a ‘standardised’ VAT tax base would be specified as the tax rate would merely show the average EU share if the current volume of the EU contribution across all member states. budget remained unchanged.

Figure 4: Declaratory EU tax in 2014 (in % of the VAT tax base)

3.00%

2.50%

2.00%

1.50%

1.00%

0.50%

0.00%

Source: Cf. Fuest et al. (2015, loc. cit).

If calculated using the first model (in Either way, the question is whether the which the national contribution is con- introduction of a declaratory tax would be verted into a country- specific VAT share worth the administrative effort involved. to be displayed on invoices and receipts), This depends on the value placed on en- declaratory taxes avoid the problem of hancing the visibility of EU financing and pseudo-taxation, where people are given the the associated increase in transparency and false impression that there is a direct link thus in democratic control. between tax payments and the cost of the EU Financing Reform: More Subsidiarity, More Transparency Page 25

5. Conclusion

In the debate over financing the EU, re- without requiring approval from all mem- peated calls are made to ensure more trans- ber states. As the legal discussion in Section parent and fairer burden-sharing and to 3 shows, Article 311 of the TFEU provides no replace the widespread juste-retour (“just basis that would give the EU such powers of returns”) mindset with a stronger focus on taxation. Moreover, such powers are hardly policies that serve the interests of Europe justifiable on the basis of the current level of as a whole. This study argues that it would European integration. be possible to make EU financing prac- If one assumes that the EU’s institutional tices more transparent and, in this way, to framework is unlikely to undergo funda- improve democratic control over the EU mental change for the time being, then the budget. However, it is unlikely that estab- scope for reforming EU financing practices lishing new sources of financing would suc- is limited. Proposals that call for revenue ceed in eliminating the juste-retour ethos. from certain taxes to be dedicated to the The juste-retour attitude primarily affects EU, but which would basically replace only EU spending and would therefore have to be part of the revenue from GNI-based own tackled through reforms to the expenditure resources, would infringe upon member side of the EU budget. states’ tax sovereignty without ensuring Introducing an EU tax would mean greater transparency. This would also be that the EU would gain the power to enact very unlikely to reduce the juste-retour legislation on one or more taxes and to mentality, because the offsetting of new collect the revenue from these taxes. The own resources against GNI-based own EU’s current institutional architecture does resources would immediately lead to dis- not provide for such powers. It is true that cussions about appropriate offsetting lev- the EU can introduce new forms of own els. Against this background, the objective resources. However, any such decisions can of enhancing transparency could best be be taken only by unanimous vote, meaning achieved by eliminating VAT-based own that member states retain their fiscal sov- resources and further increasing GNI-based ereignty. EU tax sovereignty would exist own resources. Another alternative would only if the EU were able to alter its revenues be to introduce a ‘declaratory’ tax, which Page 26 Conclusion

means that the costs of the EU budget would be shifted mathematically to the goods and services purchased by EU citizens and displayed accordingly on invoices and receipts. This would not infringe upon national powers of taxation and would not violate the subsidiarity principle. EU budget funds are spent only partly on EU-wide public goods. As a result, reforming the way in which the EU budget is financed may not have much of an impact on the juste-retour mindset. There is little merit in the plan of advancing the European idea through pseudo-taxation – in other words, the introduction of taxes whose national revenue would be offset against member states’ GNI-based contributions. This would obscure rather than clarify the real cost of the EU to citizens. Instead, more emphasis should be placed on enacting policies that serve the interests of Europe as a whole and create EU-wide added value, which hap- pens on the expenditure side of the budget. However, this would mean that the member states would have to give up national competences and allow European institutions to take independent action in areas involving EU-wide public goods, such as foreign and security policy. EU Financing Reform: More Subsidiarity, More Transparency Page 27

Members of the Advisory Board to the Federal Ministry of Finance

Prof. Thiess Büttner (Chair) Nuremberg-Erlangen Prof. Marcel Thum (Deputy Chair) Dresden Prof. Dieter Brümmerhoff Rostock Prof. Lars P. Feld Freiburg Prof. Lutz Fischer Hamburg Prof. Nicola Fuchs-Schündeln Frankfurt Prof. Clemens Fuest Mannheim Prof. Heinz Grossekettler Münster Prof. Günter Hedtkamp Munich Prof. Klaus Dirk Henke Berlin Prof. Johanna Hey Cologne Prof. Bernd Friedrich Huber Munich Prof. Wolfgang Kitterer Cologne Prof. Kai A. Konrad Prof. Jan Pieter Krahnen Frankfurt Prof. Gerold Krause Junk Hamburg Prof. Alois Oberhauser Freiburg Prof. Rolf Peffekoven Mainz Prof. Helga Pollak Göttingen Prof. Wolfram F. Richter Dortmund Prof. Nadine Riedel Bochum Prof. Jörg Rocholl Berlin Prof. Ronnie Schöb Berlin Prof. Ulrich Schreiber Mannheim Prof. Hartmut Söhn Passau Prof. Christoph Spengel Mannheim Prof. Klaus Stern Cologne Prof. Christian Waldhoff Berlin Prof. Alfons Weichenrieder Frankfurt Prof. Dietmar Wellisch Hamburg Prof. Wolfgang Wiegard Regensburg Prof. Volker Wieland Frankfurt Prof. Berthold Wigger Karlsruhe Prof. Horst Zimmermann Marburg

October 2015 Page 28

Published by Federal Ministry of Finance Public Relations Division Wilhelmstr. 97, 10117 Berlin, Germany

Publication Date April 2016

Cover images Ilja C. Hendel

Edited by Advisory Board to the Federal Ministry of Finance

Further information can be found online on: www.bundesfinanzministerium.de