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Chapter 4: Restoring Convergence between Member States in the EU and EMU
Box 5: Three types of fiscal capacity strengthening
short-term stabilisation
Transfer mechanisms
A transfer mechanism consists in net transfers to national budgets under specific circumstances, based on a trigger that identi-
fies when a country is entitled to access resources from the supranational fund. Payments can be set at non-frequently (‘high’) or
frequently reached (‘low’) trigger values. In the first case, the fund can be seen as a ‘stormy day’ fund, while the second is a ‘rainy
day’ fund.
In such a mechanism, the choice of a trigger mechanism and its implementation is particularly important. The output gap of an
economy (i.e. the difference between actual and potential GDP), is theoretically the best approximation of its cyclical position and
is therefore often considered as a trigger. However, it is difficult to measure and can only be definitively established a few years
later ( ). Using an output-gap based trigger can thus lead to inappropriate triggering due to revisions. Available estimates indicate
1
that using real-time estimates would significantly reduce (nearly halve) the stabilising impact, compared to actual estimates avail-
able ex-post after revisions ( ). Directly observable indicators, such as the unemployment rate, are not prone to significant revisions.
2
Furthermore, there may be significant delays in implementation, which can result in lower stabilisation impact ( ). The stabilisation
3
impact of transfer mechanisms is also most likely to be effective in so far as the corresponding funds have a strong stabilisation
impact, such as unemployment benefits (which support a population with a high propensity to consume income).
Reinsurance mechanisms
In reinsurance mechanisms, Member States pay a contribution into a supranational unemployment reinsurance scheme (‘fund’), which
pays out to the Member State’s unemployment system in cases of shocks. Setting a trigger raises the same type of concerns as with
transfer mechanisms.
As the payouts are earmarked for national UBS, a strong stabilisation impact is generally expected. As almost by definition, reinsur -
ance comes with experience rating and as long as contributions and payouts can be balanced over time, there may not be a need to
have a claw-back mechanism or to issue debt. However, the estimation of the levels of contributions needed is a serious challenge
for ‘stormy day’ funds, since it is particularly difficult to foresee significant shocks.
Beblavý et al. (2014) present simulations of a reinsurance system for the EU as a whole with payments triggered by deviations in the
short-term unemployment rate from its 10-year average. National contributions depend on the scheme’s overall holdings and the
Member State’s balance within the scheme. Simulations over the period 2000–12 show that, on the basis of a small average contribution,
the system would have provided a large degree of shock absorption (assuming a fiscal multiplier of 1.5 for unemployment benefits).
European unemployment insurance mechanisms
European unemployment insurance mechanisms operate permanently and partially pool fiscal risks of short-term unemploy -
ment changes, through a mechanism which can also be of a reinsurance type (a ‘rainy day’ fund working for all types of shocks),
potentially requiring only small changes to national systems. Such schemes could also contribute to better labour mobility.
It is generally assumed that such a supranational scheme would remain complementary to national schemes (which could keep
extending beyond the common provision according to national preferences) and focus exclusively on short-term unemployment
(leaving the task of tackling long-term unemployment to national policies). In practice, however, it is not straightforward to
determine a ‘common core’ of national unemployment benefit systems given the large differences between EU Member States ( )
4
and there is a wide range of options from basic conditions generally reached by national systems, to more stringent conditions.
This type of mechanism does not rely on a trigger (since its operation reflects changes in the number of unemployed eligible),
minimising implementation delays and thus maximising the stabilisation impact. Earmarking for unemployment benefits is gen-
erally assumed to translate into a strong stabilisation effect. Implementation risks include moral hazard linked to the possible
changes of Member States’ activation efforts or a loosening of the supervision of eligibility conditions ( ). The introduction of an
5
EMU-level scheme may be accompanied by minimum requirements in national activation efforts, while further mechanisms to
minimise moral hazard and avoid lasting transfers include experience rating and claw-back mechanisms ( ).
6
Most available studies assume a borrowing facility and provide estimates of substantial stabilisation for a reasonably sized
system (see, for example, Dullien 2013), while simulations of claw-back mechanisms (such as Dullien 2014) suggest that the
risk of lasting transfers could be limited to the cost of only a limited loss of stabilisation. Studies based on micro-simulation ( )
7
also find a significant level of stabilisation, while it is likely that experience ratings and/or claw-back mechanisms would
be needed to avoid some lasting net transfers. More analysis is however needed since there remain uncertainties notably
on the number of eligible persons due to relatively scarce EMU-wide disaggregated information on employment histories.
1
( ) See, for example, Kempkes (2012).
( ) See, for instance, Enderlein et al. (2013) and Carnot et al. (2014).
2
( ) Such delays can typically arise from the time needed to observe the trigger and the time needed to authorise the trigger mechanism to operate.
3
( ) Though in general, differences between euro-area Member States are smaller (see Esser et al. (2013)).
4
( ) See for instance Vandenbroucke and Luigjes (2014).
5
( ) As well as the variety in the way unemployment benefits are considered for the eligibility and calculation of other benefits. Such mechanisms also deal
6
with the issue of the variety of the taxation treatments of benefits, since these are then reflected in the levels of national contributions.
7
( ) See Dolls et al. (2014) and Jara and Sutherland (2014).
231
Box 5: Three types of fiscal capacity strengthening
short-term stabilisation
Transfer mechanisms
A transfer mechanism consists in net transfers to national budgets under specific circumstances, based on a trigger that identi-
fies when a country is entitled to access resources from the supranational fund. Payments can be set at non-frequently (‘high’) or
frequently reached (‘low’) trigger values. In the first case, the fund can be seen as a ‘stormy day’ fund, while the second is a ‘rainy
day’ fund.
In such a mechanism, the choice of a trigger mechanism and its implementation is particularly important. The output gap of an
economy (i.e. the difference between actual and potential GDP), is theoretically the best approximation of its cyclical position and
is therefore often considered as a trigger. However, it is difficult to measure and can only be definitively established a few years
later ( ). Using an output-gap based trigger can thus lead to inappropriate triggering due to revisions. Available estimates indicate
1
that using real-time estimates would significantly reduce (nearly halve) the stabilising impact, compared to actual estimates avail-
able ex-post after revisions ( ). Directly observable indicators, such as the unemployment rate, are not prone to significant revisions.
2
Furthermore, there may be significant delays in implementation, which can result in lower stabilisation impact ( ). The stabilisation
3
impact of transfer mechanisms is also most likely to be effective in so far as the corresponding funds have a strong stabilisation
impact, such as unemployment benefits (which support a population with a high propensity to consume income).
Reinsurance mechanisms
In reinsurance mechanisms, Member States pay a contribution into a supranational unemployment reinsurance scheme (‘fund’), which
pays out to the Member State’s unemployment system in cases of shocks. Setting a trigger raises the same type of concerns as with
transfer mechanisms.
As the payouts are earmarked for national UBS, a strong stabilisation impact is generally expected. As almost by definition, reinsur -
ance comes with experience rating and as long as contributions and payouts can be balanced over time, there may not be a need to
have a claw-back mechanism or to issue debt. However, the estimation of the levels of contributions needed is a serious challenge
for ‘stormy day’ funds, since it is particularly difficult to foresee significant shocks.
Beblavý et al. (2014) present simulations of a reinsurance system for the EU as a whole with payments triggered by deviations in the
short-term unemployment rate from its 10-year average. National contributions depend on the scheme’s overall holdings and the
Member State’s balance within the scheme. Simulations over the period 2000–12 show that, on the basis of a small average contribution,
the system would have provided a large degree of shock absorption (assuming a fiscal multiplier of 1.5 for unemployment benefits).
European unemployment insurance mechanisms
European unemployment insurance mechanisms operate permanently and partially pool fiscal risks of short-term unemploy -
ment changes, through a mechanism which can also be of a reinsurance type (a ‘rainy day’ fund working for all types of shocks),
potentially requiring only small changes to national systems. Such schemes could also contribute to better labour mobility.
It is generally assumed that such a supranational scheme would remain complementary to national schemes (which could keep
extending beyond the common provision according to national preferences) and focus exclusively on short-term unemployment
(leaving the task of tackling long-term unemployment to national policies). In practice, however, it is not straightforward to
determine a ‘common core’ of national unemployment benefit systems given the large differences between EU Member States ( )
4
and there is a wide range of options from basic conditions generally reached by national systems, to more stringent conditions.
This type of mechanism does not rely on a trigger (since its operation reflects changes in the number of unemployed eligible),
minimising implementation delays and thus maximising the stabilisation impact. Earmarking for unemployment benefits is gen-
erally assumed to translate into a strong stabilisation effect. Implementation risks include moral hazard linked to the possible
changes of Member States’ activation efforts or a loosening of the supervision of eligibility conditions ( ). The introduction of an
5
EMU-level scheme may be accompanied by minimum requirements in national activation efforts, while further mechanisms to
minimise moral hazard and avoid lasting transfers include experience rating and claw-back mechanisms ( ).
6
Most available studies assume a borrowing facility and provide estimates of substantial stabilisation for a reasonably sized
system (see, for example, Dullien 2013), while simulations of claw-back mechanisms (such as Dullien 2014) suggest that the
risk of lasting transfers could be limited to the cost of only a limited loss of stabilisation. Studies based on micro-simulation ( )
7
also find a significant level of stabilisation, while it is likely that experience ratings and/or claw-back mechanisms would
be needed to avoid some lasting net transfers. More analysis is however needed since there remain uncertainties notably
on the number of eligible persons due to relatively scarce EMU-wide disaggregated information on employment histories.
1
( ) See, for example, Kempkes (2012).
( ) See, for instance, Enderlein et al. (2013) and Carnot et al. (2014).
2
( ) Such delays can typically arise from the time needed to observe the trigger and the time needed to authorise the trigger mechanism to operate.
3
( ) Though in general, differences between euro-area Member States are smaller (see Esser et al. (2013)).
4
( ) See for instance Vandenbroucke and Luigjes (2014).
5
( ) As well as the variety in the way unemployment benefits are considered for the eligibility and calculation of other benefits. Such mechanisms also deal
6
with the issue of the variety of the taxation treatments of benefits, since these are then reflected in the levels of national contributions.
7
( ) See Dolls et al. (2014) and Jara and Sutherland (2014).
231
