US embassy cable - 03FRANKFURT8839

UNCLAS SECTION 01 OF 04 FRANKFURT 008839 
 
SIPDIS 
 
STATE FOR EUR PDAS RIES, EB, EUR/AGS, AND EUR/ERA 
STATE PASS FEDERAL RESERVE BOARD 
STATE PASS NSC 
TREASURY FOR DAS SOBEL 
TREASURY ALSO FOR ICN COX, STUART 
PARIS ALSO FOR OECD 
TREASURY FOR OCC RUTLEDGE, MCMAHON 
 
E.O. 12958: N/A 
TAGS: ECON, EFIN, EUN 
SUBJECT: Economic Europe:  A Year of Redefinition? Or a 
Dangerous Cocktail? 
 
T-IA-F-03-0055 
 
This cable is sensitive but unclassified.  Not/not for 
Internet distribution. 
 
1. (SBU)  Introduction and Summary:  In his book "Struggle 
for Europe," Yale University historian (and foreign service 
brat) William Hitchcock describes not wars that have swept 
through Europe but trials and tribulations of peacetime in 
post WWII Europe.  As the title suggests, peace does not 
mean tranquility.  One mechanism for securing cooperation 
among European countries has been economic agreements:  The 
European Steel and Coal Agreement, Customs Union, Internal 
Market, and, most recently, European Monetary Union.  These 
have been defining moments in the struggle for a cohesive 
economic Europe. 
 
2. (SBU)  Among the economic developments discussed at the 
EU economic officers conference this fall that we will be 
tracking in 2004 are other potentially redefining events: 
the accession of 10 new member states, signature of a 
Constitutional Treaty for Europe, a new regulatory 
infrastructure for financial services, structural reforms at 
the national level, and negotiations on the EU budget. 
Accentuating these developments will be changes in 
leadership in the European Parliament and European 
Commission in the fall of 2004 and the European Central Bank 
(ECB) in 2003. 
 
3. (SBU)  It may not be too much of a stretch of the 
imagination to think that 2003-2004 could be one of those 
periods of struggle from which emerges a re-defined economic 
Europe.  Then again, it could be just another struggle, and 
a nasty one at that.  US interests are clearly at stake, 
particularly as EU and US firms are more exposed than ever 
before to each other's markets.  A more dynamic, resilient 
euro area economy could help create an alternative pillar 
for global growth.  That really would be a redefining 
outcome.  End Introduction and Summary. 
 
Accession Countries 
 
4. (SBU)  Acceding countries are scheduled to join the EU in 
May.  Accounting for only around 6% of the euro area's GDP, 
they are unlikely to add any noticeable bounce to the euro 
area's overall economic performance in the short-term. 
Nonetheless, they could change the quality of the EU debates 
and exert indirect pressure for change.  As transition 
economies, these countries have moved from state-controlled 
to market-oriented economic policies, generally appreciating 
the benefits of the latter.  Could this portend different 
economic policy debates at the EU level?  A German Finance 
Ministry official unguardedly wondered whether "old Europe" 
was ready for the ideas that young, well-educated economic 
reformers would bring to the table. 
 
5. (SBU)  Attracting foreign direct investment has been a 
boon to many acceding countries.  Adopting policies that 
continue to do so, such as low corporate and income taxes, 
will apply indirect pressure on current member states to 
improve their own competitive position.  Standing still will 
be a poor second best option. 
 
Constitutional Treaty 
 
6. (SBU)  On the Constitutional Treaty, the Italian plan is 
to have a signing ceremony in Rome in May.  This would be 
dubbed a "second Treaty of Rome," referring to the 1957 
Treaty of Rome that gave birth to the European Economic 
Community.  Building upon existing agreements, the draft 
Constitutional Treaty contains detailed provisions on the 
operation of the ECB and economic and fiscal policy 
coordination. 
 
7. (SBU)  As presently drafted, the Constitutional Treaty 
suggests a slight shift in power sharing on economic issues. 
The European Commission and Parliament would pick up new 
competencies.  In the area of financial services, the 
Commission stands to have its powers to adopt detailed 
implementing measures put on a firmer footing - provided 
Parliament is satisfied that it has a right to "call back" 
measures that they believe go beyond the Commission's 
authority. 
 
8. (SBU)  The draft would formalize the Euro Group, 
specifying areas where only members that have accepted the 
euro can take decisions.  It also would contain an enabling 
clause for enhanced cooperation among willing member states. 
These features are already present to some degree under 
current arrangements.  The Swedish "no" vote and the UK's 
failure to measure up to its self-imposed standards for euro 
adoption portends a higher likelihood of a multi-speed 
economic EU.  After all, member states that have adopted the 
euro will be in the minority in the enlarged EU (12 of 25). 
Perhaps the prospect of a multi-speed EU will provide 
additional incentive for acceding countries to persevere in 
their stated desire to adopt the euro as soon as possible 
after accession. 
 
Financial Services Regulatory Infrastructure 
 
9. (SBU)  Less obvious but potentially no less important 
redefining developments are the regulatory and institutional 
infrastructures being put into place in the area of 
financial services at the EU level.   New committees 
composed of member state representatives are to give policy 
advice to the Commission when it exercises its authority to 
adopt implementing measures.  Supporting those committees 
are other committees of experts - supervisors and 
technicians.  This structure already exists in the 
securities and financial conglomerates areas and should be 
partially established by the beginning of next year in 
banking and insurance. 
 
10. (SBU)  By assembling supervisors from all member states, 
giving them defined projects that will result in EU-wide 
binding legislation and a mandate to ensure consistent 
interpretation and enforcement of that legislation across 
the EU - well you can imagine what comes next - an EU 
regulator or regulatory system.  Not this year or next, but 
the foundation is being laid.  Indeed, a group of German 
bankers have called for the creation of a EU supervisory 
authority by 2013, and the French-based Eurofi has supported 
a European Securities and Exchange Commission.  There is a 
movement to have an enabling clause in the constitution to 
keep such an option open. 
 
National Structural Reforms 
 
11. (SBU)  Another quiet, but potent re-defining development 
is the structural reforms being undertaken in many member 
states.  Finally reality is catching up to the lip service 
and good intentions - encapsulated in Lisbon agenda and 
repeated annually in the Broad Economic Policy Guidelines. 
The anvil of slow growth and the hammer of stronger euro 
have forged the realization of the need for growth enhancing 
reforms. Germany, France, and Italy,  Portugal - embarked on 
path others (Netherlands, Finland, Spain, Austria) have 
traveled before. 
 
12. (SBU)  Such reforms are presented not as a question of 
scrapping the social welfare state (or, heaven forbid, 
becoming "more like us" American capitalists ).  Rather, as 
German Chancellor Schroeder shrewdly put it, "modernizing" 
the welfare state.  Economic growth, sometimes regarded as a 
matter of life style (the right to more leisure and less 
work), is no longer optional. 
 
13. (SBU)  An Independent High-Level Study Group's report to 
the European Commission asserted that "Growth must become 
Europe's number one economic priority" to help integration 
of new members and for the sustainability of the "European 
model which puts a high premium on cohesion."  The Italian 
Presidency has seized upon the issue by proposing a European 
Action for Growth.  With some tweaking by the UK, France and 
Germany, Heads of State and Government should endorse the 
initiative by year's end. 
A Different EU? 
 
14. (SBU)  In addition to these major or minor potentially 
defining developments will be other significant events in 
2003-2004.  The ECB will have a new President on November 1, 
a new European Parliament will be elected in June 2004, and 
in the fall of 2004 there will be new Commissioners and a 
reshuffling of portfolios.  Taken together, by the end of 
2004, the EU could be rather different in economic policy 
making and orientation. 
 
  Or A Dangerous Cocktail? 
 
15. (SBU)  Then again, 2003-2004 could be exhausted by 
bitter, nasty struggles and thwarted by the powerful force 
of bureaucratic inertia.  The very ingredients that could re- 
define economic Europe are also those of a "dangerous 
cocktail," in the words of a senior Commission official. 
 
16. (SBU)  The Inter-Governmental Conference charged with 
finalizing a Constitution for Europe will be composed of 
acceding countries as well as member states.  This would be, 
in the view of one observer, the "first serious test" of the 
enlarged EU's readiness to demonstrate the art of 
negotiation and compromise, putting aside national interests 
for European ones.  The Italian Presidency, Germany and 
France have cautioned against opening the draft text.  This 
smacks as a fait accompli.  Voting rights, under terms of 
the draft, would favor "charter" members, not Spain and 
Poland. 
 
17. (SBU)  By flouting the Stability and Growth Pact rules 
and the Treaty's requirements on budget deficits, France is 
suggesting that acceding countries sign on to our rules 
which apply to others, but not ourselves.  Not very 
community-like.  Fudging the SGP rules could lead to the 
same fuzzy math for the Maastricht criteria for acceding 
countries' adoption of the euro.  Not necessarily a 
comfortable turn for the euro. 
 
18. (SBU)  Dissension over the draft Constitution and 
Stability and Growth Pact disciplines could be exacerbated 
by negotiations on the EU's budget perspectives for 2007- 
2013.  The Commission plans to have a "political framework" 
agreed by the end of 2003.  It faces serious headwinds. 
Acceding countries are vying for shares of structural funds 
while current members try to hold on to as much as possible, 
either structural funds (like Portugal and Spain) or special 
rebates (like the UK). 
 
19. (SBU)  Linkages between issues  -- the constitution, the 
SGP, budget, regulatory infrastructure, and policy measures, 
are more than likely - if not direct then indirect.  Losing 
on one front could mean getting even on another.  Taken 
together, a pretty volatile mix.  (Note: While this cable is 
confined to economic issues, several commentators have 
suggested that political issues being closely watched by 
others will also determine whether the EU undergoes a 
redefining moment or loses its way from imbibing the 
dangerous cocktail.) 
 
US Interests 
 
19. (SBU)  The United States continues to have a strong 
interest in an economically strong, vibrant Europe.  In his 
"Drifting Apart or Growing Together? The Primacy of the 
Transatlantic Economy, " Joseph Quinlan arrays data to 
demonstrate that Europe and the US are more economically 
interlinked than ever before.  "The reality is that Europe, 
on account of its deep investment roots in the U.S., is far 
more exposed to U.S. economic conditions than any other 
region of the world.  A similar commitment of investment 
goes in the other direction. 58% of corporate America's 
foreign assets are in Europe with U.S. foreign affiliate 
sales in Europe accounting for more than half of their sales 
worldwide." He believes that the "common ground between the 
U.S. and Europe is still fertile for further economic 
integration." 
 
20. (SBU)  Areas in which Quinlan suggests integration could 
be undertaken include corporate governance and financial 
regulatory standards, the very areas in which EU regulatory 
infrastructure is being created and on which the US and EU 
have an informal dialogue.   Structural reforms, fiscal 
discipline, the Constitutional Treaty and entry of accession 
countries could combine to affect US interests - for better 
or for worse.  A positive outcome for both the EU and the US 
would be a more dynamic EU economy more resilient to 
economic shocks, generating more domestic demand.  This 
would help create an alternative pillar for world economic 
growth.  Now that would be a re-defining outcome for Europe 
from which the global economy could benefit. 
 
21. (U) This cable coordinated with Embassies London, 
Berlin, Rome, Paris and USEU. 
 
22. (U) POC: James Wallar, Treasury Representative, e-mail 
wallarjg2@state.gov; tel. 49-(69)-7535-2431, fax 49-(69)- 
7535-2238. 
 
BODDE