The European Semester and why it matters for the EU Green Deal

The European Semester and why it matters for the EU Green Deal A policy brief by Climate & Company, May 2021

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his policy brief describes the processes of the European Semester, which is a framework for the coordination and monitoring of economic policies between and across EU Member States, and explains why the structure of the Semester should be adjusted and strengthened to support a coordinated shift in economic policies across the EU to deliver the objectives of the European Green Deal.

Our team will continue to work on these and other important questions around how the European Semester can be meaningfully contribute to the EU Green Deal. Stay up to date by following us via this link and check out our knowledge hub for any questions regarding the EU Semester and the Green Deal. We welcome ideas, feedback and comments via EUSemester@climcom.de.

What is the European Semester?

Economies in the European Union (and even more so in the Eurozone) are highly integrated, and imbalances in one country or region can have effects on other EU Member States (MS). Hence, there is a need for closely monitoring fiscal and macro-economic developments at national level, to inform effective economic and fiscal policy coordination between EU MS. This coordination is necessary to identify, prevent or correct for excessive imbalances and deficits, ensuring the smooth functioning of the “single EU market”, where MS work together efficiently toward common goals, such as social and economic cohesion and delivering its new paradigm, the European Green Deal.

The framework for this coordination of national economic policies at EU level is called the “European Semester”, due to its semi-annual cycle. The Semester serves as a monitoring and an early warning mechanism for economic or budgetary imbalances, and based on its elaborate monitoring process, facil-

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itates national economic policy reforms and alignment across the EU. The European Council established the European Semester in 2010 as part of efforts to reform the Stability and Growth Pact after the 2009 financial and debt crisis, which highlighted the need for enhanced economic policy coordination among EU MS. The European Semester is structured into a 'preventive arm' and a 'corrective arm'. While the prior is concerned with monitoring and surveillance of the performance and stability of the MS economies, guided by a set of macro-economic indicators, the latter is about enhanced policy coordination in cases of excessive deficits or macro-economic imbalances.

The European Semester focuses on environmental sustainability, productivity, fairness and macroeconomic stability and includes four explicit policy objectives: ▷

Ensuring sound public finances (avoiding excessive government debt)

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Preventing excessive macroeconomic imbalances in the EU

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Supporting structural reforms to create more jobs and growth

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Promoting investment

How the European Semester process works The European Commission, as guardian of the EU treaties, carries out consultations with stakeholders and policy makers in MS throughout the year (supported by its European Semester Officers based in the EU representation in each MS) and (based on the analysis of its country teams) provides annual Country Reports and country specific recommen-

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Climate & Company | The European Semester and why it matters for the EU Green Deal dations (CSRs) for all MS to align their economic and social policies with EU objectives. It sets out a clear timeline for EU countries to discuss their economic and budgetary plans in the first half of the year - hence the term "semester"- and, in the second half of the year, to take into account the CSRs when drawing up national budgets for the subsequent year (see Figure 1, Annex II and Annex III).

the EU’s temporary recovery instrument. To access the funds, MS have to outline their economic reform efforts and how they intend to use money from the RRF in the so-called Recovery and Resilience Plans (RRPs). On the basis of an assessment of these plans by the Commission, the European Council will approve national plans on a case-by-case basis (see Figure 2).

Normally, the European Semester cycle consists of four phases every year (see Figure 1 and Annex III).

In 2021, however, the Semester process was temporarily adjusted to align it with the Recovery and Resilience Facility (RRF), which supports EU MS in mitigating the economic and social impact of the COVID-19 pandemic. With €672.5 billion, the RRF is the largest instrument under Next Generation EU,

The question on how European Semester has been changed during the pandemic also been discussed in a series of briefs for the European Parliament, see here, here and here. For more views on the role for the European Semester in the recovery plan, see a series of four papers commissioned by the ECON Committee of the European Parliament.

Figure 1: The adjusted European Semester Cycle (Source: European Commission 2020)

The European Semester serves as assessment framework of the RRF, meaning that several elements of the usual cycle will be integrated into the Facility. The RRPs will be checked against the CSRs issued under the Semester. The National Reform Plans will be integrated with the RRPs, and instead of the Country Reports and CSRs, MS who have submitted a plan will receive recommendations through the assessment of the plans instead.

Some elements, however, such as CSRs regarding the budgetary situation and the monitoring and assessments of macroeconomic imbalances, will follow the usual cycle (for detailed overview on what has been adjusted, see link). The Council has prepared a roadmap outlining the key steps of the 2021

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Semester. The RRPs will be at the centre of the multilateral and bilateral surveillance of the MS economic and social policies for the coming years.

Another key feature of the European Semester is the structural reform support program provided by the Commission to Member States through DG REFORM. It is a demand-driven instrument to help EU MS with designing and carrying out reforms that enhance resilience, support job creation as well as sustainable growth, primarily through the Technical Support Instrument with a budget of €0.86 billion for the 2021-2027 period. The program supports MS for example with the implementation of the CSRs made in the Semester process.

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Climate & Company | The European Semester and why it matters for the EU Green Deal

Figure 2: The EU Recovery and Resilience Facility (Source: European Commission)

What does the Semester have to do with the European Green Deal?

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Mechanisms to support EU policy cooperation in integrated economies ensuring stability and convergence, and preventing imbalances

Climate neutrality by 2050 and other sustainability challenges are a shared European responsibility.

Achieving these goals (enshrined in the EU Green Deal) requires a coordinated shift in economic policy across the EU to implement that structural reforms that break down barriers and channel public and private resources into future-proof investments.

National budgets need to reflect the European Green Deal as much as possible and abolish harmful practices such as investing in and subsidizing fossil-fuel based infrastructure. For this purpose, economic policy coordination and monitoring at EU level is crucial, as none of the Green Deal objectives can be achieved by individual member states in isolation. Additionally, as the new paradigm for development and prosperity in Europe, the Green Deal is – finally – rooted in the understanding that sustainability-related risks such as the climate crisis, human rights violations, or biodiversity loss simultaneously entail serious economic (and financial stability) risks. Thus, the European Semester needs to be geared up to move from the well-established economic policy coordination framework to an effective governance regime for delivering the Green Deal.

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Mechanisms of surveillance cover broad economic policies

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Regular monitoring and the ability to quickly respond to country specific challenges

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Reform support and policy assistance through DG REFORM in e.g. access to finance and raising private capital

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Ensuring of policy visibility and ownership at the highest level, as the European Semester brings together finance ministers from MS as well as key European policy makers

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Time for dialogue with social partners and stakeholders at different levels

The Semester (and the structural reform support program) has already several structures in place which can be adjusted and strengthened to support MS in delivering the Green Deal:

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How is the Green Deal reflected in EU economic governance today...

The European Semester, while originally conceived as an implementing mechanism for the Europe 2020 Strategy (with its economic, social and environmental objectives), was soon overtaken by the realities of the financial and economic crisis of the post-2008 years and basically reduced to an economic recovery and resilience instrument. Accordingly, it started out as a response to the weaknesses of the EU’s (and in particular the Eurozone’s) economic governance, implementing important institu-

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Climate & Company | The European Semester and why it matters for the EU Green Deal tional reforms. The 2019 edition of the Country Reports was the first to incorporate climate policy more prominently but still does not fully integrate the goals of the Green Deal. As part of the 2020 European Semester cycle, the Annual Sustainable Growth Strategy put the EU Green Deal and the concept of competitive sustainability at its focus, which communicated a paradigm shift in EU economic policy from growth-only to quality of growth and establishes environmental sustainability as one of its core dimensions, alongside stability, productivity and fairness. In addition, as part of the European Green Deal, the successor of the Europe 2020 strategy, the European Commission has committed to refocusing the European Semester by integrating the Sustainable Development Goals (SDGs), which are now incorporated as an annex to the annual Country Reports.

Furthermore, the RRF has the clear objective of being in full accordance with the Green Deal (e.g. the 37% climate target or via the technical guidance on the application of “do no significant harm” principle under the Recovery and Resilience Facility). With the Semester being the RRFs assessment framework, this connection increases the potential that the Green Deal may gain a stronger role in the Semester over the next years.

...and what needs to change?

Despite these developments, the European Semester framework is not using its full potential to address the objectives of the Green Deal. To deliver the Green Deal means closing the spending gap, leveraging private investment through public funding, and also accelerating structural reforms, such as carbon pricing, green tax reforms, and regulatory frameworks, to reach low-carbon economies. The Semester is currently poorly equipped to support the prevention of and monitor risks related to not following up on the promise of the Green Deal. Thus far, Green Deal-related elements in the European Semester process remain largely a “box-ticking” exercise, as they are only integrated in the policy-coordination part of the Semester (soft law). Most indicators are furthermore merely energy focused, missing out on important other dimensions such as climate adaptation, ecosystems, circular economy, and water. Sustainable public investment (e.g. expenditure for adaptation) or green policies (e.g. revenue from green taxes), are not being tracked in the Semester, despite data being available through other European agencies.

The CSRs have long been criticized for remaining largely “toothless”, as they lack a stringent enforce-

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ment mechanism. As mentioned above, the European Semester structure has been adjusted to support the RRF, and in this context, adequately addressing CSRs as well as a number of Green Deal related criteria have become a prerequisite for MS to receive EU funding. This fundamentally changes the role of the European Semester, and in light of the upcoming review of the underlying legislation of the Semester, this could have important implications for the Semester’s future.

Furthermore, the integration of the European Green Deal and other relevant policy regimes, such as the National Energy and Climate Plans, the EU Taxonomy or principles like the do no significant harm principle, into the European Semester remains fuzzy, a debate around how to meaningfully align different policy regimes is largely missing. Achieving the Green Deal is a long-term exercise, as it requires a deep overhaul of economic policies and structures. Yet, the European Semester is mostly short term focused through its annual cycle logic. In order to achieve the Green Deal and avoid economic risks relating to climate change and other environmental problems, the European Semester needs to increase its ability to deal with long-term challenges such as climate change.

Lastly, the tracking methodology for the climate target used for the EU budget and the RRF, is mainly based on the OECD Rio Marker System (0% - not relevant to climate action, 40% - significant contribution to climate action but objective not fundamental driver, 100% - principal contribution explicitly designed for climate action), a method that has been repeatedly criticised (not least by the European Court of Auditors) for being misleading as well as not objective and rigorous enough, among other points. However, the tracking method for the RRF climate target has recently been improved by lowering the coefficients for selected intervention areas or adding more technical details to the “100% coefficients”. Ultimately, the “high-level” incorporation of the Green Deal objectives into the European Semester needs to translate into concrete actions and processes which contribute to greening national economic policies in the long-term and manage to categorize climate-related issues as economic risks.

What is next?

Since 2020, the EU Economic Governance Review has been underway, focusing on reviewing the effectiveness of the economic surveillance framework and launching a public debate on its future. The review provides an opportunity for a public debate on

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Climate & Company | The European Semester and why it matters for the EU Green Deal the functioning of surveillance mechanisms (e.g., the Semester) and feeds into the review process of the Six Pack and Two Pack legislation. Originally scheduled for completion in June 2020, the review and public consultation process is still ongoing due to delays related to the Covid-19 crisis. It is important that this legislative momentum will be used to meaningfully align the EU economic governance with the Green Deal objectives, and does not remain a mere public consultation exercise.

The EU contains a range of mechanisms to coordinate, monitor, and evaluate progress on different kinds of actions relevant for the EU to reach its climate targets. For example, the European Semester with its focus on economic policy coordination, the European Climate Law, the Environmental Action Program and the National Energy and Climate Plans, National Long-Term Strategies, and now the RRF, are all vital to the EU’s climate governance regime. There is, however, a lack of coherence and alignment between all these mechanisms, creating uncertainties regarding how the different regimes could be mutually reinforcing and which elements

are missing. In the future, an in-depth discussion is needed on whether these regimes are fit for purpose, in what way coherence could be improved, and whether there are elements missing in the EU’s climate governments all together.

At Climate & Company, we understand the unique potential of the European Semester to integrate climate and sustainability targets and reporting requirements for all EU MS. With our ongoing project "Greening the European Semester" financed by the European Climate Foundation, we are investigating how the European Semester can develop into an effective implementation mechanism of the European Green Deal and a key instrument to achieve the EU sustainability goals.

Additional resources For more information on the topic, visit our knowledge hub on our website where we collect relevant resources and literature. For any questions or comments, do not hesitate to contact us via: EUSemester@climcom.de.

Contact us Stefanie Berendsen - Stefanie@climcom.de Oliver J. Herrmann - Oliver@climcom.de Ingmar Jürgens - Ingmar@climcom.de

Climate & Company Ahornallee 2, 12632 Berlin, Germany climateandcompany.com

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Acknowledgements We would like to thank Markus Trilling, Climate Action Network (CAN) Europe, Audrey Mathieu, Germanwatch, Louise Simon and Hanna Geschewski (both Climate & Company) for their extremely helpful comments and inputs.

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Climate & Company | The European Semester and why it matters for the EU Green Deal Annex I: Quick overview of terms and concepts Annual Sustainable Growth Strategy

ASGS

Strategic guidelines that outline the EU’s economic and employment policy priorities for a year. In 2021, it is focussed on implementing the RRF.

Do no significant harm principle

DNSH

Principle under the EU Sustainable Finance Taxonomy regulation: there are six environmental objectives to which no significant harm should be done: (i) climate change mitigation, (ii) climate change adaptation, (iii) water and marine resources, (iv) the circular economy, (v) pollution prevention and control, and (vi) biodiversity and ecosystems. For the RRF, technical guidance has been published on the application of the principle.

EU Climate law

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Aims to write into law the goal set out in the European Green Deal – for Europe’s economy and society to become climate-neutral by 2050.

European Semester

ES

An annual cycle of coordination and monitoring of the EU’s economic policies and national budgets.

Multi-annual Financial Framework

MFF

Also called the financial perspective, the MFF is a 7-year framework regulating the EU’s annual budget by setting ceilings of spending for broad policy themes.

National Reform Plan

NRP

As part of the European Semester cycle, countries report on the specific policies they are implementing, prevent or correct macroeconomic imbalances, on their concrete plans to ensure compliance with EU’s fiscal rules and with any country-specific recommendations.

National Energy and Climate Plans

NECP

EU countries needed to establish a 10-year integrated National Energy and Climate Plan for the period from 2021 to 2030 to show how they meet the 2030 energy and climate targets (within the Energy Union governance).

Next Generation EU

NGEU

The temporary instrument designed to boost the recovery from the COVID-19 pandemic, includes the recovery and Resilience Facility.

Recovery and Resilience Facility

RRF

€672.5 billion in loans and grants available to support reforms and investments undertaken by EU countries with the aim to mitigate the economic and social impact of the COVID-19 pandemic and declared objective to make economies and societies more sustainable, resilient and better prepared for the challenges and opportunities of the twin transition.

Recovery and Resilience Plan

RRP

Proposal prepared by MS outlining spending and reform plans in order to access recovery funding under the RRF.

Structural Reform

An action or process of making changes and improvements with significant impact and longlasting effects on the functioning of a market or policy, the functioning or structures of an institution or administration, or on progress to relevant policy objectives, such as growth and jobs, resilience and the climate and digital transition.

EU Taxonomy

EU law that regulates a sustainability-related classification system of financial products.

Providers of financial products and services need to use the taxonomy to report the sustainability of their portfolios. To comply with the EU Taxonomy, companies need to prove that their activities make or enable a ‘substantial contribution’ to climate mitigation or adaptation and fulfil the do-not-significant-harm principle for biodiversity, water, circular economy and pollution targets.

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Climate & Company | The European Semester and why it matters for the EU Green Deal Annex II: Who does what in the European Semester

Source: Council of the European Union. General Secretariat. European Union 2017.

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Climate & Company | The European Semester and why it matters for the EU Green Deal Annex III: Key elements of European Semester Usual cycle

Changes in 2021

Preparatory phase: Analysis of the situation and follow-up on previous year September

Sets general economic and social priorities for the Annual Sustainable Growth EU and provides MS with policy guidance for the Strategy following year

November/ December

Alert Mechanism Report

Starting point of the annual Macroeconomic Imbalances Procedure, which uses scoreboard to screen for potential economic imbalances and identifies countries in need for in-depth risk review

First phase: Policy Guidance at EU level

February

Country Reports for each Member State

Commission analysis of national economic situations and progress in implementing country-specific economic policy recommendations issued during the previous Semester cycle. For those MS where the risk of such imbalances was estimated to be high, they contain in-depth reviews of macroeconomic imbalances.

Replaced by the Commission’s assessment of RRPs (May-June 2021)

Second phase: Country-specific objectives, policies and plans Three-year budget plans by Eurozone countries outlining progress on relevant economic policies and goals

April

National Reform Programs

April

Three-year budget plans by other EU MS outlining Stability and convergence programs progress on relevant economic policies and goals

May / June

Country-specific recommendations (CSRs)

Tailored economic and policy recommendations published by the Commission and adopted by the Council on the basis of MS plans. Council of the EU discusses the proposed country-specific recommendations and agrees on their final version, European Council endorses final recommendations.

Integrated with RRPs (by end of April 2021)

None CSRs only on budgetary situation; no structural CSRs in 2021 for MS who have submitted RRP

Third phase: Implementation

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July December

None

Member states take into account the recommendations when drawing up national budgets for the following year.

None

October

Draft budgetary plans (for Eurozone countries)

Presented by the MS; Commission then assesses and publishes additional guidance on RRPs

None

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