The folly of EU structural funds illustrated

Here are a couple of illustrative examples of why the EU's structural funds so badly and desperately need reform. The list seemingly never runs dry.

First, the Sunday Telegraph had a feature on Madeira’s economy, claiming that grants from the EU structural funds – which require match funding from local governments or business – have contributed to the local Madeiran administration now owing over €6 billion, nearly double the per capita public debt of mainland Portugal. Much of the EU cash has been spent on infrastructure (not least via the Cohesion Fund, which is earmarked for that purpose) for which there is no demand. As German Chancellor Angela Merkel put it, "There are many beautiful tunnels and highways [in Madeira]. But this did not contribute to competitiveness."

Meanwhile, the European Commission and Swedish local authorities have earmarked nearly £10m to subsidise Facebook – a company currently valued at around $100bn (£63bn) – under plans to build giant server halls in Lulea in Northern Sweden. You'd be aware that Sweden is one of the richest countries in Europe.

Now, the European Commission always has two standard responses to examples like these:

• They've been taken out of context - and then gives a series of stats of how many jobs and how much growth the structural funds allegedly have created.

• It's up to the local authorities in member states to select the projects anyway, the Commission merely facilitates the cash.

But these examples are very much symptomatic of the wider problems and flaws inherent in the structural funds (SF). As we set out in our recent report on the topic:

1) Conflicting aims: are the structural funds meant to be channelled to areas where the absolute return of capital is the greatest or where they can foster the greatest convergence between poorer and richer regions (a key stated aim of the funds)? The €10mn in EU funds earmarked for Facebook - a thriving company - surely could have come from private capital. It's probably a decent investment. So in fact, the €10mn could have served to ‘crowd out’ private investment that otherwise could have take place in Lulea, while channelling funds away from poorer regions where they can have the most comparative impact. The result is the opposite of convergence.

2) Opportunity costs: Related to this, both the Facebook and the Madeira examples illustrate the huge opportunity costs that the SF involve - spending diverted from other, more
comparatively productive economic opportunities. In the Facebook case, the funds duplicate economic activities in relatively wealthy states that would have taken place anyway, and in the Madeira case, they're spent on outright damaging projects (i.e. needless infrastructure projects that run up debt).

3) Pro-cyclical and unresponsive to changing needs: The Madeira case shows that the SF tend to be pro-cyclical as they can be sucked into areas of the economy where unsustainable growth or serious leveraging is taking place, with few ways of making adjustments (this was also the case in Spain for example). Remember, the funds are negotiated on a seven year basis, and come with fixed spending criteria (with some discretion to alter spending on a yearly basis). Co-financing also makes the funds pro-cyclical. Not wanting to forgo the potential opportunities presented by taking up structural funding, governments and local authorities feel obliged to spend the money on co-financing, even if this means running up massive debts. Again, hello Madeira.

4) No link between performance and spending: the absence of strong conditionality
and performance criteria in the allocation of funds meant that Madeira continued to receive funding despite the absence of results from the billions in funding that it has received. This also means that the focus is on getting money out of the door rather than spending the cash wisely.

And this is even before we get into the irrational distribution patterns of the funds, the added administrative costs, the absence of absorption criteria, the problem with accountability (falling in between member states and the Commission) and the fact that the Commission's models for evaluating the funds are hopelessly inadequate.

Do read our report for the full picture.

This policy simply has to undergo root-and-branch reform, starting by limiting funding to the poorest countries only, where it can have the greatest comparative impact.