ec: Nods, winks and subsidies.

ec: Nods, winks and subsidies. - As EC countries take up position in the single market, Britain is finding itself at a disadvantage due to the hand-outs given to ailing industries by governments abroad. In the first of four features, starting with the el

Last Updated: 31 Aug 2010

As EC countries take up position in the single market, Britain is finding itself at a disadvantage due to the hand-outs given to ailing industries by governments abroad. In the first of four features, starting with the electricity sector, Stephanie Cooke looks at how state aids are distorting trade in the wider marketplace.

No one ever said the run-up to the single market would be smooth but, judging from the comments of British executives, Britain has had the worst of it. Governments on the continent, such as the French, Spanish and Italian, have been handing out huge sums of taxpayers' money to ailing industries to enable them to position themselves for the wider marketplace. British companies, on the other hand, many of them only recently privatised, have had to struggle on their own. What really irks British executives though, is the fact that the apparant hand-outs have been approved by Brussels, even though these are arguably illegal. "The fact is that they (state aids) still occur on a fairly large scale and obviously they have the potential to distort a single market," says Frank Vibert, director of the European Policy Forum, a think-tank based in London.

The European Commission, acting as both rulemaker and referee, stipulates that in order for government help to be legal it has to pass the "private sector" test - meaning that private financing of the same magnitude would be possible. It is the Comission which ultimately makes the decision to allow aid, not a team of bankers or financial experts, although their advice is sometimes sought.

In virtually all of the recent major cases of alleged state aid - Air France, Compagnie des Machines Bull, Usinor Sacilor - the beneficiaries had piled up huge losses and debts, making them not just unattractive to private financiers but probably unsaleable to the private sector. By coincidence, or arguably otherwise, the biggest cases also mostly involved French companies.

British executives have been left dismayed and powerless. "There is immense concern that state aids are apparently being nodded through," said a UK Department of Transport official involved in battles with Brussels over state aids to European airlines.

As privatised British utilities push hard for a more open market in Europe - they are already positioning themselves for the day when they can compete on an equal footing in local markets - their continental rivals, with few exceptions, are resisting reform. This is partly because it would threaten their dependence on state aid and because they know they could not compete without it. Meanwhile in hotly competitive industries, such as airlines and steel, where markets are theoretically already open, state aids are allowing debt-laden industrial giants to expand well beyond their own actual means.

Michael Heseltine, president of the Board of Trade, summed up the problem in 1992, just after the EC cleared a total of FF6.6 billion (£670 million) in aid to the French computer firm Compagnie des Machines Bull. "The European competitors of Bull - including ICL - have all faced the need to respond to changes in the marketplace by radically restructuring their operations and by carrying out significant research and development. They have funded this largely out of their own resources but now face the prospect of a major competitor being financed by its government to undertake the same tasks."

Free marketeers are adamant: state aids distort the marketplace and, over the long term, weaken the very industries they are meant to strengthen.The planners of the Common Market recognised this and, with certain exceptions, declared state aids "incompatible". But, crucially, they did not rule out state ownership, thereby creating one of the greatest anomalies in the recent history of economic jurisprudence. As Oliver Letwin says in his book, Privatising the World: "If the government owns 100% of the equity and chooses either to accept reduced returns or to find some other means of artificially increasing the returns, no individual has a direct cause of complaint. There is consequently endless room for manoeuvre, and governments across the world have made good use of this."

As did Britain. But in the great 1980s sell-off subsidies were mostly flushed out - and either eliminated or properly advertised. Hence, all electricity consumers now pay an 11% "non-fossil fuel" tariff, mostly to cover the Government's past mistakes on nuclear power, while Nuclear Electric remains in public hands. For the most part, though, subsidies appear to have been greatly reduced. Britain now has the lowest level of overall state aid within the European Community, at only half the Community average, according to a recent EC report. As work on the single market got underway, competition director head Sir Leon Brittan (now external trade commissioner) moved to reduce state aids. He was prompted by the first EC state aids survey published in 1988 which revealed higher than expected levels of state aid between 1981 and 1986. Brittan appears to have had some success. Aid to manufacturing declined between 1986 and 1990 from 40.6 to 34.1 billion ecu (£27.3 to £24.3 billion). Overall state aids also declined from 2.2% of GDP in the 1986-88 period to 2.0% in 1988-90. However, the volume of overall aid, even if declining, is still massive. The EC's third survey, published last September, showed that between 1988 and 1990 member states spent on average more than 89 bilion ecu (£63 billion) annually on state aid. "The sheer volume of this amount should be a serious argument for the Commission to continue strengthening its state aid policy," the report warns.

Meanwhile, a great disparity exists between the amounts of aid received in different member states. In the manufacturing sector, which consumes 40% of all aid, and received 36 billion ecu (£25.6 billion) annually in the 1988-90 period, the report states: "A comparison of the four big economies shows that in Italy aid in per cent of value added is three times higher than in the United Kingdom, more than two times higher than in Germany and more than one-and-a-half times higher than in France. This ranking persists if aid is expressed in terms of ecu per person employed," the report says.

Likewise, the four weaker EC countries, Greece, Spain, Ireland and Portugal, give less aid per person employed than the Community average and "considerably less than most of the better-off and more central member states", the survey notes. This, more than the disparity between aid in the big economies, is what concerns the Commission most. "We are moving forward. The aid per capita to industry is going down. The main thing we are dissatisfied with is that the central regions are receiving too much aid," says Asger Petersen, the EC's director of state aids in DG4, the competition directorate in Brussels.

But Petersen may be too optimistic. As the recession deepened, more and more industries appear to have fallen back on state aids. The steel industry is a case in point. When the third survey was being prepared, state aids to the steel sector were thought to have virtually disappeared because of a major restructing. However, the industry has once again fallen on hard times and several cases of allegedly illegal aids are now being studied by the Commission. The British government's biggest worry is that the disease will spread, fanned by the Commission's apparently lenient attitude toward hardship cases and the threat of major job losses. After the approval of Bull's aid in 1992, Heseltine, who has pledged himself to achieving a level playing field throughout the EC, said, "I fear that this decision will encourage other firms to seek similar support from their governments. We cannot allow a subsidy race like this to happen."

As long as state ownership exists, the scope for subsidies remains large. Aside from overt grants and lowcost financing there are many ways that companies controlled or owned by governments can covertly obtain aid. Intrinsically profitable units within an industry can be used to cross-subsidise less profitable units through transfer payments, intra-company liabilities and artificial supply. Artificially low pricing by utilities, a cornerstone of industrial policy in many countries, serves as an indirect aid. Thus subsidies remain a vexing, pervasive feature of the European industrial landscape, difficult to prove and time-consuming to prosecute.

A system that relies on the EC to be both judge and jury is susceptible to political influence. Thus Brittan's successor, Belgian socialist Karel Van Miert, may be less keen on reforms than his predecessor. One solution is to give the decision-making to an independent body. "The Commission is somewhat of a political body and its attitude may be less than robust. We are in favour of an independent competition authority," says Vibert.

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