(Bloomberg) -- European leaders are declaring the continent’s financial crisis to be over, but now a political one is fermenting.
A battle between European Union regulators and the Polish government over its plans to weaken the judiciary’s independence is splitting eastern and western Europe in a way that the euro region erupted along a north-south fault line. As Greece returned to the bond market last week, Poland faced the threat of unprecedented EU penalties from the first-ever probe of a member’s respect for the rule of law.
The government in Warsaw is at the sharp end of a campaign to rein in errant states. Populist leaders in Poland and Hungary have been emboldened by Donald Trump’s U.S. presidency and Britain’s decision to quit the EU. Yet the continent’s center has held together. German Chancellor Angela Merkel is now joined by French President Emmanuel Macron in an active defense of Europe against those centrifugal forces. Opponents in the east face the prospect of being marginalized politically and even economically.
“There’s a realization that you have to be hands-on and proactive in defending Europe and its values and its rules,” said Viviane Reding, a European Parliament member from Luxembourg who was the EU’s justice chief from 2010 to 2014. “It’s very strong. Brexit was a real wake-up call.”
Poland and Hungary form the rebel core because of their political assault on democratic institutions, what Reding called an “authoritarian drift." Other former communist nations such as the Czech Republic, Slovakia and Romania have strayed from the mainstream by rejecting refugees or by plans to make it harder for officials to be prosecuted.
Hungarian Prime Minister Viktor Orban, who has vowed to pursue an “illiberal” state modeled on the likes of Russia and Turkey, was scolded in May by the European Parliament and faces the threat of EU lawsuits over legislation restricting foreign-funded non-governmental organizations and colleges such as George Soros’s Central European University.
Poland’s governing Law & Justice party, led by Jaroslaw Kaczynski, meanwhile, has been unpicking the country’s democratic institutions since winning power in October 2015. The European Commission said on July 19 there was excessive political influence over the legal system and the country risked the ultimate sanction of having its EU voting rights suspended.
Polish President Andrzej Duda then announced a surprise veto of parts of the overhaul, while endorsing a law that gives the justice minister sweeping influence over the lower courts and may lead to a commission lawsuit against Poland. On Saturday, the head of Duda’s cabinet rejected the idea of legal proceedings, saying the EU was on a "road to nowhere."
Scrutiny of democratic standards within the EU has moved up the bloc’s agenda steadily for 20 years as policy makers sought to tackle a discrepancy between the norms demanded of aspiring members and those enforced on existing ones.
"It will be harder and harder to ignore rule-of-law issues in the EU," said Sergio Carrera, head of the justice and home affairs program at the CEPS think tank in Brussels. “This won’t go away."
Nonetheless, encroachment into the ruling styles of freely elected governments remains touchy. The debt crisis was ultimately about making numbers add up with the threat of punitive austerity or even expulsion from the euro. The latest blight on the EU is less tangible. The bloc may refrain from going farther along the path toward shutting Poland out of decision-making, a procedure enshrined in Article 7 of the EU treaty.
Financial markets were roiled in 2015 when Greece was hit by demonstrations and locked in a standoff with its German-led creditors. Protests across Poland and the EU’s tougher talk this month have barely registered with investors. While Greece is still emerging from the worst recession since World War II, Poland’s economy has been one of the fastest growing in Europe since 2013.
The zloty posted its biggest decline since November last week, though is still one of the best-performing currencies in the world this year. It’s up 3.5 percent against the euro and 16 percent against the dollar.
A key difference is that the Polish demonstrators, unlike those in bailed-out nations such as Greece, are on the side of the EU inspectors.
“I feel the strong support of an overwhelming majority of the Polish people, who know that they are now where they belong in the heart of Europe,” said Frans Timmermans, the European Commission’s principal vice president, who is leading the 18-month-old probe of Poland. “There to be and to stay.”
Moody’s Investors Service on Monday became the latest credit-rating firm to warn about possible economic damage to Poland from the rule-of-law clash with the EU, saying the conflict could reduce investment in the country even if the bloc never reaches the stage of imposing political sanctions against Warsaw.
As Article 7 remains untouched, Germany has floated the idea of future European regional aid being tied to fundamental values. Poland, the biggest net beneficiary of the bloc’s 140 billion-euro ($164 billion) annual budget, is fiercely opposed along with Hungary.
“This would be the most effective way to influence the behavior of a government like the Polish one -- making a link with the money,” said Reding, who as EU commissioner for justice and fundamental rights in 2010-2014 clashed with Orban over the independence of the Hungarian judiciary and data-protection authority. “It’s the only thing they understand.”
The commission established the rule-of-law framework in 2014 as an extra plank to oversee national respect for fundamental values, allowing for inquiries, recommendations and dialog. Also known as the pre-Article 7 procedure, it still leaves oversight in this area much less developed than the scrutiny of national budgets.
The EU Parliament in 2015 called on the commission to create a “scoreboard” for monitoring fundamental rights in member states. When reprimanding Orban two months ago, the assembly urged governments to trigger Article 7 against Hungary, which so far has been spared even a rule-of-law investigation of the kind being applied to Poland.
Triggering Article 7 would help bolster the credibility of the EU’s institutions, said Carrera at CEPS. “The article is there, so let’s use it,” he said. “If the EU isn’t about the rule of law, democracy and fundamental rights, what is it for?”