Tag Archives: budget deficit

The EU Fiscal Stability Treaty: Summary and Analysis

 UPDATE: the approved text of the Treaty on Stability, Coordination and Governance in the Economic and Monetary Union is available here

The Treaty on Stability, Coordination and Governance in the Economic and Monetary Union is expected to be discussed at the European Council meeting on 30 January 2012. I will use the last leaked draft to present a short summary of the treaty, and then analyze its content.

1.       Summary of the Fiscal Stability Treaty

The treaty covers a number of topics as follows:

Scope and Objectives

The contracting parties aim to  strengthen the economic pillar of the Economic and Monetary Union by adopting a set of rules intended to foster budgetary discipline through a fiscal compact, strengthen the coordination of economic policies, and improve the governance of the euro area.

Fiscal Compact

The overall principle is that the government budget must be balanced or in surplus. The annual structural deficit must not exceed 0.5% of GDP. In the event of significant observed deviations from this principle, a correction mechanism will be triggered automatically. The mechanism will include the obligation of the EU Member State to correct the deviations over a defined period of time.

These rules must be transposed in the national law of the participating EU Member States within one year of the entry into force of the fiscal stability treaty through provisions of “binding force and permanent character, preferably constitutional”.

When the ratio of the general government debt to GDP exceeds the 60%, the must  reduce it at an average rate of 1/20 per year as a benchmark.

The participating eurozone Member States commit to support the proposals or recommendations submitted by the European Commission where it considers that a Member State is in breach of the deficit criterion in the framework of an excessive deficit procedure.

If the European Commission concludes in its report that a participating EU Member State has failed to comply with the relevant rules in national law, the matter will be brought to the ECJ by one or more of the participating Member States. T he judgment of the ECJ will be binding on the parties in the procedure, which will have to take the necessary measures to comply with the judgment within a set period. If ECJ finds that the Contracting Party concerned has not complied with its judgment, it may impose on it a lump sum or a penalty payment appropriate in the circumstances that does not exceed 0.1% of GDP. The amounts imposed will be payable to the European Stability Mechanism.

Economic Policy, Coordination and Convergence

The participating Member States agree to take the necessary actions and measures in all the domains which are essential to the good functioning of the euro area in pursuit of the objectives of fostering competitiveness, promoting employment, contributing further to the sustainability of public finances and reinforcing financial stability. This will be done through the adoption of special provisions for the eurozone (art. 136 TFEU) and the enhanced cooperation procedure (art. 20 TEU).

Governance of the Euro Area

The Heads of State or Government of the eurozone Member States will meet informally in Euro Summit meetings, together with the President of the European Commission.

Euro Summit meetings will take place at least twice a year, to discuss the responsibilities of eurozone Member States, other issues concerning the governance of the euro area and the rules that apply to it, including strategic orientations for the conduct of economic policies and for improved competitiveness and increased convergence in the euro area. Non-eurozone Member states that participate in the fiscal stability treaty will be invited to participate at least once a year in the Euro Summit.

General and Final Provisions

The fiscal stability treaty will enter into force on 1 January 2013, provided that twelve participating eurozone Member States have deposited their instrument of ratification, or on the first day of the month following the deposit of the twelfth instrument of ratification, whichever is the earlier.

Within five years of the entry into force of the treaty, participating Member States will take the necessary steps in compliance with the provisions of TEU and TFEU, to incorporate the substance of the treaty into the legal framework of the European Union.

2.       Analysis of the provisions of the Fiscal Stability Treaty

One point must be made at the start: the fiscal stability treaty in its present form is not part of EU law. It is an instrument that is coordinated with and to large extent depending on primary EU law. This is also the main problem of the treaty.

The provisions are intentionally vague in order to avoid any conflict with the enhanced powers of the EU post-Lisbon. The only meaningful instrument is the sui generis infringement procedure in case a participating Member State has failed to apply the automated deficit correction mechanism. However, this procedure is substantially weakened by the fact that Member States, and not the European Commission, must petition the ECJ. This will happen only in extraordinary circumstances and with great unease.

In addition the provisions on economic coordination are totally bland. I fail to understand how these texts may enhance economic policy coordination – they are restating existing opportunities in EU law.

Another concern is whether the fiscal stability treaty will produce the intended effect. In a time when many are openly considering eurozone breakup we need much more substance and detail to stem the crisis. Yes, the UK government did its part in complicating the mitigation efforts, but we really need to respond to market expectations and to political realities today. Too many Europeans are already suffering from the effects of the continuing uncertainty and economic contraction.

What’s Behind the New Eurozone Fiscal Stability Union?

This European Council meeting was quite tumultuous, it appears. But we do have an outcome – a “fiscal stability union”. Below I present a preliminary critical assessment of the proposal, as well as a comment on the toxic role of the United Kingdom in the negotiations.

The “Fiscal Stability Union” in a Nutshell

The statement of eurozone leaders is scant on details. However, what we know is that:

  • The golden fiscal stability rule that annual structural deficit should not exceed 0.5% of nominal GDP will be enshrined in eurozone Member States constitutions or equivalent acts;
  • There will be an automatic correction mechanism in national legislation that shall be triggered in the event of deviation;
  • There will be common standards for the automatic correction mechanism and compliance with those standards will be monitored by the European Commission; the transposition of those standards will be subjected to the jurisdiction of the European Court of Justice;
  • Eurozone Member states will have to report their national debt issuance plans;
  • When a Member State breaches the 3% budget deficit ceiling there will be automatic consequences unless a qualified majority of Member States decides otherwise;
  • Some of those measures will be pursued by more active use of enhanced cooperation.

Urgent Measures

The eurozone leaders have also agreed on a couple of urgent measures:

  • The European Stability Mechanism (ESM) treaty will enter into force as soon as Member States representing 90 % of the capital commitments have ratified it, preferably by July 2012;
  • Ensuring a combined effective lending capacity of EUR 500 billion by the European Financial Stability Facility (EFSF) and ESM;
  • Provision of additional resources for the IMF of up to EUR 200 billion (USD 270 billion), in the form of bilateral loans;
  • Unanimity for the ESM will be replaced by a qualified majority of 85 % in case the Commission and the ECB conclude that an urgent decision related to financial assistance is needed.

Legal Analysis of Proposals

Given the objection of the United Kingdom, and possibly Hungary, the revision of EU Treaties seems impossible at the moment. That is why the eurozone leaders speak about an “international agreement” that should be signed by March 2012. This agreement will not be part of EU law (at least initially). I fail to see, though, how can the European Commission participate in the monitoring of fiscal stability in this case. Enhanced cooperation (Art. 20 TEU and art. 329 TFEU) seems more appropriate. The problem there is that only the European Commission can propose an enhanced cooperation to the Council, and the European Parliament must also approve it. This can lead to substantial delays of the procedure. That is why a two-track strategy appears more appropriate. Common standards for fiscal stability should be specified in the “international” agreement. Together with it the eurozone member States should initiate an enhanced cooperation authorization procedure. That is important, because any credible fiscal stability regime will need to transfer monitoring powers to the European Commission. This means that the drafting of rules must start now, in close cooperation with the European Commission and the European Parliament.

The Toxic Role of the United Kingdom

For some time I have been quite skeptical of UK’s role in the European integration process. There are deep divisions within the British political establishment on UK’s place in the EU. However, those internal divisions are spilling over to the EU and creating instability. The truth is that there are too many UK politicians that want the UK out of the EU, and in the European Economic Area.

I fully support the right of UK to define its own place in the integration process. With its decision to object to the new eurozone governance rules, the UK is basically signaling its determination to distance itself further from core EU countries. However, I think that the UK must not be allowed to unilaterally obstruct the further building of the European project. That is why a new political dialogue must be started among EU Member States about the possible modifications of UK’s scope of membership and responsibilities in the EU. This process must reflect the UK’s concerns, as well as the strategic objectives of the Union. What is clear is that we cannot continue to pretend that the UK is on board in support of the integration process.

Commission Recommendations on the Bulgarian Excessive Deficit

The European Commission has recommended to the Council to declare an excessive deficit for Bulgaria in 2009 equal to 3.9% of GDP. The further Commission recommends the Bulgarian authorities to bring the general government deficit below 3% of GDP in a credible and sustainable manner by 2011 at the latest.

I am not sure whether it is possible to lower the Bulgarian budget deficit below 3% in 2011. There is ample evidence that the Bulgarian government will really struggle to maintain its budget deficit in 2010 at 4.8% of GDP as proposed in the budget amendment currently reviewed by the Bulgarian Parliament. I really cannot see how this can be achieved.

Report on the Public Finances of the EU

The European Commission has published the 2010 Report on Public Finances in EMU. The report reviews how Member States’ fiscal policies have evolved in the wake of the financial and economic crisis. It assesses the prospects for public finances and policy needs ahead.

The report says that both government deficits and debt have deteriorated markedly, reaching levels unprecedented in recent times in the EU. This strong deterioration in the public finances is due to both the automatic effect of economic performance and the support measures introduced by EU governments. According to the Commission these temporary measures have had positive effects on employment and economic activity during the crisis, by supporting private demand and maintaining fundamentally sound activities and jobs that could otherwise have been lost.

The report further notes that reduced fertility and increased life expectancy are set to have a considerable impact on both the growth potential of Member States’ economies and on public budgets. Member States with large deficits and large projected costs from ageing facing the biggest risks, and the most urgency in terms of addressing long-term sustainability issues.

An alarming finding of the report is that the significant consolidation of budgets set out in the Stability and Convergence Programmes are not sufficient to stem or reverse the increases in debt from
the crisis. According to the Commission Member States should seek to shift the tax burden from labour to energy and environmental taxes as part of a “greening” of taxation systems. The report says that expenditure-based consolidations have better track records of success than ones based on tax increases, while gradual consolidations tend to have higher success rates than “cold shower” ones.

Surprise: Bulgaria Had Excessive Budget Deficit in 2009

It turns out that Bulgaria had excessive budget deficit in 2009. The Bulgarian government says it has just now discovered annexes to service and construction contracts that imply an additional financial burden of 1 billion Euro.

This means that the European Commission will have to start an excessive deficit procedure against Bulgaria.

More, it looks like Bulgaria will also have at least 7% budget deficit this year, according to the Bulgarian newspaper 168 chasa.

Greece: “No Additional Measures Needed”

The Greek finance minister has rebuked claims by the European Commission that the recently approved austerity plan may be inadequate.

Georgios Papaconstantinou said that taking additional action at this point would contravene the EU’s established processes and procedures, and it may send dangerous signals to the markets. Mr. Papaconstantinou further urged other Member States to elaborate on the specific details of how financial support might be provided to Greece.

What to Do with Greece?

The pressure is mounting on the European Union to do something about Greece’s debt and fiscal deficit problems. The word “bail-out” is heard more and more often.

Meanwhile the Greek public sector workers have gone on strike in the first major test of the government’s commitment to push through austerity plans.

But who can really “save” Greece? There are some options – a common EU approach, a unilateral bail-out by Germany, or an IMF-led bail-out. All approaches have their benefits and shortcomings.

However, I am much more interested in the conceptual debate – why did the crisis happen in the first place, and what can be done to prevent such future crises.

One of the reasons for the crisis is the poor quality of the Greek financial statistics. There is some evidence that Goldman Sachs has helped the Greek government hide (???) in 2002 an additional 1 billion US dollars in debt. I find this scandalous and unacceptable, and a proper investigation should be carried out.

But Paul Krugman goes further and says that the only way forward is fiscal and labor market integration. I agree. From a conceptual and systemic viewpoint the current arrangement of the eurozone is quite vulnerable. I also tend to know that such integration seems unthinkable in many European capitals today. Maybe the Greek experience (and the Spanish, and the Portuguese, and perhaps more) will teach us to be practical.