04 May 2005

The Web

Life in Eurozone

James debono

Living within the strict parameters set up the growth and stability pact has been more difficult for some countries than getting in to it in the first place.
Initially Germany - with its traditional fear of inflation - wanted to make sure that no one would evade the ECB's anti-inflation policy by cutting taxes and spending as if there was no tomorrow. In so doing it had countries like Greece and Italy in mind.
The Stability and Growth Pact, drafted in 1996, states that fines will be charged to countries with excessive deficits greater than 3 per cent of GDP. If they do, they will be charged 0.2 per cent of GDP, plus 0.1 per cent of GDP for every percentage point of deficit above 3 per cent. However, countries in recession, defined as a fall by at least 2% for four fiscal quarters, may automatically be exempt.
For three years in a row, Germany and France have been stuck in a recession and have breached one of the keystones of the pact - keeping budget deficits below 3 per cent of gross domestic product.
Although the pact made allowances for countries in recession, in February 2003 The Economist warned the growth and stability pact: “deprives governments of the one power which, under a monetary union, they most need: the ability to use national fiscal policy to counteract recessions.”
In 2003 the commission recommended that Germany and France bring their deficits under control during 2004. Yet this was not to be the case. In 2005 the goal posts were once again moved to appease these two countries.
In the case of smaller countries like Greece Portugal and Ireland, the pact was applied more strictly. These smaller countries resent what they see as a case of double standards.
In March 2005 the EU finance ministers finally hammered out a deal in March 2005 that gave countries more flexibility in the application of the pact.
Nine years after it pushed the rest of the European Union into signing up to the pact, which threatened near automatic penalties against future eurozone countries running excessive budget deficits, Germany has led to victory a campaign to have its rules diluted.
The revised pact maintains the existing limits on spending: budgets deficits should be no more than 3 per cent and public debts should not exceed 60 per cent of gross domestic product. But EU finance ministers gave themselves the green light to ignore those limits, provided any breach is ‘temporary and small’.
There's a wash list of categories which politicians can now cite to break the rules. They range from costs incurred for development aid, attempts to boost employment, reform of pension systems and, perhaps most controversially, costs run up for ‘European unification.’ That is widely regarded by many as a direct concession to Germany, which had argued that the costs it's still incurring from German reunification 15 years ago should be excluded from budget deficit calculations.
Yet inspite of the new relaxed pact, Commissioner Alumnia is clearly determined to demonstrate that the new stability pact does have some teeth and Italy might prove an easy target.
Commissioner Alumnia has recently questioned the veracity of Italy's reported budget deficit for 2004, which came in at 3 per cent of GDP. Alumnia took the opportunity to launch a veiled attack on Italian Prime Minister Silvio Berlusconi's desires to abandon any semblance of fiscal restraint in a desperate bid to keep his ruling coalition in power.
According to the European Commission 's latest forecasts Italy's budget deficit will reach 3.6 per cent of GDP in 2005 and 4.6 per cent of GDP in 2006, clearly breaching the pact. In many ways, the Commission’s action against the Italian government over the coming months may provide a blueprint for its future actions against Greece and Portugal. In theory, Alumnia can initiate excessive debt proceedings against the Italian government and dispatch economic policy advisors to Italy to coerce the government to implement structural reforms that would bring the budget deficit back under 3 per cent.

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