Berlin, Brussels Almost a quarter of a century after the introduction of the Stability and Growth Pact, the European debt rules are being overhauled. Last week the EU Commission initiated an official reform process. One of the most important European institutions is now stepping up: Economists from the EU rescue fund ESM have developed a concept that provides for higher debt limits and new requirements.
The previous Maastricht rules are considered to be too complicated and out of date, because many euro countries are two times more in debt than the requirements allow. However, a reform is controversial. The northern European countries want to change as little as possible, the southern Europeans are in favor of a softening.
The staff of the European Stability Mechanism (ESM) have presented a detailed reform proposal that is intended to do justice to both sides. It is available exclusively to the Handelsblatt. The ESM economists propose to raise the upper limit for the total debt level of the euro countries from 60 to 100 percent.
“We formulate a two-pillar approach that uses a budget deficit ceiling of three percent and a reference value for the general government debt of 100 percent and includes an expenditure rule,” the paper says.
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The reform should be possible without changing the EU treaties. “We propose ways to simplify the rules, possibly without requiring treaty changes or ratifications by the national parliament,” write the ESM economists. The deficit limits specified in the Maastricht Treaty of 1992, which were anchored in the Stability and Growth Pact in 1997, are intended to limit governments’ appetite for debt and thus secure the financial stability of the euro area.
Debt limit out of reach after corona pandemic
At first glance, the Maastricht rules seem simple. The first rule is: The budget deficit of euro countries must not exceed three percent of gross domestic product (GDP). The second: the debt level must not exceed the 60 percent mark. In the meantime, however, there is an abundant network of regulations around these core requirements, which have made the rules more and more complex.
In addition, the world has developed differently than the fathers of the Stability Pact expected in the 1990s. The financial crisis, the subsequent euro crisis and the 2020 corona pandemic have pushed debt to ever new heights. The average national debt in Europe today is 100 percent. In Greece it has risen to more than 200 percent, in Italy to 156 percent and Spain to 118 percent.
As the guardian of the treaties, the EU Commission therefore had to make ever greater contortions in order to be able to certify compliance with the Maastricht criteria for the euro countries. Exceptions were introduced or medium-term consolidation targets were issued. The core problems remained: For many countries, the limit of 60 percent seems out of reach.
The so-called 1/20 rule in particular sparked controversy. It demands that states reduce their debt levels back to the Maastricht limit within twenty years. But countries like Italy and Greece could not stick to it, even if they wanted to, says Guntram Wolff, head of the Brussels think tank Bruegel. “If you tried, you would trigger such a severe recession that the debt ratio would rise.”
Because a country like Italy would have to achieve budget surpluses of six to seven percent every year. At the same time, steadily falling interest rates led to a decrease in the actual credit burden – and to a certain extent the national debt lost its horror.
For a government in the 1990s, a debt level of 100 percent meant a much greater restriction on its financial capacity than it is today. This trend is also not taken into account in the existing set of rules.
Revised rules would have to recognize the new economic reality and higher debt sustainability, write the ESM economists in their paper. “Budget discipline remains a cornerstone of monetary union. However, there are no generally applicable fiscal rules. “
New debt limit and a spending rule
The experts warn that a return of the euro countries to the debt target of 60 percent and the pace envisaged for this “could undermine the economic recovery and possibly weaken compliance with the rules”.
That is why the ESM economists want to fundamentally revise the rules. The aim of limiting the annual deficit to below three percent of GDP should remain in place. For the debt level, 100 percent will then be the reference value instead of the previous 60 percent. In addition, there should be a new spending rule: Government spending must not increase annually more than the average growth of a country. This should ensure that the debt does not get out of hand.
Member States with a debt level of less than 100 percent only have to adhere to the spending rule, according to the ESM proposal. States with more than 100 percent would also have to speed up debt reduction. The EU Commission would determine the exact path to reduce the debt, but it should roughly correspond to the previous 1/20 rule. In other words: the country should reach the limit of 100 percent in around 20 years.
The ESM economists want to allow exceptions if “serious economic circumstances or an investment gap” justify this. Countries that violate the three percent rule are, as before, threatened with an excessive deficit procedure by the EU Commission. You could have recourse to a newly created fund for budgetary stabilization “under exceptional circumstances”. Disbursements of EU funds under certain conditions could also ensure budgetary discipline.
“Budget discipline is no less important today than it was when the monetary union was introduced,” write the ESM economists. A quick agreement on new rules is therefore important. They could curb uncertainty among investors and ensure cheap public financing for the euro countries.
The head of the EU rescue fund has spoken out in favor of reforming the European debt rules. ESM employees have now developed a concept.
(Photo: AP)
The currently applicable EU debt rules will be suspended until 2023 due to the corona pandemic. If no reform is successful by then, the ESM economists believe that the rules should not be strictly applied again. This would “potentially undermine growth”.
ESM boss Klaus Regling is not the author of the paper. However, he recently called for a reform of the debt rules in an interview with Der Spiegel. “Yes, the monetary union needs fiscal rules, that is undisputed,” he said. “But they have to be adapted to the changed economic conditions.” His experts have now spelled this out. It is now up to the euro countries and the EU Commission to respond.
More: EU Commissioner Gentiloni promotes Maastricht reform: “We cannot allow growth to be stifled”