Commission’s proposals: 1) Revising Stability and Growth Pact

2) Preventing and Correcting macroeconomic imbalances

Lecture 5

LIUC 2010

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The Stability and Growth Pact (SGP)

The SGP is a rule-based framework for the coordination of national fiscal policies in the economic and monetary union (EMU).

It was established in 1997 as an instrument to reinforce the Treaty. Revised in 2005

The Pact consists of a preventive and a dissuasive arm.

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The Pact preventive arm

MS must submit annual Stability or Convergence programmes, showing how they intend to achieve or safeguard sound fiscal positions in the medium term, taking into account the impending budgetary impact of aging population.

The Commission assesses these programmes and the Council gives its Opinion on them.

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The medium-term budgetary objective (MTO)

While the Treaty defines reference values for deficit and debt, the SGP defines specific budget target for the medium-term.

The MTO represents the budgetary position that safeguards against the risk of breaching the 3% of GDP and ensures the long-term sustainability of public finances

In the original SGP, all Member States were expected to pursue the attainment of a budgetary position close-to-balance or in surplus (CTBOIS) in the medium-term.

The reform of the SGP in 2005 clarified that MTO should be interpreted in structural terms (cyclically adj and net of one-off measures) and differentiated to take into account country specificities : public debt, potential growth, and implicit government liabilities associated with rising expenditure due to ageing populations

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Stability and convergence programmes (SCP)The SCP must contain the following information:

The MTO; the adjustment path towards the MTO and the expected path of the

debt ratio; the underlying economic assumptions; policy measures to achieve the programme objectives; an analysis of how changes in the main assumptions would affect the

budgetary and debt position; the medium-term monetary policy objectives and their relationship to

price and exchange rate stability (for non-euro-area countries only)

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Stability and convergence programmes (cont.)

The Council examines the programmes at the beginning of each year and delivers an opinion based on assessments by the Commission and the Economic and Financial Committee (EFC).

On the basis of this analysis, the Council opinion may suggest policy action to be taken by the country in question.

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The Pact dissuasive arm –

The Excessive Deficit Procedure (EDP) The EDP is established in the Treaty and specified in

the SGP legislation. The EDP is triggered by the deficit breaching the 3%

of GDP threshold of the Treaty. If it is decided that the deficit is excessive in the

meaning of the Treaty, the Council issues recommendations to the Member States concerned to correct the excessive deficit and gives a time frame for doing so.

Non compliance with the recommendations triggers further steps in the procedures, including for euro area Member States the possibility of sanctions.

Annual expenditure growth should not exceed a prudent medium-term rate of growth of GDP, unless the MTO has been attained or the excess is compensated by measures on the revenue side. The essential aim is that to prevent that revenue windfalls are spent rather than being allocated to debt reduction.

Failure to respect the agreed principle will make the concerned Member State liable to a warning from the Commission and, in case of a persistent and/or particularly serious infraction, a Council recommendation to take corrective action, on the basis of Article 121 of the Treaty.

For euro area members, such a recommendation would be backed by an enforcement mechanism in the form of an interest-bearing deposit amounting to 0.2% of GDP.

A 'reverse voting' mechanism is foreseen for the imposition of the deposit: on proposal by the Commission, the deposit would become due on the issuance of the recommendation by the Council, unless the Council within ten days decides the contrary by qualified majority. The deposit would be returned with accrued interest once the Council considers that the deviation is corrected.

SGP: the preventive arm, a new proposal

SGP: the corrective arm, a new proposal The debt criterion of the Excessive Deficit Procedure (EDP) is to be

made operational, Specifically, for countries with a debt-to-GDP ratio above 60% the ratio reduced over the previous three years at a rate of the order of one-twentieth per year. If that is not the case, the decision to place a country in excessive deficit would by no means be automatic and still take into account all relevant factors, such as whether very low nominal growth is hampering debt reduction as well as risk factors linked to the structure of debt, private sector indebtedness and implicit liabilities related to ageing.

Enforcement is strengthened by introducing a 'reverse voting' mechanism as well as a new set of financial sanctions for euro-area Member States, which would apply much earlier in the process according to a graduated approach.

A non-interest bearing deposit amounting to 0.2% of GDP would apply upon the decision of placing a country in excessive deficit. This would be converted into a fine in case of non-compliance with the initial recommendation to correct the deficit. Further non-compliance would result in an increase of the fine, in line with the already existing provisions in the SGP.

To reduce discretion in the enforcement, the procedure of 'reverse voting' mechanism is foreseen for the imposition of the new sanctions in connection with the successive steps of the EDP.

Preventing and correcting macroeconomic imbalances– The Alert Mechanism through a scoreboard– Surveillance would start with an alert mechanism that

aims at identifying Member States with potentially problematic levels of macroeconomic imbalances. The alert mechanism would consist of a scoreboard complemented by expert analysis.

– The scoreboard would be composed of a set of indicators. Possible indicators would most likely include both external (e.g. current accounts, real effective exchange rates) and internal ones (e.g. private and public sector debt).

– The composition of the scoreboard may evolve over time due to changing threats to macroeconomic stability or advances in data availability.

– Alert thresholds would be defined and announced for each indicator. The thresholds should be seen as indicative values which would guide the assessment but should not be interpreted in a mechanical way. They should be complemented by economic judgment and country-specific expertise.

The excessive imbalance procedure (EIP) applying to EU Member States

When the alert mechanism points to severe imbalances in a Member State, the Council, on a recommendation from the Commission, may adopt recommendations declaring the existence of an EIP and recommending the Member State concerned to take corrective action within a specified deadline.

On the basis of a Commission recommendation, the Council will conclude by the expiration of the initial deadline whether or not the Member State concerned has taken the recommended corrective action. Three outcomes are possible:– If the Member State concerned has taken appropriate action and the

Member State is no longer experiencing excessive imbalances, the EIP would be closed;

– If the Member State concerned has taken appropriate action, but due the possibly long lags between adoption of corrective action and its effect on the ground, imbalances are not yet corrected, the procedure will be placed in abeyance (the Member State is making satisfactory progress with corrective action). The Member State concerned would then be subject to periodic reporting and surveillance

– If the Member State concerned has taken insufficient action, the Council would issue revised recommendations, Repeated non-compliance with this second set of EIP recommendations may lead to sanctions for euro-area Member States.

Annex 1 - The Broad Economic and Policy guidelines (BEPGs)

The 1993 Treaty of Maastricht first introduced a system for coordinating the economic policies of EU Member States. ‘Member States shall regard their economic policies as a matter of common concern and shall co-ordinate them within the Council’.

The BEPGs are adopted by the Council as a reference document guiding the conduct of the whole range of economic policies in the MSs and the EU.

They take into account the particular circumstances of each Member State and the different degree of urgencies of measures.