Fiscal Discipline as a Social Norm: The European Stability Pact

A Theory of Social Custom of Which Soft Growth May Be One Consequence. Tales of the European Stability Pact

In countries where subnational governments control a large part of the public finances, the central government's ability to keep its commitment to the European Union's Stability and Growth Pact can be a difficult matter. European rules demand that the overall budget be balanced over the medium term; applying this rule at subcentral level may unduly reduce capital outlays and local budgetary autonomy. This article examines the possible impact of budgetary stability legislation on the capital expenditure of Spanish municipalities. The empirical findings suggest that the new budgetary stability framework will oblige municipalities to (i) limit their investments, (ii) raise the tax burden, or (iii) reduce the funds allocated to other budget items. We believe the Spanish municipal experience is generalizable to other federal countries in Europe that are facing hard budget constraints and high earmarked grants. Copyright 2007, Oxford University Press.

In European Monetary Union (EMU) with its decentralized fiscal policies there is a strong bias towards large chronic budget deficits. Having a common currency implies that a member country running high fiscal deficits does not have to bear the full cost of doing so. In particular, high deficits in an individual member country are unlikely to cause a rise in that country’s interest rates. If interest rates rise, they rise in the whole currency area. Thus each individual member state can shift part of the cost of its own fiscal profligacy on to other member countries. However, large chronic budget deficits and the ensuing rising debt-to-GDP ratios are harmful. They crowd out private investment and thus lower long-term economic growth. Furthermore, sooner or later they may induce governments to put pressure on the European Central Bank (ECB) to permit higher inflation in order to erode the real value of the debt. These adverse effects of national fiscal policies make it necessary to effectively limit budgetary deficits of EMU member states. They are the fundamental justification for the Stability and Growth Pact (‘Stability Pact’ for short).

Integration of the Baltic States into the EU and Institutions of Fiscal Convergence

Abstract: The article analyses potential consequences of Brexit as well as the current costs and benefits of UK’s membership in the EU, furthermore focusing on alternative agreements that may result between the members. Keywords: financial and economic integration, economical and political institutions, European Union. In 2013, David Cameron, British prime minister deliv-ered a speech on Britain and Europe. He offered the British public a referendum concerning the United Kingdom being part of the European Union [1; 4]. The “Brexit” is a very structural reform that will have a substantial impact both for the UK and the EU.The UK is one of the largest mem -bers with big contributions both in economical and political spheres of the EU.Both countries will come across the challenge of manag-ing the process of separation. Despite the fact, that there is an article that informs the process of the separation included in the Treaty of the European Union, there has been no practical experience since the EU emerged [1; 6].Secondly, it may change the ongoing cooperation of the European Union after the loss of one of its most influential states [2; 12].Last but not least, it is hard to predict the relationships of the UK and the EU after the withdrawal [3, 44].The essay is structured in the following way: first section explains what happens in the UK and its “value” for the EU. It is crucial to understand the implications of the separation to in order to have a full understanding of the situation in Europe. Hence, the first section will explain why the UK may benefit without being a member state of the EU. To keep the chronology, the second section concentrates on the procedural actions towards the withdrawal and institutional changes necessary for the separation. It will take a look on the core economical and political institutions of the EU and analyse their changes after the UK withdrawal. Third sec-tion will be focused on the post-withdrawal operations of the EU and relationships between United Kingdom and the European Union.David Cameron has announced committing a future Con-servative government to renegotiating Brittan’s relationship with the EU, to then be put to a referendum, widely expected to be around 2017 [1; 7].The Euro crisis made a crucial impact on the British pub -lics’ faith in the European Union. Stepping forward further in-tegration is not something the Britons are comfortable with. The past experience of Portugal, Italy, Greece and Spain made both the UK government and the UK citizens to understand that it will be harmful to use EURO as a currency. Therefore, we can see that the efficiency of Single Currency Area The-ory is not applicable for the United Kingdom at the current stage of development of the Euro Zone [4].The UK will also be benefiting from less migration, no EU budget payments, better opportunities with emerging markets and less regulation from the EU [2; 14]. The last argument explains the actions of Cameron towards “Brexit”. The big controversies between the UK and the union appeared dur-ing the EU summit in December 2011 [5]. David Cameron put a veto on the EU fiscal treaty 2011 for two reasons. Firstly, the UK did not want further European Integration; secondly, the following changes in Growth and Stability Pact may lead to economic downturn of the UK [6].In the Article 3 of Fiscal Compact there were made some changes in Stability and Growth Pact. The main idea of the pact is that the ratio of the general government debt to gross domestic product should be significantly below 60% in order to keep the risks of default relatively low and the structural deficit should not accumulate more than 0.5 % of nominal GDP [7]. The new fiscal treaty contained the in-formation about stricter sanctions for the countries that ac -cumulate higher level of debt. A country can be funded up to 0.1 % of GDP [6].The change of pact helps Europe to minimize the risk of a default of its member states because it does not allow the country to get heavily indebted. The changes in the fiscal treaty are made to prevent a country such as Greece getting heavily indebted [6].It is possible to look on this situation through the prism of Fiscal Fatigue theory.

The fiscal policy framework in the European Union was originally agreed upon in the Maastricht Treaty 30 years ago. In the following years it has been supplemented (Stability and Growth Pact) and modified, influenced by the experience of its application practice and external shocks, such as the financial crisis. However, the essence of this framework remained the same - member states are obliged to conduct a disciplined fiscal policy, which, in a nutshell, is assessed by comparing the ratio of budget deficit and public debt to GDP in a given country to the reference values. Even before the outbreak of the Covid-19 pandemic, the need to change the mechanisms for disciplining fiscal policy was widely recognized. High and persistent levels of public debt, pro-cyclicality of fiscal policy, shortage of public investment and the complexity of fiscal rules and their weak enforceability are indicated as unfavorable features of public finance. In 2019 the COVID-19 pandemic came as the biggest shock to the world community since World War II. In the context of the provisions on fiscal discipline, in May 2020 the Commission and the Council activated the general escape clause of Stability and Growth Pact, for the first time ever. This has allowed member states to take the necessary fiscal measures to deal with the crisis. On 19 October 2021, the European Commission adopted a Communication relaunching the public consultation, put on hold in March 2020, on the EU?s economic governance framework. The new governance framework should be tailored to the challenges the EU is facing, including the challenge of achieving a fiscal stance that is appropriate for the euro area as a whole. There is a fairly widespread belief in the need to move away from rigid reference values, which should be replaced by solutions that ensure the sustainability of public debt in the differing circumstances of member states. The proposed options for the revision of the EU fiscal framework, although justified in theory, have a fundamental flaw - they strengthen the position of supranational institutions and, moreover, open the door to discretion and potentially unequal treatment of member states. These proposals can be seen in a broader context - the federalization of the EU, which would limit the sovereignty of nation states.

The problems associated with the implementation of the Stability and Growth Pact have inspired a number of economists to suggest recommendations for improvement and reform. The purpose of this paper is to place these recommendations in the context of federal theory and in particular to establish a link between policy choices deemed to be economically sustainable and those that may be politically sustainable. To facilitate this, the paper employs recent perspectives in the rational choice and comparative politics literature on the self-sustainability of federal systems and applies these to European monetary union. The paper concludes that the economic case both for the Stability and Growth Pact in its present form and for those proposals that provide alternative means of imposing fiscal discipline on member states is fraught with problems. In particular, the economists' prescriptions conflict with the conditions necessary for maintaining political sustainability. The paper concludes that, given the problems associated with federal level fiscal rules, fiscal discipline should be reserved to the member state policy level.

In his contribution Carsten Hefeker points out that most of the official arguments concerning the necessity of the Stability and Growth Pact are not convincing. Nevertheless, a mechanism that credibly avoids excessive debts and deficits is needed in most member states. It would be more useful, however, if such rules would focus on overall debt rather than on deficits. In addition, he advocates to create an external control for such fiscal rules, independent from the Commission and ECOFIN. He concludes that the Pact does not need to become more flexible, but more credible. Friedrich Heinemann states that much of the recent reform debate on the Stability Pact is based on a fundamental misconception: The Pact has not been established as a guiding tool for welfare - maximising politicians, but in order to limit detrimental incentives from fiscal short-sightedness. “Stupid” elements like the three-per-cent deficit ceiling have a clear and beneficial strategic function as boundary within the national budgetary process. Furthermore, simple rules are superior to smart ones in increasing the political costs of high deficits in terms of public awareness. The critique on the pact′s missing flexibility is correct mainly regarding its lose logical link to long-run sustainability. Increasing flexibility in a cyclical sense, however, is not a reform priority. Already today the Pact leaves sufficient leeway for responsible politicians. Instead, the reform focus must be on depoliticising the pact in the sense of limiting Council power in the deficit procedure. More flexibility must not come without depoliticising. He recommends that any reform should only be carried into effect with a significant time lag in order to limit the reputation damage which would be the consequence of any quick institutional response to the Pact′s recent crisis. In his paper Klaus F. Zimmermann argues that the Stability and Growth Pact (SGP) has been subject to criticism ever since its inception. He points out that it overlooks business cycle developments within the framework of the consolidation process; it adopts a too short-term view of the stabilisation target which is also hardly under control of policy-makers; and it deals with policy imperfections in a sub-optimal way. Therefore, a reform of the SGP is urgent. The author suggests that the rules must be handled more flexibly. In his opinion, a mediumterm budgetary target and a focus on public expenditures to tackle the pro-cyclical bias is needed. To restore credibility, the task of supervision should be transferred to an independent European institution.

Europe's economic and monetary union is often depicted as a market-conforming institutional order. The creation of an inflation-fighting independent European Central Bank and the obligation of member governments to maintain fiscal discipline are widely cited as evidence of the European desire to maintain stability and thus placate financial markets. But the euro also has a more hidden face, which is much less liberal and more decidedly managerial. The single currency is itself the boldest expression of a nascent federal power at the European level. It represents a far-reaching delegation of competence from the member states to the institutions of the European Union. It has also enabled member states not only to create a framework for multilateral fiscal discipline – the Stability and Growth Pact – but also to collectively regain some clout vis-à-vis market actors. The question for the future is whether EU and national policy-makers will be able and willing to pursue collective priorities beyond monetary stability and the rules of the Stability Pact.

PurposeThe objective of this study is to understand the budgetary role of national legislatures in euro area (EA) countries and to analyse implications for fiscal discipline.Design/methodology/approachBuilding on the budget institutions literature, a legislative budgetary power index for all the 19 euro area (EA) countries is constructed using Organisation for Economic Co-operation and Development (OECD) and European Commission data as well as data generated from questionnaires to national authorities. A two-way fixed effects panel data model is then used to assess the effect of legislative budgetary power on the budget balance in the EA during 2006–2015.FindingsOverall, in the EA, formal legislative powers vis-à-vis the national budgetary process are weak, but there is more legislative involvement in Stability and Growth Pact (SGP) procedures, and legislative budgetary organisational capacity is generally quite good. In contrast to the traditional view in the budget institutions literature, this study’s empirical findings show that strong legislative budgetary power does not necessarily result in larger budget deficits.Research limitations/implicationsData on legislative budgeting were available from different sources, and time series data were very limited.Practical implicationsThere is scope to improve democratic legitimacy of the national budgetary process in the EA, without necessarily jeopardising fiscal discipline.Originality/valueThe constructed legislative budgetary power index covers all the 19 EA countries and has a broad scope covering various novel institutional characteristics. The empirical analysis contributes to the scarce literature on the impact of legislative budgeting on fiscal discipline.

This study applies Taylor's (2000) proposed fiscal rule to EU-15 countries. We show that such a simple, flexible and transparent fiscal rule, if applied to individual EMU countries, could improve the enforceability of the Stability and Growth Pact. This rule is used to compute the structural budget balance consistent with a total budget position in balance, given national specificities concerning automatic stabilisers and the output gap. It is thus designed for being consistent with both fiscal discipline and flexibility.

During the 15 years or so since the end of the Cold War and unification, Germany’s policy towards and within the European Union has undergone significant changes. Once the ‘Musterknabe of Europe’ (Le Gloannec, 1998, p. 21), Germany has become increasingly reluctant in supporting the progressive implementation of key projects of European integration. The most recent example is the refusal of the German government to adhere to a strict interpretation of the Stability and Growth Pact that empowers the Commission to monitor fiscal discipline. Instead of curbing government spending or accepting an infringement procedure, Germany has managed to build a blocking minority that rendered the Stability and Growth Pact ineffective. This has been a dramatic break with its former policy of imposing fiscal discipline on the members of the euro-area. While at first sight this episode may only provide anecdotal evidence for the claim that Germany’s European policy has changed substantially, it is not without precedence: for instance, since the European Council in Amsterdam in June 1997, Germany has repeatedly vetoed the introduction of majority voting to asylum and refugee policy. This has been an equally striking break with its policy of having justice and home affairs communitarized. As regards security and defence policy, Germany’s position has also changed dramatically. Whereas Germany used to be a vanguard of security and defence integration in the early 1990s, it has lagged behind in implementing the commitments agreed at the European Council in Helsinki and has thereby endangered the success of the entire project.

The recent economic-policy debate in the EU has largely focused on fiscal policy and the Stability and Growth Pact. The reason is the current budgetary problems of some member states. Portugal breached the three-per cent-of-GDP deficit ceiling in 2001 and 2002. Germany breached it in 2002, and may also do so in 2003. France and Italy have abandoned their commitments to earlier agreed budget objectives and there is a clear threat that they may violate the deficit ceiling, too. These events have contributed to a revival of the debate on the fiscal policy framework in the EU. The European Commission has recently proposed a number of changes in the Stability and Growth Pact (European Commission 2002b). There have also been calls for more fundamental revisions of the EU fiscal policy framework including proposals to scrap the Stability and Growth Pact altogether (see, for example, Financial Times 2002a, b, c; The Economist 2002; De Grauwe 2002; or Walton 2002).

How the Maastricht Criteria and the Stability and Growth Pact Affected the Convergence Process in the European Union: A Panel Data Analysis

The Stability and Growth Pact (SGP) has attracted much attention since the idea was first floated by Finance Minister Waigel late in 1995. Naturally, as highlighted in Chapters 2 and 3 above, there is not an unanimous view on the Pact: for some it is not necessary; for others the Pact is necessary but the way it was built is not satisfactory; finally, there are also those who consider that the Pact is a sinister construction which will, necessarily, lead to ever-increasing unemployment in the EU. This chapter will not focus on these issues; indeed it is our firm conviction that the full benefits of the single currency can only be harvested if fiscal discipline, which remains under the responsibility of each individual member state, is secured. The author of this chapter therefore belongs to those who consider that the Pact is a positive, if not fundamental, complement to the Maastricht Treaty (Cabral, 1997). This does not mean that the implementation of the Pact is not without problems and difficulties.