2. The coordination of fiscal policy in the EU Bucharest, 10 April 2008 Elena Flores, European Commission

3. 2 INDEX OF PRESENTATION 1.Multilateral fiscal policy surveillance: overview of the architecture 2.Fiscal policy-making in the EU: evolving rules 3.How did it work? Challenges ahead

4. 3 1. Multilateral fiscal policy surveillance: overview of the architecture The rationale for sound public finances in EMU Why EMU-specific fiscal rules? The Maastricht fiscal rules The Stability and Growth Pact

5. 4 The rationale for sound public finances in EMU 1. PRICE STABILITY Support ECB monetary policy Lower interest rates - Low interest payments Longer time-horizon: more private investment 2. SMOOTHING THE CYCLE No national monetary policy need for room to let automatic stabilizers play freely 3. STRUCTURAL REFORM & SUSTAINABILITY Need for room to implement reform that have a short term cost for public finances; Cope with the impact of ageing.

6. 5 Why EMU-specific fiscal rules? EMU unprecedented historical experiment - monetary policy is centralised whilst fiscal policy is decentralised (MS) -EMU-specific fiscal rules are best seen as device to protect an independent stability-oriented common monetary policy against (possibly) destabilising opportunistic national fiscal policies

7. 6 The Maastricht fiscal rules: Treaty Member States shall avoid excessive government deficits (Treaty Article 104) –deficit below the reference value of 3% of GDP, unless it has declined substantially and continuously and reached a level close to the reference value or the excess is limited, exceptional and temporary –debt should not exceed the reference value of 60% of GDP, or should be on a decreasing trend and approach the reference value at a satisfactory pace

8. 7 The SGP (2): preventive arm Euro area Member States are obliged to annually submit stability programmes to the Commission, non-euro area Member States have to submit convergence programmes The medium-term budgetary position must ensure a safety margin against breaching the 3% limit The Council gives an early warning in case of significant divergences of budgetary positions from the medium-term budgetary objectives (MTOs) or the adjustment path towards them

9. 8 The SGP (3): corrective arm Tight timetable for the Excessive Deficit Procedure so as to arrive at a speedy decision on the existence of an excessive deficit First steps on the decision on the existence of an ED Following steps on the correction of an excessive deficit -Art 104.7: recommendation to correct the ED -Art 104.9: strengthened surveillance Sanctions if the EDP does not lead to a deficit correction

10. 9 2. Fiscal policy-making in the EU: evolving rules Overview Positive aspects Difficulties Changing circumstances Reform of the Pact

11. 10 Overview 1.Positive aspects 1.Anchoring budget deficits 2.Putting sustainability of public finances on top of the policy agenda 2.Difficulties 1.Medium-term budgetary objectives turned into moving targets (overly optimistic forecasts; insufficient control of public spending) 2.SGP worked asymmetrically over the cycle (pro-cyclicality) 3.Short-sightedness in the conduct of budgetary policy (one-offs) 4.Lack of political will (Early warnings not effective; events of Nov 2003) 5.Rising concerns about equal treatment among MS 3.Changing circumstances 1.Relation deficit and debt criterion weakened (stock-flow adjustment) 2.Increased economic heterogeneity in enlarged EU-25 made more difficult one-size-fits-all 3.Ageing populations

12. 11 Positive aspects: anchoring budget deficits

13. 12 Positive aspects: increase in debt levels stopped

14. 13 Difficulties: MTOs became moving targets

15. 14 Difficulties: lack of consolidation in good times

16. 15 Difficulties: short-sightedness in the conduct of fiscal policy

17. 16 Changing circumstances –Relation deficit and debt criterion weakened (stock-flow adjustment) –Enlargement - EU-25 –Ageing populations => Enriched common framework with stronger rationale and more focus on sustainability and debt

18. 17 Changing circumstances: Heterogeneity

19. 18 Reform of the Pact Reform of the Pact: preventive arm Reform of the Pact: corrective arm Reform of the Pact: evaluation

20. 19 Reform of the Pact: preventive arm In November 2003, conflict Council/Commission about the SGP: a reform process was launched in 2004, agreement in March 2005, enacted in Council regulations in July 2005 New Council Regulation: 1055/2005 amending Regulation (EC) No 1466/97 1055/2005 Differentiated medium-term budgetary objectives according to MS specificities (debt, potential growth, implicit liabilities) Annual structural adjustment of 0.5% GDP as a benchmark Larger efforts required in good times New incentives for structural reforms (deviation permitted) Direct early policy advice by Commission

21. 20 Reform of the Pact: preventive arm SGP complemented by national budgetary rules and institutions Need to base budgetary projections on realistic macroeconomic forecast SCP for the legislature National Parliaments increased role (discuss SCP and Council opinions, follow up recommendations to EW and EDP)

22. 21 Reform of the Pact: corrective arm New Council Regulation: 1056/2005 amending Regulation (EC) No 1467/97 1056/2005 Always a report Art 104(3) when deficit exceeds 3%, No expenditure item excluded, as demanded by some MS Clarification of nature and role of Other Relevant Factors ( which are taken into account only if the deficit close to the reference value and if the excess is temporary) Minimum fiscal effort required for MS under EDP of ½ % of GDP irrespective of other relevant factors Possibility of extended deadline for correction of excessive deficit to better reflect economic situation Modifications of exceptional circumstance (severe economic downturn) when growth is negative Possibility to repeat steps in the EDP in case of unexpected adverse events

23. 22 Reform of the Pact: evaluation 1.A rules-based system was preserved 1.3% and 60 % remain the nominal anchors 2.No re-definition of the budget deficit 3.Exceptions granted from 3 % ceiling only if the deficit remains close to the reference value and excess is temporary 2.Removed incentives for time-inconsitent policies and short-sightedness of fiscal policy 1.One-off and temporary measures not included in fiscal effort 3.Stronger economic underpinnings 1.Allowing for country-specific elements in setting MTOs and in adjustment path to MTO 2.Incentives for fiscal consolidation in good times 3.Linking structural reforms with fiscal policy 4.Economic elements taken into account in deciding on existence of excessive deficits and in setting deadlines for their correction 5.Obligation of fiscal efforts in the EDP

24. 23 3. How did it work? Challenges ahead

25. 24 3. How did it work? Challenges ahead

26. 25 3. How did it work? Challenges ahead Still a long way to go to reach the MTO Not sufficient consolidation in good times Better integrate medium and long tem fiscal challenges Improve efficiency of national fiscal rules

27. 26 3. How did it work? Challenges ahead

28. 27 Reference material Economic and Monetary Union: Legal and Political Texts -edited jointly by the Commission and by the General Secretariat of the Council of the EU (2007) -Link: http://bookshop.europa.eu/eubookshop/FileCache/PUBPDF/QC7606262E NC/QC7606262ENC_002.pdf http://bookshop.europa.eu/eubookshop/FileCache/PUBPDF/QC7606262E NC/QC7606262ENC_002.pdf Public Finance in EMU, link: http://ec.europa.eu/economy_finance/publications/publicfinance_en.htm Fiscal Policy Surveillance in Europe -edited by Peter Wierts, Servaas Deroose, Elena Flores and Alessandro Turrini (2006)