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Last Updated: Wednesday, 23 March 2005, 00:24 GMT
When quality replaces statistics
Manuela Saragosa
BBC Europe business reporter

Germany has found its own medicine on public spending and debt too hard to swallow.

Workmen pin down the EU flag
The Pact's tattered image may be beyond repair

Despite all its initial tough talk, the Stability and Growth Pact has delivered neither growth nor stability.

So 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.

But will the new, relaxed version of the pact do a better job, or has it been reduced to the point of irrelevance? Does it even matter?

The whole point of the Stability and Growth Pact is that is supposed to guarantee against spendthrift governments whose sloppy public finances could undermine the euro.

With the launch of the euro, the European Central Bank (ECB) would take care of a unified monetary policy, while the pact would ensure a unified fiscal policy.

Or so the theory went.

Temporary and small

In practice, it was one rule for Germany and France, which repeatedly flouted the pact's rules and got away with it, and another for smaller member states such as Greece, which faces fines if it doesn't sort out its public finances within the next two years.

Sometimes some ministers criticise the ECB because of its decisions on monetary policy, sometimes the ECB criticises the European Council of ministers because of its decision for fiscal policy, but that's life
Joaquin Almunia
European Economic Affairs Commissioner

The revised pact maintains the existing limits on spending: budgets deficits should be no more than 3% and public debts should not exceed 60% of gross domestic product (GDP), or economic output.

But EU finance ministers this week gave themselves the green light to ignore those limits, provided any breach is "temporary and small", and provided the reasons for a breach are acceptable to other EU member states as well as the European Commission.

Unification costs

There's a wash list of categories which politicians can now cite to break the rules.

Many of them are conveniently vague.

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.

Qualitative, not quantitative

On the bright side, the financial straitjacket has been untied.

These categories of acceptable reasons mean governments can now spend their way out of an economic slowdown without incurring rebukes or the threat of penalties from the European Commission.

French President Jacques Chirac and German Chancellor Gerhard Schroeder
France and Germany have flouted the rules for years

But many believe that also means the new pact is set to be even more of a toothless tiger than its predecessor.

Germany and France, the EU's heavyweight economies, repeatedly breached the old pact's 3% of GDP budget deficit limit, yet the Commission was unable to convince other EU member states to start sanctions procedures against Paris and Berlin for doing so.

That, many believe, is unlikely to change.

After all, who's to say exactly what a "small and temporary" breach of the pact's limits actually amounts to?

Is a budget deficit of 3.8% of GDP more acceptable than 3.9%? No-one knows yet where the line will be drawn, or even if it will be drawn.

Certainly, the Dutch finance minister Gerrit Zalm would not enter into any quantitative interpretation.

The emphasis, he said, was now on interpreting the pact's rules in a qualitative way instead.

Criticism ignored

So what does this all mean for the long-term sustainability of public finances in the EU?

The ECB, in an unusually strongly worded statement, said that it was "seriously concerned" about the changes.

"Sound fiscal policies and a monetary policy geared to price stability are fundamental for the success of the economic and monetary union," it said.

Those criticisms were received with a smile and a shrug by European Commission officials.

"Sometimes some ministers criticise the ECB because of its decisions on monetary policy, sometimes the ECB criticises the European Council of ministers because of its decision for fiscal policy, but that's life," said Joaquin Almunia, the European Economic Affairs Commissioner.

Less forgiving

The big test will come when governments start outlining their spending and debt plans for the next few years, especially in Germany where Chancellor Gerhard Schroeder is gearing up to a general election next year.

Those plans will give a good indication of how seriously governments now take the pact's budget constraints.

So far the financial markets have dismissed the pact's revision.

The euro barely moved against the dollar on news of its looser rules.

But markets might be less forgiving if government spending plans over the next year or so show that politicians view the revised Pact as a licence to run up debt.

Politicians can then only hope that a piqued ECB doesn't decide to punish them all by raising interest rates.

EU rules 'won't stop UK spending'
22 Mar 05 |  UK Politics
ECB 'concerned' about euro deal
21 Mar 05 |  Business
EU ministers finalise euro deal
21 Mar 05 |  Business

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