In April 2023, the European Commission issued a concrete legislative proposal for the much needed revision of the Stability and Growth Pact (SGP). The fiscal rules have effectively been inoperative since the Commission announced in March 2020 (in the wake of the pandemic) the activation of the severe economic downturn clause – in the public debate commonly called the ‘general escape clause’. Тhe key objectives of the Commission proposals are a strengthened debt sustainability framework and the promotion of sustainable and inclusive growth through reforms and investments. These objectives should be achieved by focusing on medium-term fiscal performance, gradual and credible debt reduction, more national ownership, better enforcement, and simplification of the rules. Based on a debt sustainability analysis, the Commission will provide “technical trajectories” for Member States that violate one or both reference values of 3% and 60% for the deficit and debt ratio, respectively. With the technical trajectory as a starting point, countries may negotiate a four-year fiscal adjustment plan with the Commission. The adjustment period may be extended to seven years based on adequate reform and investment plans, provided the public debt ratio remains on a ‘plausibly downward’ path, or stays at a prudent level, and the deficit remains below the 3% reference value. A number of safeguards are added, such as an annual minimum adjustment of 0.5% of GDP when the deficit exceeds 3% and a debt ratio below the initial one at the end of the adjustment period. A major innovation is that the adjustment path stipulates a path for net primary expenditure. There will be no technical trajectories for countries with debt below 60% and a deficit of less than 3%.
Finally, enforcement of the SGP, which has been weak so far, is supposed to be strengthened by reducing the financial penalty associated with violation of the rules, so the relevant actors should have less reason to shy back from imposing sanctions. A larger degree of national ownership by governments for their own plans and a strengthened supervisory role for the national independent fiscal institutions (IFIs), would raise the reputational damage of not meeting the criteria.
We agree that the new proposal, in particular by requiring a gradual reduction of debt over the medium term, stands a higher chance of achieving debt sustainability than the SGP rule book. In particular, the 1/20th rule, which would demand historically unprecedented primary surpluses from a number of countries, has been unrealistic, which has undermined the credibility of the SGP. Still, the question remains whether the Commission is not unduly optimistic about improved enforcement, especially as adjustment periods longer than four years exceed the customary political cycle. In 2016, it proved impossible to impose even symbolic non-pecuniary sanctions on Spain and Portugal. Governments are loath to assign a greater role to the national independent fiscal institutions. The role of these institutions is to be critical about policies and, hence, they are often seen as a nuisance by governments. Ministries of finance, in particular, see them as questioning their assumptions or redoing their work. In view of a long history of transgressions of the rules followed by non-enforcement, enforcement through financial punishment cannot be taken for granted under the revised rules. Therefore, some countries, such as Germany, want stronger safeguards, such as a guarantee that debt at the end of the adjustment period is below the initial debt and an annual minimum debt reduction requirement. Indeed, only recently, supposedly well-aware of the fact that the escape clause will expire by the end of this year and Excessive Deficit Procedures may be opened again, the Italian government proposed a stimulus package of €24 billion for 2024, on top of a projected deficit of over 4%....
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