For reasons that only a shrewd politician can explain, the EU Commission has suddenly decided to vigorously enforce the Stability and Growth Pact. After more than two decades of episodes where the Pact has been selectively enforced or simply not enforced at all, the Commission has now apparently decided that fiscal responsibility is an indispensable virtue.
As I explained on June 19th, the European Union is full of countries that have been, and are, in violation of the Stability and Growth Pact. Since 2002, only one of the current EU member states has managed to comply with the Stability and Growth Pact every single year. That country is Sweden.
Denmark, Estonia, and Luxembourg have only once violated one of the Pact’s two fiscal rules: no deficit greater than 3% of GDP, and no government debt greater than 60% of GDP. By contrast, multiple countries have violated the debt or deficit rules at least half the time since 2002.
It is important to keep this in mind as we dive into the Commission report on its newfound interest in Stability and Growth Pact enforcement. The choice of countries to target is shrouded in mystery; to see why, let us first listen to the Commission and its explanation of the budget-deficit rule:
The deficit criterion is fulfilled if the general government deficit for the previous year (2023) and planned deficit for the current year (2024) do not exceed 3% of GDP. If either does, the Commission examines whether the deficit ratio has declined substantially and continuously and comes close to the reference value.
The Commission is also supposed to determine to what extent the excess deficit “is exceptional and temporary.” If the long-term trend is good, current breaches of the deficit rule can be seen as temporary and no reason for Pact-based enforcement action.
As for the debt rule, a member state is in compliance “if the general government gross debt does not exceed 60% of GDP” in any single year. For violators, the saving grace is a debt-to-GDP ratio that “is sufficiently diminishing and approaching the reference value at a satisfactory pace.”
In short, as spelled out in the Treaty of the European Union and in this Commission report, these two fiscal rules are transparent enough that we can all understand them. It should also be a simple matter for the Commission to enforce them impartially on all EU members that violate them.
Unfortunately, as we look more closely at the Commission’s planned enforcement of the Stability and Growth Pact, the hope for impartiality withers away. The Commission lists 12 countries that it wants to “assess” for “compliance” reasons. Among them, a group of 7 member states are singled out as particularly naughty:
[The] Commission intends to propose in July to open excessive deficit procedures, by proposing to the Council to adopt a Decision under Article 126(6) establishing the existence of an excessive deficit, for Belgium, France, Italy, Hungary, Malta, Poland and Slovakia.
Each one of the 12 is evaluated in detail, but the evaluation does not add any information that helps the reader understand why this particular country was chosen. Each country assessment comes with a brief mention of the deficit and debt ratios that pertain to the Stability and Growth Pact, but practically all of the assessment is dedicated to, frankly, fiscal minutia. The important numbers regarding debts and deficits are given passing attention.
I find this puzzling, to say the least, and my conundrum only grew bigger as I looked at the actual debt-and-deficit numbers that the Commission included in its report. There is no consistency in how the Commission interprets the Pact when evaluating the countries in question.
Let us take Hungary as an example. Their consolidated government deficit reached 7.6% of GDP in 2020. That was the year of the artificial, pandemic-driven economic shutdown. All countries with some economic restrictions saw their budget deficits skyrocket; from a fiscal stability viewpoint, the question is not how big the deficit got that year, but which way it has been trending since then.
The Hungarian budget deficit fell to 6.2% in 2022, but bumped up marginally to 6.7% in 2023 (ostensibly due to a temporary slowdown in GDP growth).
The Commission makes a point of this in its ‘evaluation’ of Hungary, but their reason for doing so is to motivate putting Hungary under the Commission’s heavy-handed fiscal microscope.
From a technical viewpoint, looking strictly at the fiscal limits as prescribed in the Stability and Growth Pact, Hungary is indeed in violation of both of them. However, as the Commission made clear in the quoted passages above, a government’s fiscal trends matter at least as much as the actual deficit and debt numbers.
From the trend perspective, Hungary has been doing well enough in the past 10 years that the country should not be on the EU’s list of recalcitrant budget cases. Consolidated Hungarian government debt reached 80.3% in 2011; by 2019 it was down to 65.3% of GDP. If the pandemic had not happened, by now Hungary would have had a debt well below the 60% level.
In other words, there is no real reason for the Commission to put Hungary on the same list as France, Europe’s greatest fiscal violator.
We have an even stranger case in Malta. Based on numbers from Eurostat, the Maltese consolidated government’s most recent budget deficits have been: 7.5% in 2021, 5.5% in 2022, and 4.9% in 2023. In other words, a downward trend aiming for the 3% deficit-to-GDP threshold.
Before the 2020 pandemic and its artificial economic shutdown, Malta boasted good government finances. After having run deficits in excess of 3% of GDP for most of the period 2008-2012, the government gradually eliminated the budget shortfall and, starting in 2016, ran budget surpluses four years in a row.
There is little doubt that the government in Valletta can manage its public finances. With its track record in mind, it is odd that the Commission places them on their list of their ‘biggest’ fiscal culprits.
This decision becomes even more incomprehensible when we look at Malta’s debt situation. In 2021, the Maltese debt stood at 53.9% of GDP. The debt ratio has actually fallen marginally since then, to 51.6% in 2022 and 50.4% in 2023. They have not violated the debt rule in the Stability and Growth Pact since 2014.
So why are they on the same list as France, which has run a deficit in excess of 60% of GDP every year since 2002? The French government has also exceeded the 3% budget deficit limit 18 out of the last 22 years.
Last but not least, why is Greece not on the list? With a government debt currently at 162% of GDP and a budget deficit the past four years, they seem to be more worthy than Hungary of being in the list. If trends don’t matter, then the slow improvement in the Greek debt and deficit ratios should make no difference.
I certainly hope the Commission will reconsider its planned actions against its chosen set of economic targets. Demanding compliance can only mean one thing: significantly tighter fiscal policy at a point in time when Europe dwells on the edge of a new recession. In a coming article, I will explain this scenario in more detail.
