EU eyes overhaul of debt rules as crises pile up

European Union flags fly outside the European Commission headquarters in Brussels, Belgium. REUTERS/Yves Herman/File photo

BRUSSELS  – Byzantine, politicized or just plain stupid, European Union fiscal rules have been called many names and changed many times. Now the EU is starting another debate to reform them as it faces overlapping crises the rules were not designed to deal with.

EU finance ministers will kick off the debate on Saturday, confronted with high debt after two years of bolstering economies during the COVID-19 pandemic and huge investment needs to prevent the ultimate crisis of climate change.

To make things worse, they also face a cost-of-living crisis with record high inflation, soaring energy costs as Russia slashes gas supplies to Europe, and a looming recession that is already draining hundreds of billions from government coffers in various support measures and more is sure to come.

EU rules, conceptually rooted in the economically more stable times known as the “Great Moderation” in the 1990s and aimed mainly at safeguarding the value of the euro through curbs on government borrowing, have a hard time coping with all that.

They say public debt must be below 60 percent of gross domestic product (GDP) and government deficit below 3 percent of GDP.

But the pandemic left many countries with debt well above 100 percent of GDP, with Greece at around 185 percent and Italy about 150 percent, and 2021 deficits often twice the EU limit.

This makes it impossible for many governments to adhere to the EU rule that they should cut debt each year by 1/20th of the difference between its current level and 60 percent of GDP.

Position papers of France, Italy, Germany, Spain and the Netherlands as well as senior EU officials say the 1/20th rule will therefore have to go – either explicitly, or because governments and the Commission agree not to apply it.

But it is not clear what it could be replaced with. Berlin thinks governments should simply cut their structural deficit every year by at least 0.5 percent of GDP until they reach balance. That, combined with economic growth, would take care of debt.

“The most probable outcome is that we will get something very similar to the German position in the end,” one senior euro zone official involved in the talks said.

Deficit calculations

Another sticking point is how to deal with the hundreds of billions of public investment, needed to attract even more private cash, to first halve carbon dioxide emissions in Europe by 2030 and then stop them completely by 2050.

France, Italy and Poland argue that the rules should also allow them to deduct from deficit calculations money spent on defense or on achieving technological sovereignty, because these investments will pay off in the future.

Germany does not want specific sectors excluded from EU deficit statistics, but appears open to broadening the existing flexibility for governments which make structural reforms or investments beneficial in the long run. The scope and size of such reform or investment needs to be hammered out.

Also under discussion is the choice of yardsticks to measure the fiscal efforts made as governments seek observable indicators they have influence over, rather than backward looking calculated ones that are often strongly revised. And then there is the controversial problem of enforcement.

While there are fines envisaged for those who break the rules, they have never been used even though countries like Italy, France, Spain or Portugal, blatantly did that.

Talks on the changes are likely to take months, possibly into the second quarter of 2023. The rules will stay suspended next year to give governments leeway to shield economies from the energy crisis caused by Russia’s invasion of Ukraine.

The European Commission will present its proposals on how the framework could be changed in the second half of October, officials said, aiming to publish well after snap elections in Italy on Sept. 25, to avoid making the debate an election issue in the euro zone’s third biggest economy.