This Friday the European Commission is releasing its economic outlook. It will certainly confirm that a number of eurozone countries are en route to missing their fiscal targets. In the latest round of forecasts, published in November, France was expected to record a 3.5 per cent of GDP budget deficit in 2013, in excess of the 3% Maastricht limit. Overruns were also expected for Belgium and Slovakia, while the forecast for the Dutch deficit was a not-so-safe 2.9%. As the economy performed poorly at end-2012, there are reasons to fear a worse outlook. Already, French PM Ayrault has declared that the 3% target will be missed.
When he presents the forecasts on Friday, should Olli Rehn, the European Commission’s vice-president, coerce governments in France and countries in a similar situation into further adjustment in order to ensure that these countries meet their 2013 deficit targets? Or should he give them more time? This is a delicate balancing act.
The case for being tough rests on a credibility argument. In 2003 France and Germany built a coalition to rebut the Commission’s recommendations and put the Stability Pact ‘in abeyance’. France in the last decade was a serial breaker of the agreed fiscal disciplines. And the 0.8 per cent growth forecast underpinning the French 2013 budget was already questionable on the day when it was announced. A soft stance vis-à-vis Paris would certainly lead many in Europe and beyond to question the credibility of the new fiscal framework. Will any country be ever sanctioned, if Brussels is not able to discipline France?
The case for being flexible rests on an economic and on a political argument. Economically, immediate further adjustment in countries that have kept access to market is not what Europe needs. According to the Commission’s November calculations, France in 2013 will be cutting its deficit by 1.3 per cent of GDP in structural terms (the government claims it is doing more). This is already significant for a country whose output has been flat for nearly two years. Immediate additional adjustment would be highly procyclical and it would entail more serious economic damage than if applied in a recovery context. Furthermore, it could elicit political resistance. The electoral debate in Italy (a country whose GDP is now below the 2009 trough) shows that austerity fatigue has started to set in. Fiscal consolidation is a marathon and the Commission should not push the runners into political exhaustion.
So what to do to preserve credibility while being sensible economically? First, Mr Rehn should tell France than any spending overrun with respect to the budget adopted at end-2012 should be entirely offset in 2013 already. Hard times should not serve as an excuse for slippages.
Second, the Commission should request from Paris a serious plan for public spending cuts in the years to come. The French 2013 adjustment was mostly based on tax increases. The government has announced that further consolidations would be expenditure-based and it has pencilled €60bn in cuts. This is however a rather weak commitment because President Hollande has not spelled out precise priorities, let alone targets. So the Commission should condition flexibility for 2013 on a decision by Paris on the targets, timetable and process for a comprehensive public spending review. It is not enough to say that some government spending will be cut. France must say which and when.
If these conditions are met Mr Rehn should accept that revenue shortfalls attributable to a lower GDP do not need to be offset in the course of this year. And it should apply the same approach to other countries in similar situations. After all, the new fiscal treaty that entered into force on 1st January relies on structural, rather than headline targets. Firmness on the former and flexibility on the latter would be in full accordance with the philosophy of the treaty.(FT A-list column, 20 February 2013)