Academic journal article Public Finance and Management

Implications of the New Public Debt Rule in the 'Fiscal Compact' for the Economic and Monetary Union

Academic journal article Public Finance and Management

Implications of the New Public Debt Rule in the 'Fiscal Compact' for the Economic and Monetary Union

Article excerpt


This paper proposes a simple modeling of the dynamic evolution of the interest rate, budgetary deficit and public debt of a member country of a monetary union, if a representative investor has the choice between bonds from this country a benchmark bond. In this framework, we can analyze the consequences of the most recent measure included in the 'Fiscal Compact'. After the financial Crisis, the coordination of public finances still mainly relies in Europe on rules of fiscal discipline. However, beyond the threshold on the budgetary deficit, a new stress is put on the reduction of the public debt at a 'satisfactory pace': its distance with respect to the reference value must decrease at a rate of the order of one-twentieth per year. Then, we show that such a measure is fully reachable for Luxembourg, Finland, Germany, Austria or the Netherlands. However, the public debt target of 60% of GDP would necessitate sizeable fiscal consolidation efforts for Ireland, France and Belgium. Moreover, such a target would not even be stable for Italy, Portugal or Spain; and the Greek situation is explosive. Therefore, the new European fiscal framework appears as quite ambitious for some member countries of the Economic and Monetary Union.

Keywords: public debt, budgetary deficit, interest rate, fiscal spillovers, EMU, 'Fiscal Compact' JEL classification codes: E62, F42, H63

(ProQuest: ... denotes formulae omitted.)


Before the economic and financial crisis in 2008, the debt criterion of the Maastricht Treaty (a public debt smaller than 60% of GDP) has concretely not been much taken into account by European political deciders. However, as excessive indebtedness levels lead to a sovereign debt crisis affecting European countries since 2010, new rules were introduced for EMU (Economic and Monetary Union) member countries [see for example: Tamborini (2011)]. They are clarified in the 'Fiscal Compact': the fiscal part of a new 'Treaty on Stability, Coordination and Governance (TSCG)', which entered into force on 1st January 2013. The 3% of GDP limit for budgetary deficits, the medium term objective of budgetary positions in balance, and the constraint for countries running a structural deficit to cut it by at least 0.5% of GDP per year are maintained. However, the corrective part of the Stability and Growth Pact has been strongly reinforced. Countries should submit each year a Stability and Convergence Program (SCP), and reduce their budgetary deficits according to a schedule proposed by the Commission. Countries under an Excessive Deficit Procedure (EDP) should submit their budgets and structural reform programs to the Commission and to the European Council, which will give their advice and monitor budget implementation.

Besides, countries whose indebtedness level exceeds 60% of GDP are supposed to take commitments to make it converge towards a defined target. Specifically, a debt-to-GDP ratio above 60% is to be considered sufficiently diminishing if its distance with respect to this reference value has reduced over the previous three years at a rate of the order of one-twentieth per year. Nevertheless, each Member State in EDP is granted a transitional three-year period following the correction of the excessive deficit for meeting the debt rule, in order to ensure no abrupt change in agreed consolidation paths. To avoid speculative attacks against the public debts of some European countries, a stronger European institutional framework was necessary. However, as European political deciders were still very reluctant to a formal and explicit coordination between their budgetary policies, they considered that such a coordination could only rely indirectly on the respect for fiscal discipline. Besides, in the framework of the sovereign debt crisis, this indirect coordination thanks to fiscal rules was supposed to give more weight to long term debt considerations (and not only to budgetary deficits) in European rules. …

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