Find out what changes to new European rules on government deficits and debt

New European rules on government deficits and debt come into force on Tuesday and are aimed at ensuring public finances and investment recover.

European Union (EU) fiscal rules were suspended in the wake of the Covid-19 pandemic to allow member states to cope with the crisis, and then consensus was reached on the need to review and update legislation governing the economy before the Stability and Growth Pact was signed. originally created in the late 1990s, it has been revived.

The debt ratio is expected to fall by at least one percentage point per year for countries with a debt ratio above 90% of GDP (as in Portugal) and by half a percentage point for countries between this ceiling – that is the level of 60% of GDP.

Each Member State begins to prepare a national medium-term plan, which will be assessed by the European Commission, identifying a period of at least four years to put the debt on a downward trajectory, which could be seven years in the face of reforms and investments (for example included in recovery plans and sustainability).

To maximize distraction, an annual cap on government spending will be introduced.

What is the economic governance structure of the European Union?

The economic governance framework aims to “detect and correct economic imbalances” that could weaken the national economy or affect other EU countries with their consequences. It is based on three fundamental principles:

– Treaty on the Functioning of the European Union (TFEU), which sets benchmark levels for the budget deficit (3% of GDP) and public debt (60% of GDP) of member states.

– The Stability and Growth Pact (PEC), which defines the rules for monitoring and coordinating national fiscal and economic policies, containing preventive and corrective rules.

– The “Pack of Six” and “Pack of Two” provisions, the purpose of which is to strengthen fiscal supervision and introduce order for macroeconomic imbalances that arise outside of fiscal policy.

What are the main objectives of the new management structure?

The new framework aims to “gradually and realistically” reduce debt and deficit ratios, protect reforms and investments in strategic areas, “ensure adequate space for counter-cyclical policies”, correct macroeconomic imbalances and “achieve overall strategic objectives in the medium to long term” according to the EU Council.

What changes in the new rules compared to the previous ones?

With the reform, the national reform and stability programs that EU member states submitted to the European Commission in April “fall away”, giving way to medium-term national fiscal and structural plans.

At the same time, public debt sustainability becomes central, with the aim of setting it below 60% over the medium term, while keeping the fiscal deficit below 3% of GDP, and there is now a “strengthened enforcement regime”. ” to ensure that Member States fulfill the commitments made in their plans.

What are the medium-term national fiscal and structural plans?

The purpose of these programs is to adopt a differentiated approach in relation to each Member State. In practice, Brussels is beginning to take into account the heterogeneity of the budgetary situation, public debt and economic problems in different countries.

Thus, these plans will include national fiscal targets, measures to correct macroeconomic imbalances, and priority reforms and investments over a period of four or five years.

Each member state will have to develop a medium-term structural budget plan by 20 September 2024, which will include its budgetary, reform and investment commitments.

What does each country do with the recommendations?

Countries should include a fiscal adjustment path in their national medium-term structural budget plans based on a reference path or technical information. Following the presentation, the European Commission evaluates and recommends the plans, which will form the basis for the Council to adopt a recommendation setting out each Member State’s net spending trajectory as a single indicator.

What is the net expense ratio?

A single operational indicator based on debt sustainability will serve as the basis for determining the net expenditure trajectory and annual budgetary surveillance for each Member State.

It will be based on net primary expenditure financed from national sources, i.e. expenditure excluding discretionary revenue measures, interest expenditure, cyclical unemployment expenditure, national co-financing expenditure on EU-funded programs and expenditure on EU programs covered entirely by EU revenue. funds, details the information of the Commission.

This figure will not be affected by automatic stabilizers, including fluctuations in income and expenses outside the direct control of the government.

What happens if the plan doesn’t meet the requirements?

The Council must recommend that the Member State submit a revised plan. The European Commission will use the benchmark account “to monitor member states’ cumulative deviations up and down from agreed net spending trajectories.”

How do the reference trajectory recommendations work for each country?

The Commission will specify a risk-based and differentiated baseline path, expressed in terms of multi-year net spending, to member states that have public debt and budget deficits above the benchmarks of 60% and 3% of GDP. accordingly, explains Brussels.

The goal of this trajectory is to ensure that, over the four-year budget adjustment period, public debt “reduces reasonably or remains at a reasonable level, that is, below 60% over the medium term,” while ensuring a reduction in the budget deficit. and will remain below 3% of GDP in the medium term.

At the same time, longer correction trajectories can be adopted. In these cases, Member States can request an extension of the fiscal adjustment period by a maximum of seven years if they undertake certain reforms and investments that improve growth potential and support, for example, fiscal sustainability.

Is there still a corrective aspect?

Yes, but the debt-based excessive deficit procedure will focus on deviations from the net spending path. Thus, the ratio between public debt and GDP will be considered to be sufficiently decreasing and approaching the benchmark value at a satisfactory rate if the Member State in question maintains its net expenditure trajectory.

However, the Commission may consider initiating an excessive deficit procedure based on the debt criterion if the deviations recorded in a Member State’s control account exceed 0.3% of GDP annually or 0.6% of GDP cumulatively.

Various factors will then be considered, including “the severity of the public debt situation, the size of the deviation, progress in implementing reforms and investments and, if necessary, increases in defense spending.”

The Council retained the rules for the excessive deficit procedure, based on a deficit criterion that requires a minimum annual structural adjustment of 0.5% of GDP. In case of non-compliance, fines can amount to 0.05% of GDP and accumulate every six months until corrective measures are taken.

The European Commission said that temporarily “it may, in 2025, 2026 and 2027, take into account the increase in interest payments when determining the corrective path proposed under the excessive deficit procedure.”

Are there any guarantees?

According to the Council, the benchmark path will take into account debt sustainability guarantees and deficit sustainability guarantees.

In the new rules, the debt sustainability guarantee will ensure that the public debt ratio is reduced by at least 1% per year on average by 1% of GDP, as long as a member state’s debt ratio exceeds 90%.

For countries where this ratio remains between 60% and 90%, the average is 0.5% of GDP. This guarantee does not apply to countries whose debt ratio is below 60%.

The deficit sustainability guarantee “provides a margin of safety below the 3% Treaty deficit benchmark” and aims to prepare national budgets for the future by “building fiscal reserves.”