10 Truths About the Procedure for Countries with Excessive Deficits

Anto Bajo and Davor Galinec, in a recently published Newsletter from the Institute of Public Finance titled Ten Truths About the Procedure for Countries with Excessive Budget Deficits, explain the main provisions of the excessive budget deficit procedure.

Since the Stability and Growth Pact (SGP) and the Maastricht criteria establish limits on the growth of public debt and budget deficits, as well as the procedure for countries with excessive budget deficits (EDP) that do not meet the fiscal criteria from Maastricht, the authors believe that the European Commission will likely apply the EDP to Croatia. The reason for this is a higher level of budget deficit than the reference value, as well as rising public debt.

The authors outline the following ten truths, from which we present the most interesting parts.

1. The procedure for countries with excessive budget deficits is introduced for the stabilization of EU member states’ public finances.

According to the Maastricht criteria, the budget deficit of the consolidated general government of a member state must not exceed 3% of GDP, and the general government debt must be 60% of GDP (according to ESA 95 definitions). In the event of exceeding the reference values, the EDP is activated, whose main goal is to ensure that member states comply with the Maastricht criteria.

2. The EDP lasts three years, and according to the recommendations of the European Commission, six months is the deadline for taking action to reduce the deficit.

There are also exceptions, as Bulgaria was in the EDP for two years with the primary goal of reducing the budget deficit because its public debt was low – below the reference value for the application of the EDP. If the targets are not met and appropriate measures are not taken, the EDP can be extended. Thus, in Hungary, exiting the EDP took nine years (from 2004 to 2013).

3. Although the EDP is primarily focused on the budget deficit, it equally applies to public debt.

A member state in the EDP must reduce the gap between the existing level of public debt and the reference level of 60% of GDP by an average of 1/20 annually over the three-year period.

4. The penalties for non-compliance with the EDP are monetary as a percentage of GDP or restrictions on access to structural funds.

Penalties for Eurozone member states are provided in the form of deposits and are set at 0.2% to 0.5% of the GDP of the respective country (in accordance with the provisions of the so-called 6 pack set of EU legal acts). Other EU member states may be temporarily denied withdrawals from EU funds.

5. Fiscal transparency is significant.

If a member state does not comply with the recommendations under the EDP and does not provide reliable statistical data on the budget deficit and public debt expressed according to ESA 95 principles (twice a year, at the end of March and at the end of September), Eurostat (the statistical office of the European Commission) may publicly express so-called “reservations on data quality” and correct the deficit and debt indicators reported by the member state in the EDP report.

6. The EDP is based on the ESA 95 methodology, which differs from the GFS of the International Monetary Fund under which Croatia managed its public finances.

According to ESA 95, the budget deficit and public debt are higher due to a broader scope of general government sector units and types of financial transactions/instruments included in the calculation.

7. Most EU member states do not meet the Maastricht criteria – in 2012, 16 countries had a higher level of budget deficit, and 14 countries had a higher level of public debt.

During 2012, the largest budget deficits were recorded by Spain (10.6% of GDP), Greece (10% of GDP), Ireland (7.6% of GDP), Portugal (6.4% of GDP), and Cyprus and the United Kingdom (6.3% of GDP each). Only 11 countries recorded deficits below 3% of GDP in 2012.

8. Of the 27 member states, 25 have been in the EDP so far.

Only Estonia and Sweden have not been covered by the EDP, and currently, 16 member states are in it.

9. Due to numerous financial risks, Croatia will likely enter the EDP.

Croatia will provide Eurostat for the first time as a member state with data on the budget deficit and general government debt as part of the EDP notification, and during the second half of October, the data will be publicly released simultaneously on the websites of Eurostat and DZS. In Croatia, data reported according to GFS is currently publicly available, according to which the general government budget deficit has been above 3% of GDP since 2010, and the general government debt in June 2013 was at 53.7% of GDP.

10. The European Commission does not take control of the budget of the Republic of Croatia.

When a member state enters the EDP, based on Article 126(7) of the Treaty on the Functioning of the EU (TFEU), the European Council – at the proposal of the European Commission – gives the member state a Recommendation for exiting the excessive deficit situation. The Recommendation sets out the targets that must be achieved, but the European Commission does not take control over the execution of the member state’s budget by directly proposing measures, either on the revenue or expenditure side of the budget.

The entire Newsletter can be read HERE.