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Politics

The Stupidity Pact

15 November 2002

The Stupidity Pact

By Gwynne Dyer

The European Stability and Growth Pact is a name so soporific that it should never be spoken aloud while operating heavy machinery. But let the president of the European Commission say that he thinks it is “stupid”, and suddenly it is on everybody’s lips — renamed as the ‘Stupidity Pact’. Which tells you something about how popular it is.

Last week Pedro Solbes, the monetary affairs commissioner of the European Union, launched disciplinary action against Germany for running a budget deficit higher than is allowed under the Stability Pact. His aim is to protect the EU’s new and still shaky common currency, the euro, and Solbes is cutting Germany no slack just because it is Europe’s biggest economy. As he said last month: “I take it as the most crucial part of my duty to work as the guardian of the economic and monetary framework which governs the single currency.”

On the other hand, Germany is in the midst of an economic slump: with over 4 million unemployed, tax revenues are down and welfare payments are up. That is why it is heading for a 3.8 percent budget deficit this year — and cutting government spending during the downturn just to get back within the Stability Pact’s 3 percent limit will just make matters worse. It’s over half a century now since John Maynard Keynes pointed out that you should RAISE government spending during a recession in order to put more spending power into people’s hands.

It is that 3 percent cap on the deficit that caused Romano Prodi, the European Commission’s president, to utter his famous remark last month: “I know very well that the Stability Pact is stupid, like all decisions which are rigid.” As soon as he said the magic word, the pact’s fate was effectively sealed (though it may take some time to die). It became the ‘Stupidity Pact’ to every journalist in Europe, and you can never recover from a label like that.

Prodi didn’t retreat when he addressed the European Parliament late last month, either: “enforcing the pact inflexibly and dogmatically, regardless of changing circumstances, is what I called — and still call — stupid.” He is like the boy who dared to tell the truth about the emperor’s new clothes, and now practically everybody in the bigger EU countries wants to loosen up the restrictions that the Stability Pact places on deficit spending and government borrowing during a recession.

The irony is that it was the Germans who insisted on the Stability Pact in the first place, as the price for giving up their beloved deutschmark. There was more than a bit of racism in this: their concern was that the feckless, free-spending Mediterranean members of the EU (the Italians, Spanish, Greeks and other lowlife) would undermine the value of the new common currency by running up huge budget deficits. It never occurred to the Germans that they might one day need to run a big deficit themselves for a while.

The Stability Pact requires all twelve countries using the euro to keep their budget deficits below 3 percent even in the depths of a recession, with hefty and recurring fines for countries that breach the limits. (That whirring sound you hear is Keynes spinning in his grave.) Over the longer term, governments in the euro zone are required to keep their budgets at least in balance, or in surplus if possible. No wonder Pascal Lamy, one of France’s two European Commissioners, recently described the pact as “medieval”.

The Mediterranean lowlifes bravely struggled to get their budget deficits down within the limits, explaining to their harassed taxpayers that the sacrifice was worth it because they’d be trading their shabby old pesetas and drachmas for a shiny new euro. Greece is now running a budget surplus (the only other EU country to reach that promised land is Finland), and Spain has joined most of the smaller northern European members with a deficit of under one percent.

With growth sluggish all over Europe, Italy and Portugal are now at or just over the 3 precent limit on the budget deficit, just as the Germans feared — but so are France and Germany itself. So suddenly Germany and France have begun to understand the problem with the Stability Pact. Together with Italy, they account for three-quarters of the euro-zone economy, so with equal abruptness the question of reforming it is on the table.

The smaller countries that loyally struggled to fit into the strait-jacket are not too impressed by this sudden conversion, nor is the European Central Bank (which was deliberately modelled on the Bundesbank to make it impervious to political influence). “We have only just begun to start playing,” said ECB president Wim Duisenberg last month. “Changing the rules, precisely when they have started to be an obstacle, would not inspire very much confidence among citizens.”

Realism usually beats consistency in the end: the Stability Pact will almost certainly be changed to let governments pursue a more Keynesian, ‘counter-cyclical’ budget strategy. This being the EU, however, it will probably take far longer than it should, involving years of negotiation concluding with a three-day marathon summit to settle all the details. The smaller countries have every right to be furious at the bigger ones for only changing their minds when they got into trouble themselves. But at least they are finally changing their minds.

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To shorten to 725 words, omit paragraphs 5 and 8. (“Prodi…recession”; and “The Mediterranean…percent”)