Saturday, November 16, 2002


The recent remarks by EU Commission President Romano Prodi about the stability pact continues to make waves. Yesterday he staunchly defended his description of the stability and growth pact as "stupid", claiming he was only saying in public what others were saying in private. When questioned by the European parliament on the topic he explained that in his opinion the euro's tough fiscal rules could not be rigidly applied when the world was on the brink of deflation. No apart from the fact that someone in authority in the EU is prepared to publicly admit deflation might be a problem, the overall impact of this 'gaff' is decidedly negative.

"What a tragedy it would be if, in winning the battle for stability, we lost the trust and backing of our citizens," he said. Although some of Mr Prodi's colleagues privately admit that his use of the word "stupid" last week was misjudged, the Commission chief claimed that he was striking a blow for a more open political debate in Europe. "The public mistrusts us and the institutions precisely because they suspect that only minor matters are aired in public and the truly important decisions are taken behind closed doors."

"Europe's citizens must be sure that the system is in safe hands - hands that are capable of giving consistent guidance to the system, both in quiet periods and, even more so, in times of difficulty and crisis." Mr Prodi's comments last week stunned EU finance ministries and infuriated many smaller countries, which claimed he was discrediting the pact in an attempt to make life easier for big countries such as France, Italy and Germany, which all have budget problems. "We see a Commission bending over to help the big countries, but when we had the same problems they held a gun to our head," said one EU ambassador from a smaller member state.

Despite Mr Prodi's defiance yesterday, even his closest aides admit use of the word "stupid" to describe the stability pact detracted from his basic message: that the pact needs reform and Brussels needs more power to enforce it. "He has an Italian political style, where you can throw up ideas for debate," said one of Mr Prodi's aides. "Perhaps a European setting is not the right place to do it."
Source: Financial Times

What exactly is the point of the stability and growth pact?. Well ever heard of Enron anyone? The principal Euro group countries, and especially Germany, Spain and Italy, all have enormous off-balance sheet undeclared liabilities: they're called unfunded pension and health care claims with rapidly ageing populations and imploding dependency ratios.

The stability pact was an attempt not to get into more debt before things really started to get tricky. Ever heard of rosy cash-flow massaging (think of all those dot-com venture capitalist plans). Well take a look at the growth numbers projected by these same countries for this decade, and look at the realities. The big danger in all this "stupid pact" talk is that ECB policy becomes a political toy. Of course changing the objectives from price stability towards growth oriented policy sounds nice (as if we weren't all trying to achieve growth already), the problem is when you get to read the fine print.

Sure, Germany needs more budgetary flexibility to be able to tackle the growing deflation dangers, but then there is the problem of inflation in Greece, Portugal, Spain, Ireland and Holland. I don't know whether a quick band-aid fix exists for all this, somehow I doubt it. But simple demogogic talk about 'stupid' pacts is easy and dangerous.
Perhaps the real problem is that the Euro decision was a political and not an economic one in the first place.

No comments: