When the European Union decided to have its own currency, it realised that a good degree of fiscal coordination was necessary. Theo Waigel, the then German Finance Minister, insisted that all euro states had to sign the stability and growth pact to oblige themselves to abide by the criteria established at Maastricht.

... the strength of an economy is measured by its productivity and competitiveness- Joseph Vella Bonnici

Although the 1997 pact envisaged economic sanctions for transgressing parties, in reality, little was done to enforce these contractual obligations. What followed is now history.

Germany is far from a model of fiscal discipline and its public debt presently stands at 81.7 per cent of GDP. In 2009, the country decided to constitutionally compel its politicians to follow a balanced-budget policy.

Germany is now insisting that EU members do the same. During last January’s summit, all countries, except the UK and the Czech Republic, accepted to sign up for the proposed fiscal compact.

Due to the British veto, the compact (which will come into effect in 2013, provided that at least 12 euro states ratify it) will not be an integral part of the Treaty of Lisbon. The new pact obliges all signatories to transpose the balanced budget rule (also known as the “golden rule”) into national legal systems “through binding and permanent provisions, preferably constitutional”.

Why is Germany being so firm on this measure? Undoubtedly, Germany wants to send a strong message to hopefully placate financial markets. Angela Merkel also needs to soothe political opinion back home and to convince the German electorate that she will only commit more bailout money if the eurozone has strict rules in place.

But there is another important consideration. Germany believes that fiscal discipline is a precondition for economic growth: easy, borrowed money will not lead to “real” growth.

Berlin believes that only if governments balance their budgets will the private sector have access to the necessary financial resources to drive economic growth. Given the aggressiveness and sophistication of German enterprises, such thinking is probably true. But does it hold for all the other EU countries?

Javier Solana in his article Austerity Versus Europe does not believe so and argues that “Austerity at all costs is a flawed strategy” (The Times Business, February 2).

There is little doubt that the economic growth of various EU states, especially in southern and eastern Europe, has become unduly dependent on significant fiscal deficits. Cutting back too quickly on public spending will accelerate recessionary trends, as is happening in Greece.

Ultimately, the strength of an economy is measured by its productivity and competitiveness and not by its growth rates or even level of employment. Booming property markets do little to generate “real” growth and what is needed is technological and other innovation.

Also, there is no fiscal policy blueprint; the “optimal” path depends upon the state of an economy at a particular point in time. This is the main lesson of the Great Depression and, as recommended by Keynes, governments should use their budgets to smoothen cyclical economic fluctuations. What is not justifiable is that governments have consistently excessive deficits.

Various analysts have criticised the treaty as being too rigid, leading to fiscal tightening in recessionary times. Jens Weismann, president of the Bundesbank, disagrees with this and complains that the treaty still leaves too much room for manoeuvring.

What the treaty provides for are “exceptional circumstances”, defined as “unusual events” or “periods of severe economic downturn”, which have a major impact on the financial position of a government.

Another point that needs to be clarified is that borrowing money is not necessarily a bad thing. What matters is whether the debt is going to finance consumption or productive investments. Germany has a much higher public debt level than, say, Spain but few investors doubt its ability to pay back its debt.

The key question: Will the fiscal compact succeed where the stability and growth pact failed?

Obliging signatory states to guarantee their commitment to the golden rule through “binding and permanent provisions” is no guarantee of success. Experience has shown that governments can be very creative in circumventing such provisions. So what the EU needs to insist upon is a change in the attitudes and mindset of national politicians who, in the desperate effort to cling to power, are prepared to appease their citizens at all costs.

On their part, EU institutions need to be truly vigilant and refrain from being accommodating for political reasons. They too are responsible for the EU’s sovereign debt crisis.

The proposed compact establishes a new disciplinary regime for countries that fail to meet the set fiscal targets. The European Court of Justice is being empowered to impose penalties amounting to 0.1 per cent of GDP. (In the case of Malta, this would amount to about €6 million). The collected money will go into the European stability mechanism.

Why EU citizens have to pay for the deficiencies and misbehaviour of their government is puzzling. Perhaps, politicians should be made directly responsible for their actions in the same way that private firm directors are.

Strengthening fiscal discipline is wise and a must for our country. But was it really necessary to rush to enshrine the fiscal compact’s provisions in the Constitution? Is this another case of wishing to appear holier than the Pope?

Hopefully, we taxpayers will not have to foot the bill for penalties while making good for the mismanagement of politicians.

fms18@onvol.net

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