The Week In The Euro Zone: Budgetary Stories

The European Semester, the period for coordinating European economic and budget policies, is in full swing. Before the end of April, eurozone members will have to submit their fiscal stability programs for the period 2013-2016 to the European Commission, spelling out their future budget programmes in detail. In addition, the EC this week released reports on macroeconomic imbalances in 13 of the eurozone 17 countries. The reports on Spain and Slovenia could trigger the opening of excessive imbalances procedures (EIP) against the two countries. In the weeks ahead, they will have to convince the Commission that the corrective measures they are preparing to undertake will be sufficient.

Portugal also has a Constitutional Court
In Portugal, against this backdrop, the Constitutional Court has just invalidated part of the fiscal savings measures that the government was counting on to meet its 2013 deficit reduction targets (-5.5% of GDP, vs. -6.4% in 2012). The Court ruled that after taking into account the wage cuts enacted since 2011, the elimination of the 14th month of wages for public sector employees was discriminatory, since the employees had to bear an excessive share of the fiscal adjustment. On the whole, the ruling erased €1.3bn in planned savings, the equivalent of 0.8% of GDP.

The government will have to find replacement savings. For a while, it feared this ruling would complicate current negotiations with the Eurogroup. Last November, during hearings to ease the financing conditions of EFSF loans to Greece, the Europeans agreed that Ireland and Portugal would benefit from similar treatment. Negotiations have continued in recent weeks, and an official decision is expected at the Eurogroup meeting in Dublin on Friday April 12. The explicit goal is to help these states fully return to market financing by limiting their financing needs in the years ahead. Note that Ireland’s adjustment programme ends at the end of 2013, and Portugal’s in mid-2014.

Looking beyond its immediate implications, the Court’s ruling demonstrates the political limitations of the consolidation strategy followed over the past two years: the political consensus that prevailed until recently concerning the programme’s implementation has now given way to fierce opposition, and the Court could be called on regularly in the future.

Italy is about to exit its excessive deficit procedure
In Italy, one of the last decisions of the Monti administration, which remains technically in charge until a new government is formed, was to authorise the back payment of about €40bn (2.5% of GDP) in public sector debts owed to the private sector over the next two years (2013 and 2014).


We can only applaud this measure, which will have no impact on the structural value of the budget deficit. Clearly, it is more likely to provide companies with relief and to boost investment in a context of scarce credit.

Even so, this back payment poses a problem for European authorities it poses a temporary risk to increasing the nominal deficit above 3% of GDP. The country managed to reduce the deficit to its target level last year, which in principle should result in the official closing of the excessive deficit procedure against Italy by summer. According to the Monti government’s budget projections, the Italian deficit should hold at 2.9% of GDP in 2013, assuming the recession is significantly milder (-1.3% vs. -2.4% in 2012) and in addition of back payments, the government generates 1 point of GDP in additional structural savings (after 2.3 points in 2012).

Under this new program, Italy’s public debt ratio would rise again, to 130.4% of GDP in 2013, before starting to contract. Given the political situation and the risks surrounding growth prospects in Italy, the risks of budget overruns cannot be ignored. The European Commission might decide to postpone the closing of the Italian excessive deficit procedure. Let us hope that it will show signs of pragmatism, notably given the benefits this measure is expected to have for growth, the Monti government’s ultimate legacy to the Italian economy.

BY Frédérique CERISIER