Economic governance review: Council agrees on reform of fiscal rules

Member states’ EU ambassadors today formally agreed on the proposed reform of the EU’s economic governance framework by approving a mandate for negotiations with the European Parliament on the preventive arm regulation and an agreement in principle with a view to consulting the European Parliament on the corrective arm regulation and the directive on requirements for national budgetary frameworks.

This will pave the way for negotiations with the Parliament on the preventive arm regulation early next year.

Main elements of the agreement

The main objective of the reform of the economic governance framework is to ensure sound and sustainable public finances, while promoting sustainable and inclusive growth and job creation in all member states through reforms and investment.

The Council agreed on the framework’s overall objective of reducing debt ratios and deficits in a gradual, realistic, sustained and growth-friendly manner while protecting reforms and investment in strategic areas such as digital, green, social or defence. At the same time the framework will provide appropriate room for counter-cyclical policies and address macroeconomic imbalances.

The revised fiscal rules will also contribute to achieving common medium and long-term policy objectives such as achieving a fair digital and green transition, ensuring energy security, supporting open strategic autonomy, addressing demographic change, strengthening social and economic resilience and sustained convergence, and implementing the strategic compass for security and defence.

The Council agreed that the deficit-based excessive deficit procedure will remain unchanged. 

National medium-term fiscal-structural plans

A main novelty under the reform is the adoption of a differentiated approach towards each member state to take account of the heterogeneity of fiscal positions, public debt and economic challenges across the EU. Thus, the new framework will allow multi-annual country-specific fiscal trajectories for each member state, while ensuring effective multilateral surveillance and respecting the principle of equal treatment.

Each member state will prepare a medium-term fiscal-structural plan, spanning over four or five years, where they commit to a fiscal trajectory as well as public investments and reforms that together ensure sustained and gradual debt reduction and sustainable and inclusive growth.

Technical trajectory

According to the agreement, the Commission would transmit a risk-based and differentiated technical trajectory expressed in terms of multiannual net expenditure to member states where government debt exceeds the 60% of gross domestic product (GDP) reference value or where the government deficit exceeds the 3% of GDP reference value.

This multiannual net expenditure trajectory would be transmitted in time for member states to draw up their national medium-term fiscal-structural plans. The technical trajectory would ensure that by the end of a fiscal adjustment period of four years, government debt is on a plausibly downward trajectory or stays at prudent levels below 60% over the medium-term and the projected government deficit is brought and maintained below the 3% of GDP over the medium-term. 

Encouraging investment and reforms

The Council has also agreed that member states may benefit from longer adjustment paths if they commit to reforms and investments for sustainability and growth.

Member states would be allowed to ask for an extension of the fiscal adjustment period by up to seven years if they carry out certain reforms and investments that improve growth potential and support fiscal sustainability among other criteria. Recovery and Resilience Facility investments will be considered for extending the period.

Safeguards

To improve the predictability of the outcome of the framework and reinforce equal treatment, the technical trajectory will need to comply with two safeguards, the debt sustainability safeguard, to ensure a decrease in debt levels and the deficit resilience safeguard, to provide a safety margin below the Treaty deficit reference value of 3%.

Net expenditure paths

The Council would adopt a recommendation setting the net expenditure path of each member state as single indicator, based on their national medium-term fiscal-structural plan, and endorsing the set of reform and investment commitments underpinning an extension of the adjustment period, if applicable.

A control account will be set up to monitor deviations from the agreed net expenditure paths.

Excessive deficit procedure

In relation to a debt-based excessive deficit procedure, the Council agreed that to trigger the process, the Commission would prepare a report, when the ratio of the government debt to GDP exceeds the reference value, the headline deficit is not close to balance or in surplus and when the deviations recorded in the control account of the member state either exceed 0.3 percentage points of GDP annually, or 0.6 percentage points of GDP cumulatively.

The Council and the Commission would make a balanced overall assessment of all the relevant factors that affect the assessment of compliance with the deficit and/or the debt criteria of the member state concerned. These include among other things, the degree of public debt challenges, the size of the deviation, the progress in the implementation of reforms and investments and, where applicable the increase of government spending on defence.

The Council maintained the rules of the excessive deficit procedure in so far as when the excessive deficit procedure is opened on the basis of the deficit criterion, the corrective net expenditure path should be consistent with a minimum annual structural adjustment of at least 0.5% of the GDP.

However, the Council also decided that the Commission may, for a transitory period in 2025, 2026 and 2027, take into account the increase in interest payments in calculating the adjustment effort within the excessive deficit procedure.

The Council agreed that the fine in case of non-compliance would amount to up to 0.05% of GDP and accumulate every six months until effective action is taken.

Escape clauses

The Council also clarified the conditions for the general escape clause.

Next steps

The negotiations with the European Parliament on the preventive arm regulation are expected to start in January.

The regulation on the corrective arm and the directive on requirements for budgetary frameworks of member states require the European Parliament to be consulted.

Background

Economic governance is a key pillar of the architecture of the Economic and Monetary Union, since 1992, aiming to prevent and correct macroeconomic imbalances that could weaken national economies and affect other EU countries through cross-border spill overs.

The EU economy is facing renewed challenges with the recovery from the COVID-19 pandemic and the consequences of Russia’s war of aggression against Ukraine. Against the backdrop of higher debt levels, interest rates and new common investment and reform goals, the EU is reforming the stability and growth pact and how the pact’s effectiveness could be further improved.

On 26 April 2023, the Commission presented a package of three legislative proposals: two regulations aiming to replace (preventive arm) or amend (corrective arm) the two pillars of the stability and growth pact first adopted in 1997, and an amended directive on requirements for budgetary frameworks of member states.

The Council exchanged views on the proposed reform of the economic governance framework several times since April. The European Council has given political guidance on the reform, most recently at its meeting on 26-27 October 2023.