Europe's fiscal compact

 

The best part of the marathon summit of European Union leaders at Brussels last week was that they could agree on a “fiscal compact” and a significantly stronger coordination of economic policies. And the worst was that the divide between the euro- and non-euro zone members, specifically, the United Kingdom, came to the fore yet again when Prime Minister David Cameron vetoed a proposal to include clauses on fiscal discipline in the EU founding treaty. His anger was triggered by the refusal of a majority of the leaders to accept concessions on banking regulation that mainly favoured the City of London. Pushed to the wall by a potential downgrade of credit rating by Standard & Poor's (S&P) and a further turmoil in the markets, the summit committed itself to a new fiscal rule that budgets of all member-countries shall either be balanced or in surplus; this will be incorporated in the national laws of member-countries. An automatic correction mechanism will be put in place, and governments with large budget deficits will face automatic penalties.

Besides, the 500-billion euro permanent bailout fund envisaged under the European Stability Mechanism Treaty will be organised quickly, as early as mid-2012 if member-states deliver on their commitment to ratify it promptly. 

Importantly, the summit also agreed with France that private investors (read banks) holding bonds of the countries in distress should not be made to share the bailout costs. The statement by the European Council declares unambiguously that the involvement of private investors will be decided on the basis of “well established IMF principles and practices.” This is obviously a compromise between the Big Two, France and Germany. Germany, which held the view that private investors should not be protected during bailouts, seems to have relented in return for the agreement on enforcing fiscal discipline, something it has always wanted. The stance of the European Central Bank (ECB) on market intervention though remains unclear.

 

After stoutly resisting pressures to buy bonds of governments in distress in the run-up to the summit, the ECB bought Italian bonds the very next day to shore up prices, thus sending conflicting signals. The markets and the credit rating agencies will be watching the actions of European leaders back home. Can they secure approvals from national parliaments to the agreements forged in Brussels and implement them quickly enough? This might well be the last, and the best, opportunity to save the euro. Hindu News