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Fire Services Bill

Brought from the Commons; read a first time, and ordered to be printed.

Stability and Growth Pact (EUC Report)

7.26 p.m.

Lord Radice rose to move, That this House takes note of the report of the European Union Committee on the stability and growth pact (13th Report, HL Paper 72).

The noble Lord said: My Lords, as a convenience to the House, it has been agreed that this debate on the stability and growth pact should embrace at the same time the debate on the report of the Economic Affairs Select Committee on the Monetary Policy Committee and Recent Developments in Monetary Policy. This debate will be less wide-ranging and perhaps more mundane than that which preceded it, but it is still important.

My committee decided to hold an inquiry into the stability and growth pact for two main reasons. First, the pact was very much a topical issue, with the two largest member states in the European Union on the verge of breaching it. Secondly, the Commission had proposed reforms of the operation of the pact which we examine in detail in our report. We held eight hearings and received a considerable amount of written evidence. Furthermore, instead of going to see the Commission in Brussels, the Director-General of Economic Affairs, Klaus Regling, came to the House to give evidence to our committee, for which we thank him. I am grateful to all our witnesses, to our committee staff—especially our Clerk—and to my distinguished colleagues for their participation and commitment.

The first issue to address is why have the stability and growth pact. The first point to make on this is that while monetary policy in the euro area has been unified and is now run by the European Central Bank, fiscal

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policy still remains a matter for national governments, which are therefore free to decide on their own national expenditures and revenues according to their national preferences.

However, the member states have also set up a framework of fiscal rules in order to co-ordinate their fiscal policies. The Maastricht Treaty lays out the 3 per cent budget deficit criterion and the 60 per cent debt ratio criterion. It was those rules which helped dramatically to improve the EU's fiscal balances during the 1990s.

The stability and growth pact, which was adopted at the Amsterdam European Council of June 1997, complements and strengthens the provisions of the Maastricht Treaty. Member states agreed to commit themselves to maintaining sound and sustainable government finances through the medium-term objective of,


    "close to balance or in surplus".

They also agreed to a system of monitoring and early warning. I should mention here that though not a member of the euro-zone, the United Kingdom has signed up to the stability and growth pact and is subject to its rules. It cannot, however, be sanctioned for running an excessive deficit.

One of our witnesses argued that the EU's attempt at creating formal fiscal co-ordination should be abandoned forthwith and it should be left to market discipline to ensure the sustainability of member states' finances. The committee's view, however, is that market discipline alone cannot guarantee fiscal discipline and that formal co-ordination of national fiscal policies is required to guard against the risk of default and to deal with the so-called free rider problem in a monetary union where a profligate government run up large deficits without having to incur penalties.

Co-ordinated fiscal discipline can also help member states prepare for the economic effects of ageing populations while providing overall stability for the European Central Bank and for the markets themselves. However, despite the excellence of these general arguments for the stability and growth pact, it has been much criticised in the past two years as the world economy slowed down and several large member states, as I mentioned before, were in danger of breaching the rules of the pact.

Several witnesses argued that the stability pact itself stifles growth. The TUC told us that the pact had put too much emphasis on stability and not enough on growth, while another witness considered that the pact created a deflationary bias in the longer term. However, the European Commission did not accept that sustainable growth could be stimulated through deficits and quoted the examples of Germany, Japan and Portugal. The committee agreed that fiscal policy was not a good instrument for effecting long-term growth of the economy and that slow growth in Europe is due not to the stability and growth pact but rather to the member states' failure to implement structural reforms.

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We also believe that it is important that the stability and growth pact is not over-rigid. We do not suggest scrapping the pact or drawing up new rules for it, but we strongly recommend that the existing rules are interpreted more flexibly. Indeed, this is the underlying theme of our report. Ideally, we believe it is sensible for countries to aim for broadly balanced budgets so that the so-called automatic stabilisers can be brought to play across the economic cycle without the danger of member states breaching the 3 per cent deficit criterion. But it is important that this medium-term target of budgets being close to balance or in surplus should be measured flexibly in terms of a cyclically adjusted or underlying budget balance and not the current value. We are therefore pleased that this proposal has been accepted by the European Council.

We also welcome the Commission's proposal, adopted by the Council, to allow a small deviation from the close to balance or in surplus budget requirement for member states which, as in the case of the United Kingdom, have low underlying debt ratios and need to invest in physical and human capital. We welcome the new emphasis on low debt ratios.

For the most part, however, our witnesses were much more interested, not so much in the medium-range target of close to balance but in the 3 per cent upper limit and whether this should be relaxed. Our conclusion was that the 3 per cent nominal upper limit should be retained. However, when deciding how the pact is to be enforced, the Council should not treat the 3 per cent as an absolute. Of course the Maastricht Treaty already allows for breaches in exceptional circumstances. In addition, we are proposing that in cases where a country has breached the 3 per cent reference value, the Council's decision whether or not to implement the excessive deficit procedure and all that goes with it, laid down in the Maastricht Treaty, should take account of the member state's underlying economic situation, including its position in the economic cycle and possibly its level of debt.

Looking further afield, we need to ensure that the stability and growth pact works more symmetrically and that member states are discouraged from acting pro-cyclically in times of boom. This merely stores up trouble for the bad times as was seen in the case of Germany and France. We oppose, however, the idea of applying formal sanctions. That would be not only excessively bureaucratic but liable to bring the whole pact into disrepute. In general, we believe that peer pressure—not us, but member states—is the most effective enforcement mechanism available and that the sanction of fines is a nuclear deterrent only to be used, if at all, as a measure of absolute last resort.

The Council should remain the final arbiter of all the enforcement procedures, as part of this peer pressure process. However, we believe that the Commission should have the power to issue an early warning direct to member states rather than go through the Council as it does at present; otherwise there is a danger of Council members refusing to pass on early warnings to their peers, as happened in Germany and Portugal.

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To sum up our report, we are in favour of a stability and growth pact with budgetary deficit targets, but we believe that it should be interpreted in a common sense, flexible way.

I should like to say a few words about the Government's response to our report. We were grateful for the way in which the Financial Secretary to the Treasury answered our questions when she came before us, but we were disappointed by the Treasury's formal response to our report, which seemed to be an extreme version of straight bat-ism. However, I, for one, have been somewhat mollified by the further letter which the Paymaster-General sent to my noble friend Lord Grenfell in which she said that the Government will make clear their views in a study published alongside the assessment next Monday. I hope very much that they take account of our views in their paper.

Noble Lords will forgive me if I end on a personal note. Those who are against the United Kingdom joining the euro will no doubt see the stability and growth pact as yet another reason for being against the euro. As a supporter of British membership, I see it as a necessary part of the development of economic and monetary union, and I believe that any weaknesses can be and, indeed, are being removed. They certainly should not be used as an argument for delay in joining the euro. If further changes are required, we should be there, inside the euro, making the case for them. I beg to move.

Moved, That this House takes note of the report of the European Union Committee on the stability and growth pact (13th Report, HL Paper 72).— (Lord Radice.)

7.38 p.m.

Lord Barnett: My Lords, I feel I should start by saying, "Unaccustomed as I am to speaking on three reports in one day", as a number of us will be doing in this debate. Before I do, I have been asked by my noble friend Lord Peston to move formally the report standing in his name on the Order Paper, and I am happy to do that. I should also like to thank our two Clerks, Christine Salmon and Susan Michell, who have done an excellent job for us, as has Professor Mike Wickens, our special adviser.

I should like to say a few words on the stability and growth pact report that was introduced so ably by my noble friend Lord Radice before I come to our report on monetary policy matters. My noble friend Lord Radice referred to what the committee said in paragraphs 49, 80 and succeeding paragraphs. It supports the stability and growth pact in principle but recognises a substantial need for some flexibility in the way in which it operates. I agree strongly with the committee and with the Government's agreement with the committee as well. That is obviously a sensible way forward, and I hope that it will be followed. There is a crucial need for that kind of flexibility, rather than the rigidity of the present system.

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Like my noble friend Lord Radice, I have no doubt that the stability and growth pact will be used as a sixth economic test. The previous five are not worth considering, but the sixth would be even worse. It is not the place or time to consider whether we should be joining the euro, but it would be wrong to suggest that the stability and growth pact is a reason for not doing so. As my noble friend rightly said, if we are to make changes in the way that the stability and growth pact works, we are better inside than outside.

There is a clear need, as my noble friend Lord Radice and the committee points out, for greater co-ordination of fiscal policies throughout the euro-zone. Few people can doubt that. There is a need to provide a stability in which the European Central Bank can operate. Unfortunately—although the report does not say too much about that bank—the fact is that the bank needs to have much greater transparency and accountability if it is to be a successful central bank. We need that greater transparency and accountability if we are to know what the bank's actions or inactions are at any given time, and we do not know at the moment how the bank works.


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