European Commission extends borrowing restrictions in 2023

The European Commission proposed on Monday (May 23) to keep restrictions on public spending suspended in 2023, extending by a year the deadline earlier to return to strict fiscal rules.

“We are not proposing a return to unlimited spending,” Economy Commissioner Paolo Gentillioni told a news conference.

EU debt rules prevent member countries from running a deficit above 3% and limit the debt-to-GDP ratio to 60%.

The EU suspended tough fiscal rules at the start of the pandemic, which were heavily criticized for their inflexibility during the euro crisis, to allow governments to offset the economic fallout from Covid-19.

But the EU faces a “mountain of investment” in transitioning to a digitized green economy that is not dependent on Russian gas imports and needs more private and public spending to recover from the pandemic.

To support an economy that faces “great uncertainty and strong downside risks,” Gentillioni said, member countries should implement already approved pandemic recovery measures as soon as possible.

“We need to invest 520 billion euros per year until 2030 in the green transition alone,” he said.

A further €210 billion is earmarked for the commission’s RePowerEU strategy to exit Russian gas by 2027, which member states can pay from the €225 billion in loans still available under the recovery and resilience of 750 billion euros from the EU.

While the committee stressed more investment, committee vice-president Valdis Dombrovskis also signaled that individual member states should move towards more “prudent” spending.

“Given that growth remains positive and inflation high, a broad-based boost to the economy does not seem warranted,” he said.

Instead, spending should be “targeted” on green transition and strategic autonomy, he said.

The committee has already launched twice on how to reform the bloc’s fiscal rules, but the debate has been postponed once because of the pandemic and now because of the Russian invasion of Ukraine.

According to Dombrovskis, a new debate should start “in a few months”, but he added that the commission reserves the right to suspend the so-called excessive deficit procedures to limit the indebtedness of countries for next year, with 17 countries currently in violation of the debt-deficit criteria.

Monetary tightening

In a blog post on Monday, European Central Bank President Christine Lagarde wrote that the eurozone “will likely emerge from negative interest rates by the end of the third quarter.”

This will increase the cost of government borrowing, with investors in government bonds already charging higher interest rates across the bloc.

With real rates rising, the cost of the “mountain investments” that governments are expected to make in the coming months will increase.

“Households are the ones who suffer the most,” Lagarde wrote.

Real wages have fallen over the past two quarters and are expected to contract “even faster” for the rest of the year.

“Some countries may go into technical recession for a few quarters, but that’s not the overall picture of the EU economy [as a whole]”said Gentile.

On Sunday, German Finance Minister Christian Lindner urged the EU to rein in public spending ahead of Monday’s Eurogroup meeting.

But economists have warned against austerity measures on the eve of a recession.

“What could…go wrong given the current economic downturn and fiscal needs to offset rising inflation? Have we learned [so] little of the economic and political experience of austerity since 2010,” economist Phillipp Heimberger tweeted on Monday.