Warning against extra time for deficits

A LOOSENING of budget-deficit limits would fuel inflation and hamper the economy’s recovery from its weakest growth rate in ten years, Europe’s leading central bankers said yesterday.

Governors of the European Central Bank (ECB) said they would fight EU governments’ proposals to grant countries extra time to bring down their deficits, saying this would sap confidence in the euro and slow eastern Europe’s bid to adopt the currency. A green light for wider deficits “would result in the longer term in potentially higher interest rates than otherwise,” Dutch central bank chief Nout Wellink said at a meeting of EU finance officials in the Netherlands.

The stability pact to limit government borrowing has caused trouble over the management of Europe’s economy ever since Germany imposed it over the opposition of France and Italy as a condition for creating the euro in 1999.

The pact’s limit on deficits of 3% of gross domestic product proved too rigid on Germany, when the decade-high economic growth of 3.5% in 2000 gave way to a three-year slowdown.

Growth in the 12-country eurozone slumped to a 10-year low of 0.4% last year, prompting tax cuts to stoke investment and consumption and forcing governments to spend more on the unemployed. The result was more borrowing across Europe.

The European Commission expects growth in the euro region to lag the U S for the 11th time in 12 years in 2004. In April, it predicted European growth of 1.7%, trailing rates of 4.2% in the U S and 3.4% in Japan. With the ECB keeping its main interest rate unchanged at 2% last week and indicating that no further cuts are coming, the pressure is on governments to stimulate by lowering taxes or boosting spending.

Finance ministers from Spain, Austria and the Netherlands allied with the central banks in denouncing the proposal to loosen borrowing rules, saying it would give big countries such as France and Germany more room to run deficits.

“If the exceptional circumstances regulation would be weaker in the future than it is now, then I would vote against it,” Austrian Finance Minister Karl-Heinz Grasser said. It would take a unanimous vote to amend the EU law. Finance ministers plan to complete the overhaul early next year.

It is “nonsensical” to claim that the rules are being watered down, German Finance Minister Hans Eichel said.