COMMUNICATION FROM THE COMMISSION TO THE EUROPEAN PARLIAMENT, THE COUNCIL, THE EUROPEAN CENTRAL BANK, THE ECONOMIC AND SOCIAL COMMITTEE, THE COMMITTEE OF THE REGIONS AND THE EUROPEAN INVESTMENT BANK on the review of the flexibility under the Stability and Growth Pact
Date: 2018-05-23
Institutions: Directorate-General for Economic and Financial Affairs, European Commission
Subjects: budget policy, economic growth, economic stabilisation, fiscal policy, investment, stability pact, structural adjustment

EN 

  EN 

   EUROPEAN COMMISSION  Brussels, 23.5.2018 COM(2018) 335 final  COMMUNICATION FROM THE COMMISSION TO THE EUROPEAN PARLIAMENT, THE COUNCIL, THE EUROPEAN CENTRAL BANK, THE ECONOMIC AND SOCIAL COMMITTEE, THE COMMITTEE OF THE REGIONS AND THE EUROPEAN INVESTMENT BANK on the review of the flexibility under the Stability and Growth Pact {SWD(2018) 270 final}  
 
 
COMMUNICATION FROM THE COMMISSION TO THE EUROPEAN 
PARLIAMENT, THE COUNCIL, THE EUROPEAN CENTRAL BANK, THE 
ECONOMIC AND SOCIAL COMMITTEE, THE COMMITTEE OF THE REGIONS 
AND THE EUROPEAN INVESTMENT BANK 

on the review of the flexibility under the Stability and Growth Pact 

On 13 January 2015, the Commission issued a communication on "making the best use of the 
flexibility  within  the  existing  rules  of  the  Stability  and  Growth  Pact"1.  It  provided  new 
guidance on how to apply the existing rules of the Stability and Growth Pact (the "Pact") to 
strengthen  the  link  between  the  key  priority  of  the  three-pronged  economic  strategy  of  the 
new Commission, namely investment, structural reforms and fiscal responsibility in support 
of jobs and growth as well as to take better account of changes in the economic situation. The 
new  clarifications  by  the  Commission  were  extensively  discussed  with  Member  States.  It 
resulted  in  the  publication  of  a  common  position  agreed  by  the  Economic  and  Financial 
Committee (EFC), which was endorsed by the ECOFIN Council on 12 February 2016.  

Sections 2.2 and 5 of the commonly agreed position on flexibility request the Commission to 
review the effectiveness of the new clarifications by the end of June 2018. In particular, the 
review should address two key elements, namely the effectiveness of the modulation of the 
fiscal effort over the economic cycle as well as the application of the flexibility for structural 
reforms  and  investment.  A  technical  annex  presents  the  calculations  and  necessary  details 
underlying the findings of this review. 

1. Recalling the main elements of flexibility under the Stability and Growth Pact  

The  Communication  of  January  2015  was  adopted  at  a  time  when  Europe  was  starting  to 
emerge from the economic recession started in 2008 but was still facing a weak and fragile 
recovery,  with  major  differences  across  countries.  In  particular,  unemployment  remained 
persistently  high,  private  and  public  investment  was  weak  and  a  number  of  Member  States 
faced high debt levels as a legacy of the crisis. Inflation remained subdued and well below 
the target of the European Central Bank.  

Against that backdrop, the Commission  Communication and the commonly agreed position 
provided  operational  guidance  on  how  to  apply  the  existing  rules  in  a  responsible, 
differentiated and growth-friendly manner.  

The clarifications concern only the preventive arm of the Pact, whose aim is to guarantee a 
sound  budgetary  position  in  all  Member  States  over  the  medium  run.  This  fundamental 
principle of fiscal responsibility was upheld and reasserted by the Commission. At the same 
time,  the  Commission  allowed  the  budgetary  adjustment  requirement  recommended  to 
Member States to vary according to i) the fluctuations in the economic environment and ii) 
the need to promote structural reforms and public investment.  

The modulation of budgetary adjustment over the economic cycle was addressed by the so-
called  "matrix  of  requirements"  (hereafter,  simply  "matrix).  This  means  that  larger  fiscal 
efforts  are  required  for  Member  States  in  economic  good  times  and/or  with  high  levels  of 
public debt, while smaller fiscal efforts is required for Member States in economic bad times 
and/or with low levels of public debt (see Box). 

A temporary and limited relaxation of the required fiscal adjustment was identified to support 
structural reforms and investment. The Pact allows a Member State to depart from its sound 

1 COM(2015)12 final 

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budgetary position (or the convergence path toward it) to accommodate the short-term costs 
associated  with  implementing  structural  reforms  that  will  bear  a  long-term  pay-off.  2  This 
corresponds  to  the  so-called  "structural  reform  clause".  The  fiscal  trajectory  of  a  Member 
State  could  also  cater  for  significant  public  investment  carried  out  at  national  level  but  co-
financed by the Union. This corresponds to the so-called "investment clause". Safeguards for 
both  clauses  have  been  put  in  place  to  balance  flexibility  with  the  need  to  preserve  fiscal 
prudence. The Box provides additional information on the functioning of the two clauses. 

Box: the main elements of the Communication of January 2015 
The 13 January 2015 Communication consists of two main components. It gives orientation for 
the application of the flexibility in the preventive arm of the Stability and Growth Pact (i) to take 
into  account  cyclical  fluctuations  of  the  economy,  and  (ii)  to  allow  for  room  for  the 
implementation of structural reforms and investment.  

Cyclical modulation of required budgetary adjustments 

The  size  of  the  annual  required  fiscal  adjustment  is  provided  by  the  so-called  "matrix  of 
requirements".  The  matrix  gives  a  detailed  breakdown  of  the  required  annual  adjustment  taking 
into  account  the  economic  cycle,  the  debt  level  and  sustainability  needs  of  each  Member  State, 
and the direction into which the economy is moving.  

The economic cycle is mainly captured by the output gap, i.e. the difference between actual output 
and estimated potential output. The larger the positive (negative) output gap, the greater (lower) 
the  required  adjustment  effort.  Unfavourable  overall  fiscal  positions  require  a  faster  fiscal 
adjustment, specifically in case of fiscal sustainability being at risk or the debt-to-GDP ratio above 
the 60% of GDP reference value of the Treaty.  

Flexibility to promote structural reform and investment  

The  preventive  arm  of  the  Pact  provides  the  necessary  flexibility  within  the  rules  without 
compromising fiscal responsibility. With regard to structural reforms and investment, it takes the 
form of a fiscal allowance (technically, a temporary deviation from the Medium-Term Objective 
or the path towards it) corresponding to their short-term budgetary impact.  

Both  structural  reforms  and  investment  should  have  positive  budgetary  effects  in  the  long  term 
and raise potential growth. Structural reforms must be  major and fully implemented. Investment 
needs to be to a large extent co-funded by the Union, but only the nationally financed part is taken 
into account.   

Both  clauses  concerning  structural  reforms  and  investment  are  subject  to  safeguards  to  preserve 
fiscal prudence. For instance, they can be applied  only once per period  of adjustment  towards a 
sound budgetary position.  The use of the clauses should not lead to a breach of the 3% of GDP 
deficit  threshold  and  a  safety  margin  in  relation  to  that  threshold  should  be  preserved.  Only 
Member States in bad economic times can apply for investment clause. Furthermore, total public 
investment should not decrease.  

2. The main findings of the review 

In line with the mandate given to the Commission, the review answers two main questions. 
The  first  one  is  if  the  matrix  specifying  the  annual  fiscal  adjustment  has  been  effective  in 
modulating  the  required  fiscal  adjustment  over  the  economic  cycle.  The  second  question  is 
whether further flexibility effectively allows for more structural reforms and investment. The 
key findings of the review (see the Annex for the full analysis) can be summarised as follows. 

The  cyclical  modulation  of  required  budgetary  adjustments  has  been  effective.  The  matrix 
has  been  the  base  for  setting  and  quantifying  the  budgetary  adjustment  requirements  in  the 
Country-Specific  Recommendations  proposed  by  the  Commission  in  the  context  of  the 

2 Article 5(1) and Article 9(1) of EC Regulation (EC) No 1466/97 

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European Semester since 2015. The design of the matrix promotes a real modulation of the 
required fiscal effort according to the economic cycle and the level of public debt in Member 
States. That modulation does not reduce the standard pace of the necessary fiscal adjustment. 
It  therefore  supports  the  achievement  of  a  sound  budgetary  position  over  the  medium-term 
and promotes debt reduction at satisfactory pace.  

Four  Member  States  have  applied  to  make  use  of  the  structural  reforms  and/or  investment 
clauses  since  2015:  Italy,  Latvia,  Lithuania  and  Finland  for  structural  reform;  Italy  and 
Finland for investment. Nearly half of the Member States would have been eligible to apply 
to make use of the structural reform clause but most did not request to do so. The condition 
that a Member State must be experiencing bad economic times to benefit from the investment 
clause  limited  its  use  significantly.  The  need  to  respect  the  safety  margin  vis-à-vis  the  3% 
deficit ceiling for three years has also proven constraining for some Member States.  

The  positive  impact  of  the  reforms  and  investment  on  fiscal  sustainability  unfolds  over  a 
longer time span than that covered by this review. It should also be noted that the impact on 
public investment volumes is complex to assess with precision.  

3. Conclusion: the new approach worked and delivered 

Overall, the review shows that the key objectives of the Commission Communication and the 
commonly  agreed  position  on  flexibility  have  been  met  to  a  large  extent.  They  provide  a 
predictable  and  transparent  framework  that  allowed  the  Commission  to  apply  the  existing 
rules of the Pact in a country-specific and balanced manner. The first annual report3 issued by 
the European Fiscal Board also pointed to a balanced implementation of the Pact. 

The  flexibility  allowed  under  the  Pact  allowed  a  good  balance  to  be  struck  between  the 
objective  of  ensuring  prudent  fiscal  policy  and  stabilising  the  economy.  The  European 
Commission  spring  forecast  2018  shows  that  public  debt  and  deficits  declined,  while 
economic activity has picked up since 2016 (Fig. 1 and 2). 

For  the  future,  the  cyclical  modulation  encourages  Member  States  to  increase  their  fiscal 
effort in good times to make our economies more resilient. With the economic expansion in 
Europe  in  its  fifth  year,  the  time  is  ripe  to  build  up  fiscal  buffers,  which  would  allow 
automatic  stabilisers  to  fully  play  their  role  in  the  next  downturn  and  mitigate  the 
employment and social impacts. This is urgent, since improvements in the fiscal situations of 
many  Member  States  have  recently  been  largely  driven  by  the  positive  business  cycle  and 
since public debt levels are still close to their historical peaks in several Member States.  

Figure  1:  Developments  in  public  finances  and 
real growth in the EU-28 

Figure  2:  Developments  in  public  finances  and 
real growth in the euro area 

Source: European Commission spring 2018 forecast. 

Source: European Commission spring 2018 forecast. 

3 European Fiscal Board, Annual Report 2017, 15 November 2017 

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