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Friday, January 31, 2014

From the archives: The story of the 3% deficit limit

Okay, we know this is not exactly breaking news (the original story is from September 2012), but it came to our attention again and we felt compelled to post on it.

Back in the heyday of the eurozone crisis, Le Parisien interviewed Guy Abeille (see picture), a senior official at the French Finance Ministry who is thought to have 'invented' the 3% deficit-to-GDP limit later enshrined in the EU treaties and the cornerstone of the famed Stability and Growth Pact.

And Monsieur Abeille made some rather extraordinary revelations:
We came up with this number in less than an hour. It was born on the corner of a table, without any theoretical reflection.
It was a night of May 1981. Pierre Bilger, the Budget Director at the time, summoned us. He told us: [French President François] Mitterrand want us to provide him quickly with an easy rule, that sounds as coming from an economist, and can be opposed to the ministers that walk into his office asking for money.

We needed something simple...We were going towards FF 100bn deficit. That represented a deficit of over 2% [of GDP]. 1%? We dropped that number, impossible to achieve. 2%? That put us under too much pressure. 3%? It's a good number, a number that has gone through the ages, it made one think of the Trinity.

Mitterrand wanted a rule, we gave him one. 
In other words, it seems the deficit rule that has made so many politicians lose sleep, especially in the eurozone periphery, was cooked up in less time than it takes to roast a chicken and wasn't based on any economic theory or even best practice.

We also can't help but be reminded of the famed response of  a senior Anglo Irish Bank member when asked how he came up with the original bailout figure for the bank (which proved far too low) - I "picked it out of my a*se". Quite. And it seems he wasn't the first either.


Anonymous said...

Am I shocked, surprised or outraged? No.

Everything EU and finance and economics is just "finger in the air" BS.

They are even more clueless than I thought. And now they are the no. 1 financial regulator in Europe.

Now that is plain dangerous.


Rik said...

As such 3% is not such a bad idea.
basically <I+G,
I inflation (assumed 2% or slightly below that as it is.
G Structural growth 2% bit on the high sight. And more important it looks unrealistically high now 1% looks much more realistic in the 'New Normal'.

Meaning with some fluctuations that it is not possible to increase the debtlevel structurally.

Combine with the 60%. No country with such a debtlevel comes into danger. Even the Latinos not.

Only needed very minor adjustment eg allow a stimulus fund to be set up in advance for more stimulation in a dip. Likely could have been brought within simple the further explanation of those laws/rules.

This would have worked fine and have prevented the Euro crisis.

However nobody followed the rules. There things went wrong and badly wrong.
The whole concept of not endanger thy neighbour was flushed down the toilet. And the likely minor offenders in the North were pure naive in believing that the problem could be kept outside their borders this way.

The rules were fine. But it all started with skipping the 3rd rule on a max spread (Madrid) and losen on the 60% and from there it went from bad to worse.
Not that that came as a surprise at least not to me (and 3/4 of the people that regularly visit pubs). The South has an awful reputation re implementation, enforcement etc of rules. No surprise that it went wrong there. France simply very similar but with more inconvenience as the reason. They can enforce things if they want. It was always the South and/or France that would cause problems. Of which we now have the proof of the souffle and backlava.