Technical dialogues keep EU governments to test on drawing their debt-reduction trajectories

Time is running short for EU Member States to submit their medium-term fiscal structural plans. The economic governance review came into force last April and forces Economic and Financial ministries to grapple with fiscal targets, priority reforms and investments, and measures to address any possible macroeconomic imbalances. The deadline for capitals to deliver on this is set for 20 September.

Over the summer, Member States have been actively engaged in technical dialogues with the European Commission to draw up their debt-reduction paths spread over a 4-year period with a potential 3-year extension. The EU executive has already notified the ‘reference trajectory’ for net expenditure developments in Member States where government debt exceeds 60% of gross domestic product (GDP) or where the government deficit exceeds 3% of GDP. In total 18 EU governments are involved in the process either because they breached only one of the two parameters or for not be compliant with both limits.

According to rumors, the guidelines that the EU Commission confidentially provided to Member States include a 4-year and 7-year spending plan assumption. It is up to national governments to opt for a 4- or a 7-year extended plan. The plans should be designed to ensure that by the end of a fiscal adjustment period of four years, government debt is put or remains on a plausibly downward path or stays at prudent levels over the medium term. The change in net expenditure path will be the single fiscal indicator used to assess debt convergence or compliance with prudent levels.

The focus on this indicator entailed repealing several provisions from the previous framework, such as the debt reduction benchmark, the medium-term budgetary objective, and the significant deviation procedure. The less pro-cyclical nature of the revised framework results in a reduced reliance on the often-criticized output gap estimates, which were deemed valid to evaluate the performance of an economy, its long-term growth potential, and the sustainability of government finances. The net expenditure is also preferred since it is unaffected by revenue fluctuations and unemployment expenditure due to economic circumstances.

The national plans, including the net expenditure paths, will need to be endorsed by the Council over a 6-week period, which can be extended to 8 weeks. A control account will record deviations from the country-specific net expenditure paths. In April every year Member States are due to submit a progress report.

However, Member states will be allowed to ask for an extension of the plan to a maximum of seven years if they commit to specific reforms and investments that improve resilience and growth potential, support fiscal sustainability, and address common priorities of the EU. These include achieving a fair, green, and digital transition, ensuring energy security, strengthening social and economic resilience, and, where necessary, the build-up of defense capabilities – the so-called “all relevant factors” assessment.

Countries with debt above 90% will need to cut by 1% per year (0.5% for countries with debt between 60% and 90%) and to bring the deficit down to 1.5% of GDP in structural terms at a speed of 0.4% per year over 4 years or 0.25% per year over 7 years.

Under the corrective arm, countries with a deficit larger than 3% of GDP are called upon to adjust by 0.5% annually in structural terms. However, they will be able to carve out interest payments for the 2025-27 period. This means the deficit-based excessive deficit procedure remains unchanged. The debt-based excessive deficit procedure considers the operation of the new multi-annual framework.

A debt-based excessive deficit procedure is triggered if a Member State records a ratio of the government debt to GDP exceeding the reference value, if its budgetary position is not close to balance or in surplus, and if the deviations recorded in the control account either exceed 0.3 percentage points of GDP annually or 0.6 percentage points of GDP cumulatively.