Leverage Limits vs. the Euro Discipline Rules

Much blame has been put on the 2004 regulatory change in the US that let investment banks increase their leverage and also changed the general regulatory regime to one of more self-regulation. See my post here and the related posts.

It is interesting to compare the attention that rule change received to the amount of recent coverage I have seen (almost none) on the rule changes in the Eurozone that let member countries run higher deficits and higher debt levels than the original pact allowed.

IN 2002, France and Germany ran deficits in excess of 3% of GDP, which the original Stability and Growth Pact allowed. By 2004, Greece, the Netherlands, Portugal and Italy were also beyond the limit. See Feldstein, "The Euro and the Stability Pact.

Nothing was done to the violators.

In March of 2005, the Pact was changed to make the limits even less meaningful: see the summary summary available here.

Also see the comment at the time by the European Central Bank:

PRESS RELEASE

21 March 2005 - Statement of the Governing Council on the ECOFIN Council’s report on Improving the implementation of the Stability and Growth Pact

The Governing Council of the ECB is seriously concerned about the proposed changes to the Stability and Growth Pact. It must be avoided that changes in the corrective arm undermine confidence in the fiscal framework of the European Union and the sustainability of public finances in the euro area Member States. As regards the preventive arm of the Pact, the Governing Council also takes note of some proposed changes which are in line with its possible strengthening.

Sound fiscal policies and a monetary policy geared to price stability are fundamental for the success of Economic and Monetary Union. They are prerequisites for macroeconomic stability, growth and cohesion in the euro area. It is imperative that Member States, the European Commission and the Council of the European Union implement the revised framework in a rigorous and consistent manner conducive to prudent fiscal policies.

More than ever, in the present circumstances, it is essential that all parties concerned fulfil their respective responsibilities. The public and the markets can trust that the Governing Council remains firmly committed to deliver on its mandate of maintaining price stability.