Fiscal Rules - Limits on Governmental Deficits and Debt

Legal limitations on government deficit and debt exist at all levels of the legal hierarchy, international, regional, constitutional, and statutory. The International Monetary Fund imposes conditionality upon the loans that it supplies The European Union and its monetary group, the Eurozone, impose quite specific numerical caps on governmental deficits and debts, with significant sanctions for states that violate the standards. A few national constitutions include so-called “debt-brakes” that limit deficits and borrowing. Every state has laws that regulate the preparation and presentation of the budget and its review; some of these also seek to control deficits or borrowing. Ordinary laws are, however, susceptible to change by simple amendment or suspension if economic or political objectives seem to require disregard of a previously established standard.

Recent experience has shown an increasing use of supranational limits on national deficit and debt, with implementation by the IMF or the EU institutions. It also shows an increase in the use of objective measures (e.g., debt or deficit limits expressed in percentage of GNP) rather than the subjective standard previously used.

Unlike European Union (EU) monetary unification, the fiscal part of the economic and monetary union has not been completed yet. The economic part is built upon the decentralized structure of the European Union as a “community of states”; the monetary union is based upon the delegation of monetary powers from individual states – their central banks – to the Union level. Serious crises of functioning of such a model brought up the Treaty on Stability, Coordination and Governance in the Economic and Monetary Union It is part of a gradual strategy of the centralization of budgetary policy at the level of the European Union. This strategy is built upon presumption that effective functioning of the monetary union must be supported by a central budget and central, or centralized, budgetary policy.

In the Czech Republic, the Ministry of Finance prepares the initial draft of the annual Budget Bill for the government. Afterwards, the government adopts the draft and submits it to the Chamber of Deputies. The draft budget is accompanied by a Medium-Term Expenditure Framework, which projects the aggregate income and expenditure for the two subsequent years. In accordance with the Czech Constitution, only the Chamber of Deputies is involved in the approval of the budget proposal; the Senate is not involved in this process. There is no constitutional provision or law prohibiting a budget deficit, but constitutional amendments act that would limit government debt is currently under consideration that would limit the government debt.

Some kinds of expenditures are outside of the parliamentary budgeting process. The budgets of municipalities (communes) and regions are separate from the state budget. While retirement pensions and social insurance payments are included in the state budget, the expenditures for public healthcare services are outside of its scope.

The introduction of the constitutional “debt brake” within the German Basic Law in 2009, ended a long-standing tradition that allowed state indebtedness as long as investments were made to the equivalent amount. As this old “golden rule of financial policy” had been misused for decades, a strong majority both in the Bundestag (the Parliament) and in the Bundesrat (the second chamber) voted in favor of a provision according to which “the budgets of the Federation and the Länder shall in principle be balanced without revenue from credits”. The analysis begins by clarifying that the Federation, the individual Länder and also the municipalities enjoy constitutionally guaranteed budgetary autonomy. Next, an overview of the objects and procedures of budgetary planning follows, which includes an explanation of the formal requirements for incurring debt. After that, the author analyzes in detail the limits to borrowing. There are three exceptions to the principle that indebtedness is prohibited. First, the Federation – unlike the States – is afforded a “structural” indebtedness when revenue obtained from borrowing does not exceed 0.35 % of the nominal GDP. Second, under “abnormal” economic conditions, both the Federation and the Länder may finance fiscal stimulus through the financial market (but have to reduce indebtedness or create surpluses in cyclical upturns). Third, the Basic Law permits the Federation and the States to borrow in case of “natural catastrophes” and “other unusual emergency situations”. These rules do not apply to the municipalities. Separate law restricts their borrowing. Finally, the author discusses the shortcomings of the new “debt brakes” and the risk that the restrictive regulations will be circumvented in practice.

In the course of implementing its obligations from the TSCG and EU Law Greece has recently introduced into its fiscal rules a balanced budget rule, a rule about the gradual reduction of any excess of the prescribed debt reference value, a rule about convergence of the annual structural balance of the general government towards the respective medium-term fiscal objective, rules about the preparation and adoption of a plan of remedial measures in case of significant deviations from the medium-term fiscal objective as well as rules about the establishment of an independent Fiscal Council. These novelties are embedded in a new Organic Budget Law which completes the overall reform of Greece’s fiscal management rules aimed at enhancing fiscal discipline and initiated by the MoUs containing the policy conditionality for EU-IMF financial assistance to Greece. This report aims at providing a comprehensive picture of the new legal framework with regard to fiscal discipline and especially to limitations on debt and deficit in Greece. The challenge for the future will be to bring about the political commitment it takes in order to use this framework for achieving better fiscal performance than in the past.

The essay deals with the Italian constitutional law of public debt and deficit after the 2012 constitutional amendment on the balanced budget principle. On the one hand, it outlines the elements that characterise both the previous text of art. 81 Const. and the text actually in force. These elements are the procedure for the parliamentary examination of the budget bill and the requirement of spending coverage. In particular, the essay analyses the different Italian scholars’ readings of the requirement of coverage and their consequences for public debt and deficit. On the other hand, it examines the main features of the balanced budget principle as the Italian Constitution now establishes it. In particular, it scrutinises its ideological roots and its consequences for the management of public finances. Eventually, it surveys the difficulties in the justiciability of rules on the public budget and how constitutional Court applied the balanced budget principle in recent case law.

Until recently there were no legal or constitutional limits on the Dutch government to incur deficits in its annual budget, nor on its ability to borrow money or incur debt. With the adoption of the Sustainable Public Finances Act (SPFA) in December 2013 the Netherlands established a novelty: for the first time two sets of (material) budgetary rules were codified in Dutch legislation. On the one hand the law codifies the trend-based budgetary policy and on the other hand the law codifies (a general reference to) the European golden rule and other European budgetary norms that apply to the Netherlands. This novelty has not in fact really changed the material budgetary landscape in the Netherlands: the SPFA codifies two sets of rules that were already adhered to during the preparation and execution of the budget. This is mainly due to the fact that there is already a strong sense of political commitment to budgetary and fiscal norms firmly rooted in the Netherlands.

The Romanian legal system has gradually evolved in the past 5 years to include a set of principles and rules limiting the public debt and deficits and creating a supervision and correction framework. This legal mechanism aiming to ensure fiscal and budgetary discipline has been inspired from two main sources: in first place, the conditions attached to the financing agreements entered with the international financing institutions in the aftermath of the 2009 crisis, and further the transposition of the principles included in the EU regulations aiming to reinforce the fiscal-budgetary policies, as the Six-Pack and the Two-Pack, as well as of the Treaty on Stability, Coordination and Governance in the Economic and Monetary Union. Although including a balanced budget principle and a debt brake, together with fiscal discipline rules and a permanent assessment of fiscal-budgetary strategies, measures and regulations by an independent Fiscal Council, and thus complying with the principles agreed in this respect at the European level, the national fiscal-budgetary mechanism has a major weakness, derived from the fact that all such rules are included in ordinary laws, situated on the same level of the hierarchy of norms, and thus easily amendable upon approval or rectification of annual budgets. This leaves place for a future debate on the role of the balanced budget rule during the envisaged constitutional reform.

In Switzerland, both the Confederation and all but one canton have introduced balanced budget provisions, the mechanisms of which vary to a large extent. On the federal level the so-called debt brake was first applied to the budget of 2003. Its goal is to keep the budget in balance while connecting matters of economic sustainability with anti-cyclical financial policy. Ever since, the debt ratio of the Swiss Confederation has been mainly decreasing. Furthermore, since 2006 the Swiss federal budget has been mostly in a surplus – even throughout the latest economic crises. The Swiss debt brake is considered a success story and has been referred to as a model for sustainable balanced budgeting which leads to a stabilization of public finances. The proof for the debt brake’s success in the light of the last economic crises and despite the demographic challenges to the social security system still remains to be seen in the years to come. The successful mechanism of Switzerland’s sustainable public finance, however, is not solely based on a debt brake but includes a variety of different financial instruments. It is based on a comprehensive approach to a responsible financial policy connecting the public tasks to their costs and covering a short-term as well as a medium and a long-term perspective. And it is supported by a political consensus to prevent an increase of public debt.

Control of taxation and of public expenditure is in principle a central function of the UK Parliament. However, the practical powers of Parliament are limited, especially in relation to borrowing and the planning of public expenditure. In the case of borrowing, there is some degree of scrutiny through the EU processes, and the creation of the Office for Budget Responsibility has greatly increased transparency. As regards expenditure, internal controls administered by the UK Treasury, in particular now through the process of the Spending Review, are in practice much more important than advance Parliamentary scrutiny.

A striking characteristic of the UK is the near-total absence of substantive legal constraints on the ability of central government to run deficits or increase debt. These currently take the form of provisions in the Charter for Budget Responsibility, but are not legally enforceable and remain largely symbolic.

Although the UK has privatised almost all its public enterprises it also has a variety of forms of extended government. Classification as public or private is complex and is the responsibility of the Office for National Statistics; it may have a substantial effect on the size of public debt. The financial autonomy of local government is severely limited. Scotland, after voting to remain part of the UK in September 2014, is being given substantial further taxation and borrowing powers, and further powers are being given to Wales.

Federal debt and deficit issues are of grave concern in the United States. Congress enforces US debt limitations pursuant to its constitutional authority to control spending and borrowing. Since 2001 Congress has modified the debt limit 14 times. State and local debt and deficit issues are equally serious. The debate is ongoing as to what reforms will effectively address these pressing concerns. On the federal level the proposed solutions include a balanced budget amendment, elimination of the debt limit altogether, and consideration of failure to pay the US debt a constitutional violation based on the “Public Debt Clause,” which, it is argued, allows violations to be justiciable, on the one hand, and focusing on growth rather than debt and deficit on the other. On the State and municipal level proposals range from relying on market mechanisms, imposing constitutional limits on debt, tying the debt threshold to annual revenue, and submitting issuance of bonds or other indebtedness to the electorate for approval. The debate continues.