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Monetary Integration in Europe Jan Fidrmuc Brunel University Monetary Union Monetary union implies a choice between exchange rate stability and monetary policy autonomy The impossible trinity: only 2 of the following possible simultaneously: Full capital mobility Autonomous monetary policy Fixed exchange rates Exchange-rate Regime Alternatives 1. 2. 3. Free floating exchange rate Managed float, target zone, crawling peg Fixed exchange rate, currency board, dollarization Exchange-rate Regime Choice Adjustment to adverse shocks (business cycles) using monetary policy Can be misused inflation Exchange-rate volatility and vulnerability to speculative attacks Political pressure on exchange-rate policy Two Corners Only pure floats or hard pegs are robust: intermediate arrangements (soft pegs) invite government manipulations, over or under valuations and speculative attacks pure floats remove the exchange rate from the policy domain hard pegs are robust to speculative attacks Soft pegs are half-hearted monetary policy commitments, so they ultimately fail Metallic Money Before paper money, Europe was a de facto monetary union. Under metallic money (gold and/or silver) the whole world was really an informal monetary union. Formal unions only agreed on the metallic content of coins to simplify everyday trading. Countries cannot issue currency and cannot use the exchange rate to adjust relative prices (e.g. to reverse a current-account deficit or to stimulate demand) Adjustment occurs through prices and wages The Interwar Period: The Worst of All Worlds Paper money started circulating widely. The authorities attempted to resume the gold standard but: no agreement on how to set exchange rates between paper monies an unstable starting point due to war legacy high inflation high public debts. European Postwar Arrangements An overriding desire for exchange rate stability: initially provided by the Bretton Woods system the US dollar as an anchor and the IMF as conductor. Once Bretton Woods collapsed, the Europeans were left on their own: the timid Snake arrangement the European Monetary System (EMS) the monetary union. The Bretton Woods System Collapse Initial divergence (dollar exchange rates). The Snake Arrangement Agreement on stabilizing intra-European bilateral parities. No enforcement mechanism: too fragile to survive. The EMS: Super Snake EMS = European Monetary System ERM = Exchange Rate Mechanism A EU arrangement: all EU members are part of it An agreement to fix the exchange rate ERM jointly managed Changes in exchange rates agreed by all members Fluctuations between +/-2.25% and +/-15% Mutual support to prop up exchange rates when needed Allows prompt realignments Deutschemark gradually emerged as the anchor EMS: Past and Present EMS originally conceived as solution to the end of the Bretton Woods System Gradually it became DM centered The speculative crisis of 1993 made the monetary union option attractive Now ERM is the ante room for EMU entrants The UK and Denmark opted out from ERM membership All the others are expected to enter the ERM sooner or later (cf. Sweden) Preview: The Four Incarnations of the ERM 1979-82: ERM-1 with narrow bands of fluctuation (2.25%) and symmetric. 1982-93: ERM-1 centered on the DM, shunning realignments. 1993-99: ERM-1 with wide bands (15%). From 1999: ERM-2, asymmetric, precondition to full euro-area membership. Four Incarnations of the EMS The ERM: Key Features A parity grid: bilateral central parities associated margins of fluctuations. Mutual unlimited support: exchange market interventions short-term loans. Realignments: tolerated, not encouraged require unanimous agreement. The ECU: not a currency, just a unit of account took some life on private markets. The ECU A basket of all EU currencies. Evolution: From Symmetry to DM Zone First a flexible arrangement: different inflation rates: long run monetary policy independence frequent realignments. Evolution: From Symmetry to DM Zone Inflation 18 France 16 Germany 14 Italy Netherlands 12 10 8 6 4 2 0 1950-1972 1973-1978 1979-1985 1986-1991 1992-1998 Italy 1980-1998 4 125 120 3 115 2 110 1 105 0 100 95 -1 90 -2 85 -3 80 1980 1983 1986 Current Account 1989 1992 1995 1998 Real Exchange Rate (previous year) Evolution: From Symmetry to DM Zone However: realignments: barely compensated accumulated inflation differences were easy to guess by markets speculative attacks The symmetry was broken de facto. The Bundesbank became the example to follow. The DM Zone What shadowing the Bundesbank required: giving up of much what was left of monetary policy independence aiming at a low German-style inflation rate avoiding realignments to gain credibility. Breakdown of the DM zone Bad design: full capital mobility established in 1990 as part of the Single Act ERM in contradiction with impossible trinity unless all monetary independence relinquished. Bad luck: German unification: a big shock that called for very tight monetary policy the Danish referendum on the Maastricht Treaty. A wave of speculative attacks in 1992-3: the Bundesbank sets limits to unlimited support. Lessons From 1993 The two-corner view: even the cohesive ERM did not survive go to one of the two corners monetary union or floating exchange rate Interventions cannot be unlimited: need more discipline and less support Speculative attacks can hit even robust systems and properly valued currencies (i.e. self-fulfilling crises) The Wide-Band ERM Way out of crisis: wide band of fluctuation (15%) a soft ERM on the way to monetary union ERM-2 ERM-1 ceased to exist on 1 January 1999 with the launch of the Euro. ERM-2 was created to Host currencies of old EU members who cannot or do not want to join euro area: Denmark and the UK have derogations Only Denmark has entered the ERM-2 Sweden has no derogation but has declined to enter the ERM-2 Host currencies of new EU members before they are admitted into euro area ERM Members Current ERM-2 Members Country Denmark Date of ERM 2 Band of membership fluctuation 1 Jan. 1999 ±2.25% Estonia 27 June 2004 ±15% Lithuania 27 June 2004 ±15% Latvia 2 May 2005 ±15% ERM-2 vs ERM-1 ERM-1 ERM-2 Symmetric, no anchor currency Asymmetric, all parities defined vis a vis euro Margin explicitly set ‘Normal’ (±2.25%) and ‘standard’ (±15%) bands Automatic unlimited interventions ECB explicitly allowed to suspend intervention Optimum Currency Areas Optimum Currency Areas? What currency, or exchange-rate arrangement, is optimal? For individual countries, groups of countries or regions within a country What economic criteria should be used? E.g.: California in the early 1990s Is it optimal for California to use the US dollar? The Economic Toolkit There are benefits and costs involved in adopting a common currency. The solution has to involve trading off these benefits. In a Nutshell Benefits: No transaction costs, no exchange-rate uncertainty Decreasing with size of currency area Costs: Economic and political diversity Loss of monetary and exchange rate instruments Increasing with size of currency area OCA Theory Focus on the costs of common currency Especially on asymmetric shocks What are they? What problems do they cause in currency unions? How can their effects be mitigated? Example: A demand shock Real exchange rate, EP/P*, must depreciate to restore competitiveness Either prices fall or nominal exchange rate depreciates. If not: overproduction and unemployment Symmetric Shock Same demand shock in two similar countries that share the same currency and, therefore, exchange rate: No problem. The same real XR adjustment as before. Asymmetric Shock Only one country is affected; countries share common currency: Problem! Country A’s real exchange rate must depreciate both vis-à-vis ROW and Country B Asymmetric Shock Country A wants a depreciation. Country B is unhappy: depreciation would lead to excess demand and inflationary pressure. Asymmetric Shock Country B wants no change. Country A is unhappy because of excess supply and unemployment. Asymmetric Shock Common central bank considers preferences of both countries and allows partial depreciation Nobody is happy. Asymmetric Shock In the long, the problem is solved. How? Asymmetric Shock Prices decline in country A and rise in country B. Real exchange rate adjusts because of price adjustment. Equilibrium is restored in both countries through disinflation and recession in A and inflation and expansion in B. Implications of Asymmetric Shocks Both countries affected adversely when they share the same currency. Also the case when a symmetric shock creates asymmetric effects (e.g. oil price effects on oil exporting and oil importing countries). This is an unavoidable cost. Next questions: what reduces the incidence of asymmetric shocks? what makes it easier to cope with shocks when they occur? Answer: six OCA criteria. Six OCA criteria Three economic criteria Labor Mobility (Mundell) Diversification (Kenen) Openness (McKinnon) Three political criteria Fiscal risk-sharing Homogeneity of preferences Solidarity Criterion 1 (Mundell): Labour Mobility An OCA is an area within which labour moves easily (including across national borders). Criterion 1 (Mundell): Labour Mobility Labour moves from A to B The two supply curves shift Equilibrium is restored without disinflation/inflation. Criterion 1 (Mundell): Labour Mobility In an OCA labour (and capital) moves easily, within and across national borders. Caveats: labour mobility is easy within national borders but difficult across borders (culture, language, legislation, welfare benefits, etc.) capital mobility: difference between financial and physical capital; physical capital is less mobile than financial capital with specialization of labor, skills may also matter; migrants may need retraining. Criterion 2 (Kenen): Production Diversification OCA: countries whose production and exports are widely diversified and of similar structure. If production and exports are diversified and similar, there are few asymmetric shocks and each of them is likely to be of small concern. Criterion 3 (McKinnon): Openness OCA: Countries which are very open to trade and trade heavily with each other. Traded vs non-traded goods: traded good: prices are set worldwide a small economy is price-taker, so the exchange rate does not affect competitiveness. If all goods are traded, domestic goods prices must be flexible and exchange rate does not matter for competitiveness. Criterion 3 (McKinnon): Openness Depreciation makes exports less expensive and imports more expensive If countries are very open to trade, they tend to use a lot of imported goods in the production process Then, depreciation is ineffective: Depreciation imports more expensive domestic prices rise. Criterion 4: Fiscal Transfers Countries that agree to compensate each other for adverse shocks form an OCA. Transfers can act as an insurance that mitigates the costs of an asymmetric shock. Transfers stimulate demand demand curve shifts back. Transfers exist within national borders: implicitly through the welfare system (e.g. unemployment benefits) explicitly in some federations. Criterion 5: Homogeneity of Preferences Countries that share a wide consensus on the way to deal with shocks form an OCA. Matters primarily for symmetric shocks: May also help for asymmetric shocks: prevalent when the Kenen criterion is satisfied. better understanding of partners’ actions encourages transfers. Different interest groups enjoy political power in different countries. Criterion 6: Solidarity Countries that view themselves as sharing a common destiny better accept the costs of operating an OCA. A common currency will always face occasional asymmetric shocks that result in temporary conflicts of interests This calls for accepting such economic costs in the name of a higher purpose. A summary Very Open (McKinon) Product differentiation (Kenen) Low likelihood of asymmetric shocks YES: OCA NO: Need adjusment Labour mobility (Mundell) YES: OCA NO: need adjustnent Flexible wages and prices YES: OCA Transfers NO: need political support Homogeneity of preferences Solidarity Is Europe An OCA? •Each point represents correlation between demand and supply shocks of particular country with the eurozone average. Correlation of demand and supply shocks with Euro area 0,8 0,6 ITA demand shocks 0,4 POL ESP 0,2 IRL ROM 0 DK GR SVK CZE -0,2 S FRA HUN EST AUT FIN GER PRT NLD BEL UK SVN -0,4 LTU -0,6 -0,2 LVA 0 0,2 0,4 supply shocks 0,6 0,8 •Source: Korhonen and Fidrmuc (2001) Is Europe An OCA? Is Europe An OCA? Is Europe An OCA? Is Europe An OCA? Is Europe An OCA? Is Europe An OCA? Little labor mobility within countries and intra-EU (cf. USA) EU countries generally open and diversified EU budget low (1% of GDP) and used for administration, CAP, regional and structural funds, not to counter asymmetric shocks US: 1$ fall in state GDP compensated by 0.10-0.40$ increase in net transfers Glass half full or half empty The Endogeneity of OCA Criteria Living in a monetary union may help fulfil the OCA criteria over time. Would the US be an OCA without a single common currency? Will the existence of the euro area change matters too? The Endogeneity of OCA Criteria: Two views Optimistic view (Frankel and Rose, European Comission): Pessimistic view (Krugman): Deepening trade integration intra-industry trade and spillovers effects greater symmetry of shocks OCA criteria more likely fulfilled once common currency introduced Deepening trade integration greater specialization greater vulnerability to countryspecific shocks No firm conclusion so far The Endogeneity of OCA Criteria: Optimistic View T Divergence OCA EU T Trade integration The Endogeneity of OCA Criteria: Pessimistic View T´ Divergence OCA EU T´ Trade integration Trade Eliminating exchange rate volatility by adopting a common currency raises trade: Estimates: +50-100% ‘border effect’ literature provides similar estimates. EMU: preliminary evidence (Baldwin et al., 2008) Trade among EMU countries has increased by approx. 5% compared to other countries. Labour Markets Mobility may not change much, but wages could become less sticky. Two views: the virtuous circle: labour markets respond to enhanced competition by becoming more flexible the hardening view: labour markets respond to enhanced competition by increasing protective measures that raise stickiness. The jury is still out. Are the Other Criteria Endogenous? Transfers: currently no support for more taxes to finance transfers. Homogeneity of preferences: no expectation that it will change soon. Solidarity: no expectation that it will change soon. UK and EMU membership UK negotiated a formal opt-out from the obligation to pursue EMU membership UK policy set out in 1997 UK committed in principle to join the EMU But would only join if there is a clear and unambiguous economic case for joining To assess whether there is such a case, the Treasury devised 5 economic tests If all 5 tests are passed, the final decision is to be made by the British people in a referendum UK Treasury’s Five Economic Tests 1. 2. 3. Convergence in business cycles and economic structures: There has been convergence but not yet enough, and important differences remain, especially in the housing market euro-area interest rates unlikely to be optimal for the UK. Flexibility if problems emerge: UK labor market is more flexible than others, but still not sufficiently so. Investment: UK membership in the euro-zone would boost FDI inflows to the UK. UK Treasury’s Five Economic Test 4. 5. Financial Service and the City: Euro-zone membership would strengthen the competitive position of the City. Growth, stability and employment: Joining the EMU would allow the UK to benefit through increased trade, investment, competition ( lower prices) and productivity growth. Treasury’s proposal: Joining now would not be in the national economic interest. Source: HM Treasury, UK membership of the single currency: An assessment of the five economic tests, June 2003. In the End Monetary union is not only about economics. EU is not a perfect OCA a monetary union may function, at a cost. The OCA criteria tell us where the costs will arise: labour markets and unemployment political tensions in presence of deep asymmetric shocks. European Monetary Union The Long Road to Maastricht and to the Euro The Maastricht Treaty A firm commitment to launch the single currency by January 1999 at the latest. Five convergence criteria for admission to the monetary union. Formalization of central banking institutions. Additional conditions mentioned (e.g. the excessive deficit procedure). The Maastricht Convergence Criteria Inflation: Long-term interest rate: not to exceed by more than 1.5 per cent the average of the three lowest rates among EU countries. not to exceed by more than 2 per cent the average interest rate in the three lowest-inflation countries. ERM membership: at least two years in ERM without being forced to devalue. The Maastricht Convergence Criteria Budget deficit: Public debt: deficit less than 3 per cent of GDP. debt less than 60 per cent of GDP (or diminishing and approaching 60% at satisfactory pace) Note: Fulfilment of criteria was observed on 1997 performance for decision in 1998. The convergence criteria give little regard to standard OCA arguments Interpretation of the Convergence Criteria: Inflation Fear of allowing in unrepentant inflation-prone countries. Result: convergence in inflation rates before EMU entry 10.00 5.00 0.00 1991 France Spain Belgium Greece 1992 1993 1994 1995 1996 1997 1998 Italy Germany Portugal average of three lowest + 1.5% Interpretation of the Convergence Criteria: Long-Term Interest Rate It may be easy to bring inflation down in 1997 and then let go again. Long-term interest rates incorporate bond markets’ expectations of future inflation. Requires convincing markets that inflation will remain low also in the long term. Interpretation of the Convergence Criteria: ERM Membership Same logic as with the long-term interest rate: need to convince the markets. Furthermore, maintaining a fixed XR for two years demonstrates commitment to strict monetary discipline Interpretation of the Convergence Criteria: Budget Deficit and Debt (1) Historically, all big inflation episodes born out of runaway public deficits and debts. Hence requirement that house is put in order before admission. How were the ceilings chosen?: deficit: the German golden rule Deficits should only finance infrastructure expenditure approx. 3% of GDP debt: the 1991 EU average. Average many countries had more than 60% Several countries’ debt increased further after 1991 Interpretation of the Convergence Criteria: Budget Deficit and Debt (2) Problem No. 1: a few years of budgetary discipline do not guarantee long-term discipline excessive deficit procedure once in euro area. Problem No. 2: deficit and debt ceilings are arbitrary. The Debt and Deficit Criteria in 1997 Architecture of the monetary union A Tour of the Acronyms National Central Banks (NCBs) continue operating but with no monetary policy function. A new central bank at the centre: the European Central Bank (ECB). The European System of Central Banks (ESCB): the ECB and all EU NCBs (N=27). The Eurosystem: the ECB and the NCBs of euro area member countries (N=16). The System How Does the Eurosystem Operate? Objectives: what is it trying to achieve? Instruments: what are the means available? Strategy: how is the system formulating its actions? Objectives (1) The Maastricht Treaty’s Art. 105.1: ‘The primary objective of the ESCB shall be to maintain price stability. Without prejudice to the objective of price stability, the ESCB shall support the general economic policies in the Community with a view to contributing to the achievement of the objectives of the Community as laid down in Article 2.’ Article 2: The objectives of European Union are a high level of employment and sustainable and non-inflationary growth. In summary: fighting inflation is the absolute priority supporting growth and employment comes next. Objectives (2) Making the inflation objective operational: does the Eurosystem have a target? It has a definition of price stability: “In the pursuit of price stability, the ECB aims at maintaining inflation rates below, but close to, 2% over the medium term.” Leaves room for interpretation: how far below 2 per cent? what is the medium term? Instruments (1) Channels of monetary policy: longer run interest rates credit asset prices exchange rate. These are all beyond central bank control. Instead it can control the very short-term interest rate: European Over Night Index Average (EONIA). EONIA affects the channels through market expectations. Instruments (2) The Eurosystem controls EONIA by establishing a ceiling, a floor and steering the market in-between. The floor: the rate at which the Eurosystem accepts deposits (deposit facility). The ceiling: the rate at which the Eurosystem stands ready to lend to banks (marginal lending facility). In-between: weekly auctions (main refinancing facility). EONIA & Co. 7 6 5 4 3 2 1 0 Jan-99 Jan-00 EONIA Jan-01 Jan-02 Deposit rate Jan-03 Jan-04 Marginal lending Jan-05 Main refinancing Jan-06 Comparison With Other Strategies The US Fed: legally required to achieve both price stability and a high level of employment does not articulate an explicit strategy. Inflation-targeting central banks (Czech Republic, Poland, Sweden, UK, etc.): announce a target (e.g. 2 per cent in the UK), a margin (e.g. ±1%) and a horizon (2–3 years) compare inflation forecasts and target, and act accordingly. Independence and Accountability Central banks should be independent: governments may be tempted to use the ‘printing press’ to finance expenditure Misbehaving governments are eventually punished by voters. What about central banks? Independence removes them from such pressure. A democratic deficit? Redressing the Democratic Deficit In return for their independence, central banks should be accountable: to the public to elected representatives. Examples: The Bank of England is given an inflation target by the Chancellor. It is free to decide how to meet the target, but must explain its failures (the ‘letter’) The US Fed must explain its policy to the Congress, which can vote to reduce the Fed’s independence. The Eurosystem Weak Accountability The Eurosystem must report to the EU Parliament. The Eurosystem’s President must appear before the EU Parliament when requested, and does so every quarter. But the EU Parliament cannot change the Eurosystem’s independence. Inflation: Record so far Euro Area Inflation A difficult period: •oil shock in 2000 •worldwide slowdown •September 11 •stock market crash in 2002 •Afghanistan, Iraq •Financial crisis since 2007 3.5 3 2.5 2 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 1.5 1 0.5 0 The Euro: Too Weak First, Then Too Strong? Effective echange rate (1999Q1=100) 110 100 90 80 Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Growth record Inflation Convergence and No Major Asymmetric Shocks Fiscal Policy and the Stability and Growth Pact The Fiscal Policy Instrument Fiscal policy: the only macroeconomic policy instrument left at the national level in monetary union Borrowing is a substitute for fiscal transfers: intertemporal smoothing of shocks. Yet, its effectiveness is questionable. Expectations (Ricardian equivalence): deficit today higher tax tomorrow tax cut today may not be permanent Slow implementation: agreement within government, approved by parliament, carried out by bureaucracy, taxes not retroactive. Result: countercyclical actions can have procyclical effects. Automatic vs Discretionary Automatic stabilizers: tax receipts decline when the economy slows down, and vice versa welfare spending rises when the economy slows down, and vice versa no decision needed, so no lag: countercyclical with immediate effect rule of thumb: deficit worsens by 0.5 per cent of GDP when GDP growth declines by 1 per cent. Automatic Stabilizers Automatic vs Discretionary Discretionary actions: a voluntary decision to change tax rates or spending. Should Fiscal Policy be Subject to Collective Control? Yes, if national fiscal policies cause externalities. Income externalities via trade: national business cycles spill-over to other countries via their impact on imports/exports trade intensity increased by monetary union Borrowing cost externalities: one common interest rate heavy borrowing capital inflows appreciation of the euro The Deficit Bias The track record of EU countries is not good. EU public debt (% of GDP) 80 70 60 50 40 30 20 1970 1974 1978 1982 1986 1990 1994 1998 2002 2006 What is the Problem with the Deficit Bias? Lack of fiscal discipline in parts of the euro area might concern financial markets and: raise borrowing costs: unlikely, markets can distinguish among countries. More serious is the risk of default in one member country: capital outflows and a weak euro pressure on other governments to help out pressure on the eurosystem to help out. Answer to Default Risk: The No Bailout Clause The no-bailout clause: Overdraft facilities or any other type of credit facility with the ECB or with the central banks of the Member States (hereinafter referred to as ‘national central banks’) in favour of Community institutions or bodies, central governments, regional, local or other public authorities, other bodies governed by public law, or public undertakings of Member States shall be prohibited, as shall the purchase directly from them by the ECB or national central banks of debt instruments. (Art. 101) Summary: Should Fiscal Policy Independence be Limited? The arguments in favor of restrictions: The arguments against: serious externalities a bad track record. Fiscal policy is the only remaining macroeconomic instrument national governments know better economic conditions at home. EU solution: Stability and growth pact The Answer to Default Risk: Stability and Growth Pact SGP: formal implementation of the Excessive Deficit Procedure (EDP) mandated by the Maastricht Treaty. The EDP aims at preventing a relapse into fiscal indiscipline following entry in euro area. The EDP makes permanent the 3 per cent deficit and 60 per cent debt ceilings and foresees fines. Evolution of SGP: Original Pact: 1999 – November 2003 Limbo: November 2003 – March 2005 Adapted Pact: March 2005, in increase flexibility How the Pact Works A limit on acceptable deficits: 3% of GDP A preventive arm Aims at avoiding reaching the limit in bad years Calls for surpluses in good years A corrective arm Aims at encouraging prompt action when deficit is above limit Sanctions applied if limit repeatedly breached Exceptional Circumstances Negative growth or accumulated loss of output over a period of low growth exceptional Taking account of ‘all relevant factors’ No specific definitions The Procedure When the 3% is not respected: the Commission submits a report to ECOFIN ECOFIN decides whether the deficit is excessive if so, ECOFIN issues recommendations with an associated deadline the country must then take corrective action failing to do so and maintaining deficit below 3 per cent triggers a recommendation by the Commission ECOFIN decides whether to impose a fine the whole procedure takes about two years. The Fine Schedule The fine starts at 0.2 per cent of GDP and rises by 0.1 per cent for each 1 per cent of excess deficit. How is the Fine Levied The sum is withheld from payments from the EU to the country (CAP, Structural and Cohesion Funds). The fine is imposed every year when the deficit exceeds 3 per cent. The fine is initially considered as a deposit: if the deficit is corrected within two years, the deposit is returned if it is not corrected within two years, the deposit turns into a fine. Issues Raised by the Pact Does the Pact impose procyclical fiscal policies?: budgets deteriorate during economic slowdowns reducing the deficit in a slowdown may further depress growth a fine both worsens the deficit and has a procyclical effect. The solution: a budget close to balance or in surplus in normal years. The Early Years (Before Slowdown) Austria Belgium Finland France Germany Greece Ireland Italy Luxembourg Netherlands Portugal 2001 1998 Spain -6 -4 -2 0 2 4 6 8 The November 2003 decision France Germany 2 2 1 1 0 0 -1 -1 -2 -2 -3 -3 -4 -4 1999 2000 2001 2002 2003 2004 2005 2006 1999 2000 2001 2002 2003 2004 2005 2006 The November 2003 decision ECOFIN decides to suspend the Pact The European Court of Justice: recognizes the right of ECOFIN to interpret the pact rules that the suspension decision is illegal The governments commit to re-examine the pact The March 2005 decision Principles of the pact of upheld 3 % deficit limit fines, to be decided by ECOFIN Flexibility introduced Will take into account debt level Will take into account growth over recent years And now?