Euro could collapse in reforms, warns King
By Malcolm Moore, Economics Correspondent (Filed: 25/03/2005)
The Governor of the Bank of England yesterday warned that the euro could collapse in the wake of reforms to the European stability and growth pact.
"In the long run, it is difficult to imagine monetary union being successful without genuine cohesive fiscal discipline," said Mervyn King to a select committee of MPs.
"It is clear that my Central Banking colleagues are seriously concerned, indeed dismayed would be a better word, at this turn of events. The [European] Finance Ministers have driven a coach and horses through the stability and growth pact," he said, stressing that fiscal discipline was crucial to the single currency. "Whatever words you might use to describe those changes to the pact, it is not discipline," he added.
The pact states that members of the European Union cannot have a budget deficit of more than 3pc of GDP. However, since more than half the members of the eurozone have breached the rules since the euro was launched, the pact was redesigned this week with several loopholes.
The watered-down rules will exclude the costs of German reunification, French rearmament, Polish peacekeeping and an array of public investment. The move was immediately attacked by the Bundesbank, which said the exemptions would "crucially weaken the pact".
The Bundesbank also emphasised the risk to the euro, saying: "The possibility of a deterioration in the underlying conditions for the single European monetary policy is a matter of serious concern."
The collective budget deficit across the European Union is currently 2.9pc, and one analyst said that since European interest rates are set collectively, fiscal rules should also be set collectively. "I would only be concerned if the budget deficit was 5pc to 6pc of European GDP," he said.
Simon Hayley, at Capital Economics, said: "The death of the pact will not lead to fiscal anarchy. The pact had already lost all credibility. Replacing it with a watered-down version merely recognises this fact."
The Governor did give his approval to the UK Budget, delivered by the Chancellor last week. He told the MPs, who were questioning members of the Monetary Policy Committee on the February Inflation Report, that the Chancellor would meet his fiscal rules.
He said: "It looks very much as if in a year's time that the Golden Rule will be met." He also said that he did not doubt that the Golden Rule would be met over the course of the next economic cycle, based on the Treasury's projections. "I have no reason to doubt those numbers," he said.
The Treasury is forecasting that the economy will grow at 3pc-3½pc this year, and 2½-3pc next year. By contrast, the Bank of England expects that growth will be lower than 3pc until 2006, under its central projection.
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