Making the Stability Pact More Flexible: Does It Lead to Pro-Cyclical Fiscal Policies?*

One of the often-discussed negative aspects of the Stability and Growth Pact is the rigidity of its deficit rule. Several reform proposals aim currently to alleviate the rule in order to allow the automatic stabilisers to operate freely. However, such a reform is likely to cause even further deterioration of fiscal balances in the EMU member countries. The empirical evidence presented in this paper shows that, in the past, increasing the structural deficit had a strong negative impact on the degree of anti-cyclical fiscal stabilisation. This suggests that the reform of the Pact, through higher structural deficits, could decrease rather than increase the scope of anti-cyclical fiscal actions in the EMU member countries. Copyright 2007 Institute for Fiscal Studies.