Fiscal discipline and flexibility in EMU: The implementation of the stability and growth pact

Fiscal discipline to safeguard the credibility of the single monetary autho rity and fiscal flexibility to respond to country-specific shocks are two c ore principles governing budgetary policy in EMU. The Stability and Growth Pact aims at ensuring the first objective. To comply with the requirements of the pact, EU members need to achieve a 'close to balance or surplus' pos ition and change their budgetary behaviour in periods of cyclical upturns b y refraining from spending the 'growth dividend'. Past experience shows tha t fiscal laxity does not buy more effective stabilization. Once EMU countri es have achieved their medium-term target, their automatic stabilizers will be able to operate fully, thus helping in smoothing out cyclical fluctuati ons. The main potential problems in the implementation of the pact may aris e in the early years of EMU, during the transition to a balanced budget in the event of a slow-down in economic activity.