Just as the euro got going so the new technology bubble burst

Just as the euro got going, so the new technology bubble burst.Companies in Europe were left awash with debt. Growth slowed, government revenues came in lower than expected and budget deficits began to widen. Suddenly, countries were bumping into fiscal constraints at precisely the wrong part of the economic cycle. In an ideal world, a few choice tax cuts or spending increases would seem to be dish of the day. Instead, the door to the club’s dungeon opened up and there, at the threshold, stood Mr Solbes, beckoning the members downstairs to a new life of discipline.

Traditional deficit debauchery became a distant, hazy, memory.Now that they’re in the dungeon, the eurozone countries are taking a hard look at their fate Germany has already opted for the rack. The fiscal screws are being twisted and Berlin is promising to tighten fiscal policy to the tune of 1 per cent of GDP in 2003. Other countries have chosen more modest tortures, with Italy, for example, tightening fiscal policy to the tune of only 0.25 per cent of GDP through the course of 2003.But can these countries cope? A simple health check would seem to be a sensible first step before submission to punishment but it seems as though the Brussels dungeon hasn’t taken health issues too seriously. Unless the masochistic country is showing signs of near-fatal illness, submission to a thrashing is inevitable.Specifically, economies need to be in a state of total collapse before the rules contained within the Stability Pact can be lifted. The threat of fines for a fiscally recalcitrant country, for example, is taken away only if GDP contracts by 2 per cent or more in any one calendar year. Germany may be in a bad way but it’s certainly not facing difficulties on this kind of terminal scale as yet. If GDP falls by between 0.75 per cent and 2 per cent, the country is allowed to ask its peers for respite and, to be realistic, there’s a good chance of a sympathetic hearing.

If, however, the economy shrinks by less than 0.75 per cent or grows at a snail’s pace, punishment will be required. A severe telling off comes first but, if this is ignored, there is a transparent path towards monetary fines.Think about Germany in this context. Germany’s GDP was virtually unchanged in 2002 relative to 2001. By the end of last year, GDP probably started to contract again. This poor performance pushed the budget deficit up to an estimated 3.8 per cent of GDP in 2002, hence Germany’s appearance in the Brussels dungeon.The 1 per cent of GDP fiscal tightening that Germany is planning for this year should – according to Berlin – reduce the budget deficit to 2.8 per cent. But this is based on the rather optimistic assumption that growth will rebound to about 1.5 per cent in 2003. The signs are, however, that this number is simply too high – a point conceded by Berlin on Friday.