Decentralised governments and the Stability and growth pact in The Netherlands

The economic governance structure of the Economic and Monetary Union is embedded in a strong believe in fiscal discipline, to be obtained through a balanced public budget. The Stability and Growth Pact (SGP) is the main legal instrument supporting the principles of fiscal discipline. The most restrictive element of the SGP is the dissuasive arm, which indicates that no member state should be allowed to have a deficit that breaches 3% of GDP or a public deficit that exceeds 60% of GDP. When this occurs, the excessive deficit procedure is triggered. Through this procedure the European Council can propose measures to balance budget of the member state and even – in case of countries which are in the Euro zone –apply sanctions to enforce corrective measures.

In The Netherlands the ministry of Finance is the gatekeeper for maintaining fiscal discipline in the public finances. It does so by two instruments: at the central level departments it is responsible for managing the government’s budget, by setting multi-annual budget ceilings and approving the annual budget of each department .(OECD, 2008) Provincial and municipal (decentralised) governments are legally bound to achieve a balanced budget. If they do not manage this, the Minister of Finance is allowed to intervene. (Wassenaar, 2004)

Although the system in place should be sufficient to maintain fiscal discipline, the Dutch deficit breached the 3% threshold in 2003. The central government deficit reached 3% and the de-central governments contributed another 0.3%. (CBS) The latter was a strange phenomenon, since the official accounts of the government showed the combined de-central government budgets to be balanced. This is explained by the different accounting standards used for calculating the budget under Dutch and SGP regulation. Decentralised governments therefore received two different incentives and this appears to have resulted in decisions that increased the deficit as calculated by the SGP criteria. (Wassenaar, 2004)

Should the central government increase control?

The question is therefore raised whether the ministry of Finance should increase its control over the deficit of the de-central government to ensure they do not contribute to a deficit as defined under the Stability and Growth Pact. First I examine the exact causes of these deficits. Then I will deterine if central government involvement is needed to ensure that de-central governments balance their budgets as defined under the Growth and Stability pact and propose a structure for organising this.

Two ways to government accounting; two ways to intervene

Dutch regulation for decentralised governments and the GSP use different accounting methods. The Dutch law (Besluit Begroting en Verantwoording) that governs the decentralised government budget and accounting process, indicates that decentralised government costs cannot be higher then their benefits. This means that in the annual accounts the current accounts should be either balanced or positive. The GSP, however, also includes the capital account. This means that under the Dutch accounting methods an investment is only represented by its depreciation, while for the GSP accounting methods the whole investment is included. If the municipality only registers a benefit corresponding to the depreciation of the investment, it would have a balanced budget under Dutch accounting rules, while under GSP rules it would have a deficit. (Wassenaaar, 2004a) But if decentralised governments would ensure that both current and capital account are balanced, they would neither run a deficit under Dutch and GSP rules.

The deficit under the GSP accounting rules is therefore not the result of the actual contradiction in the rules, but in the intensity of the incentives to comply with them. The decentralised governments are obliged by law to balance their current accounts. If a de-central government is not able to balance its' budget by the standards of the Dutch law, it will have to apply for additional financing. This additional financing will result in the government being put under supervision of the central government. (Wassenaar en Verhagen, 2006, p. 88-94) If it runs a deficit according to the GSP standards, the minister of Finance is also allowed to intervene. How he does this is not specified; and in reality the minister has never exercised its authority when this occurred. Due to the low incentives for the decentralised governments to comply with the GSP compared to the incentives provided to comply with Dutch regulation it is not surprising that decentralised governments do not adhered to the GSP. If you also take into account several other incentives that result in adverse decisions (especially in relation to investments), this effect is even more pronounced.

Changes to the system?

After the discovery of the effects of applying two different sets of accounting rules, the central and decentralised governments agreed to set up a system to monitor the deficit based on the SGP accounting rules. The primary objective of this system is to ensure the quality, timeliness and completeness of data on the accounts of the decentralised governments. In addition, it sets targets for the accounts, rules for translating these targets to individual decentralised governments and indicates that agreement should be reached on how to manage the deficit calculated by the SGP standards. (3de werkgroep evaluation normeringssystematiek gemeente- en provinciefonds, ch. 7)

In 2006 a working group, set up to evaluate the current budget division system, proposed a system to control the GSP calculated deficit. (3de werkgroep evaluation normeringssystematiek gemeente- en provinciefonds, ch. 7) The working group proposed to further strengthen the collection of relevant data and stressed that if the system was to be effective, the central government should be allowed to impose sanctions in cases of non-compliance. These sanctions could be either procedural or, the preference of the evaluators, financial. The working group considered the financial sanction to be most effective if imposed by the central government. (Ibidem, 37-40)

Central responsibility; central control

It makes sense for the central government to strengthen its control over the deficit of the decentralised governments. The Stability and Growth Pact is enshrined into EU regulation and is therefore binding on member states that have introduced the EURO as their national currency. The deficit provision in the Pact is applicable to the whole of government finances and therefore has no regards for the division of government in The Netherlands. The central government is accountable for the whole deficit. The current system, however, does not allow it to exercise sufficient control.

The proposals from the working group, although a good start, are not sufficient to change this. They only make small changes to the current system. Although a change of the sanction regime is proposed, it does not specify exactly what this should be. Even after the changes, the there would still be two accounting systems used for calculating the de-centralised governments deficit.

A better idea would be to align the Dutch budget rules with those used under the GSP. This would mean that municipal governments should only be obliged to have a balanced budget under GSP rules. The current sanction system in place for breaching the Dutch budget rules– which appears to work effectively - could then be applied in the same manner to breaches of the GSP deficit rules.

Bibliography

Bos, F. “The Dutch fiscal framework, history, current practice and the role of the Central Planning Bureau”, OECD Journal on Budgeting, vol 8, no 1, blz. 7-48

Wassenaar, M.C. (2004a) ‘Een decentraal stabiliteitspact’, in: ESB, 24-9-04, 462-464

Wassenaar, M.C. en A.J.W.M. Verhagen (2006), Financien van de decentale overheden, SDU Uitgevers, Den Haag,

Wassenaar, M.C., (2004b) ‘EMU-tekort ondanks begotingsevenwicht van decentrale overheden’, in: B&G, juli/augustus 2004

Derde werkgroep evaluatie normeringssystematiek gemeente- en provinciefonds (2006), Evaluatie normeringssystematiek gemeente- en provinciefonds 2003 – 2007, Den Haag