MNI SOURCES: EU Could Allow Fiscal Leeway As Growth Worsens

--EU May Give Countries Apart From Italy And Greece More Lenient Treatment 

By David Thomas

     BRUSSELS (MNI) - Pressures from eurozone countries like France and Spain to

be allowed leeway to exceed EU fiscal limits are likely to build if economic

growth fails to revive in the second half of this year, EU officials told MNI.

     One source familiar with discussions among the Eurogroup of eurozone

finance ministers said some member states could become more insistent on the

need for more expansive fiscal policies after European parliamentary elections

in May. The Eurogroup's regular meetings with ECB President Mario Draghi or

Executive Board member Benoit Coeure could provide a forum for such a debate.

     "They will probably take the line that growth and inflation are continuing

to come in in well below the ECB's forecast, so we need to discuss the role of

fiscal policy as well," one source said.

     The European Commission and Eurogroup are likely to take a relatively

generous view of which member states have fiscal room for manoeuvre and to be

flexible in their enforcement of fiscal rules.

     "Only Greece and Italy do not have fiscal space, all others will be

forgiven," the source said.

     "France for instance, has fiscal space. It has no debt problem and it's

still growing."

     That lenience may apply to Spain."

     --ITALY EXCLUDED

     While Italy would be categorically excluded from this group by the

Commission this will probably not stop the country's populist leadership from

nevertheless demanding greater fiscal leeway. As previously reported by MNI, a

clash between Italy and the EU is looming this autumn, given that growth has

been much weaker than the forecast which underpins its 2019 budget compromise

with the Commission.

     The Italian government today lowered its 2019 growth forecast to just 0.1%.

     Adding fuel to the fire are ongoing talks among the ministers on a eurozone

tool to provide financial support for reforms, with Germany insisting its scope

should be limited to competitiveness and convergence while France and others

push for a more ambitious 'stabilisation' role. Failure to get what they want

combined with continued economic weakness may encourage countries like France,

Italy and Spain to push for greater leeway in the EU's fiscal treatment of them.

     The International Monetary Fund and OECD have argued for fiscal policy in

Europe to be more supportive of the ECB's ultra-loose monetary policy, which has

persistently failed to produce sustained growth across the zone or to return

inflation to its near 2% target.

     As one EU source put it: "This debate about fiscal space - the fact is you

have fiscal space so long as you have a central bank behind you."

     With bond yields in many euro zone states even lower than their current

rates of economic growth, the IMF has argued that the costs of fiscal expansion

are negligible. Italy whose 10-year government bond yields remain around 250

basis points above Germany's.

     Significant hurdles remain to a more ambitious role for fiscal policy

across the eurozone, a source from a eurozone central bank said. But the source

added that the EU's approach would certainly soften should the bloc face another

crisis or a recession.

     "Discussions on such an approach could start after the European elections,

but only if the data are really bad," the source said.

     "In principle, if we enter into a recession then the rules are different

... But we face an even bigger problem before we get there - Brexit."

--MNI London Bureau; +44 203 865 3829; email: jason.webb@marketnews.com

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