The European Union's stability and growth pact has failed to live up to its ambitions and must be reformed. The root of the problem is not that economic conditions have become too severe. Rather, fiscal policies conducted during the boom years of the 1990s were not sufficiently prudent. The fact that several EU member states are not living up to their original commitments has fuelled concerns that existed before the monetary union was launched: that the pressure on countries to conduct sound policy, in the interests of all concerned, would diminish once they gained entry to the single currency.

The pact's weakness is its asymmetry during good and bad times. On the one hand, countries are given ineffectual warnings if they do not keep a tight rein on their budgets during booms. On the other, they are threatened with heavy sanctions when this results in excessive deficits during a slowdown. The lack of action in prosperous times makes the pact pro-cyclical, causing it to amplify economic fluctuations. When the pact forces governments into painful consolidations that should have been implemented during booms- just when they are trying to drag their economies out of recession - its credibility is eroded.