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Budgetary Collective Action Problems: Convergence and Compliance under the Maastricht Treaty on European Union.

Introduction

When governments enter into budgetary accords and treaties or institute debt limitations by way of constitutions or statutes, they create potential collective action problems in which the dilemma is maintaining compliance with the terms of the agreement. The Maastricht Treaty on European Union--like many recent budgetary agreements in the United States, including the two versions of Gramm-Rudman-Hollings and the 1990 Budget Enforcement Act--may best be understood as such a problem, where, to achieve group compliance, the terms of the treaty, the monitoring of its participants, and the application of positive and negative sanctions serve to constrain "free riders" who seek to escape the treaty's burdens while sharing in its rewards.

The Maastricht Treaty constitutes one of the world's most important experiments in public budgeting and is the focus of this study. Although broad budgetary agreements with deficit targets have become commonplace in the United States, the Maastricht Treaty creates the first such international budgetary treaty, with each country converging toward the same targets. The leaders of the European Community signed an agreement at Maastricht, the Netherlands, in 1992 to achieve a full monetary union that began in January 1999. The resulting Economic and Monetary Union (EMU) created a single currency--the euro--and established a central monetary authority, the European Central Bank, modeled along the lines of Germany's independent Bundesbank. To become a member of the EMU, applicant nations engaged in fiscal convergence by meeting specified budget deficit and debt targets. Although there are other membership criteria in the treaty regarding inflation rates, long-term interest rates, and currency devaluation, its deficit and debt targets clearly have taken center stage in recent European politics. In the case of the Maastricht Treaty, the collective action problem is gaining the compliance of free riders who seek to escape the fiscal burdens imposed by the treaty, but who seek the political and economic benefits of the EMU.

The problem of compliance in budgeting, where political actors and administrators often seek to evade or manipulate budgetary laws and constraints, is a perennial one. In the United States, after state governments enacted constitutional balanced budget requirements in the nineteenth century, politicians and bureaucrats devised special taxing districts, nonguaranteed borrowing, off-budget spending, and capital budgets to spend beyond their constitutional limits (Heins 1963; Savage 1988). More recently, in response to Gramm-Rudman-Hollings and other budget agreements aimed at balancing the budget and restraining spending, politicians created"rosy scenarios" and endless scorekeeping and accounting tricks, which White and Wildavsky label "fakery" (1989). Jones and Euske (1991) describe these efforts by governments to evade or manipulate budgeting rules as "strategic misrepresentation," and Meyers (1994) labels the struggle between spending advocates and those who control spending as "strategic budgeting."

To counter free riding and evasion, collective action theory offers a variety of game theoretic solutions to achieve compliance. These solutions, such as the "Folk Theorem," "Leviathan," and "Leader-Follower," ultimately rely on at least a four-stage process to achieve compliance (Axelrod 1981, 1984, 1986; Bendor and Mookherjee 1987: Bianco and Bates 1990; Hardin 1995; Mueller 1979: Setear 1996, 1997). The first stage, the drafting of the laws and setting of norms and targets, such as balancing the budget, proscribes appropriate behavior and outlines positive and negative incentives. The second stage involves the activation of the rules and their implementation in the form of policy making and administration by the group members, who in this case are the treaty's signatories. The third stage comprises the concurrent monitoring of the signatories' behavior by organizations identified by the treaty. The fourth stage is the sometimes-simultaneous application of rewards and punishments by either the monitoring agency or some designated authority. Thus, to achieve group compliance, rules must be established, criteria for good behavior identified, and transgressing free riders sanctioned.

Each of these stages has its own special role to play in encouraging compliance. The rule-making stage, for example, as in the case of the drafting of the Maastricht Treaty, is a critical one, as governments may intentionally or unintentionally design fiscal restraints to be more or less precise, strict, formal, transparent, enforceable, binding, and open to interpretation (Hallerberg and von Hagen 1997; Heller 1997; von Hagen 1992; von Hagen and Eichengreen 1996a; von Hagen and Harden 1994: Wildavsky and Zapico-Goni 1993; Wildavsky and Jones 1994).

The Maastricht Treaty's drafters granted great latitude to European Commission officials in determining if applicant nations actually met their budgetary goals, and were silent about the specific policies the governments should follow as to how the applicant nations would reach these targets. Though the treaty indicated that governments would receive broad guidelines for their economic policies, these guidelines are truly expansive to the point of being essentially meaningless. In May 1997, for example, France's guidelines consisted of three paragraphs, with the principal recommendation being: "The Council recommends a strict control of public spending to achieve the budget targets set for 1997 and 1998," and that the government should follow its own five-year budget plan.(1) Thus, with this limited guidance the possibility arises that governments may become budgetary free riders to the detriment of other EMU member governments, thereby posing a compliance problem for the fiscal integrity of the collective group of states (Cohen 1993; Eichengreen and Frieden 1994; Haas 1998; Minkkinen and Patomaki 1997; Mizen and Tew 1996; Munchau 1998; van Brabant 1996; Winkler 1996). Moreover, by granting such wide latitude in the treaty's provisions, the rule-making stage may actually encourage governments to engage in strategic budgeting and misrepresentation.

Although the four stages of budgetary compliance are examined here in the context of the Maastricht Treaty, they may easily be applied to other budget agreements. Consider, briefly, Gramm-Rudman-Hollings. The drafting stage in Congress established rules, procedures, and deficit targets. Congress and the White House produced a budget that attempted to comply with the deficit target, of which perhaps the most significant spending cut was an $11.7 billion across-the-board cut in unprotected programs. The Balanced Budget and Deficit Reduction Act of 1985 created a monitoring system that required the Congressional Budget Office (CBO) and the Office of Management and Budget (OMB) to take "snapshots" of the deficit, and report to the General Accounting Office (GAO) the amount of excessive deficit spending. Sanctions were to be imposed in the form of a sequester. Yet the law encouraged "fakery" and "rosy scenarios," as it excluded nearly 70 percent of expenditures from sequestration and incorporated a $10 billion "cushion" above the deficit target, thereby limiting the threat that punitive sequesters would be activated. The Supreme Court's ruling that the GAO's role was unconstitutional, of course, helped to cripple the law's monitoring and sanctioning provisions (Havens 1986; White and Wildavsky 1989).

This article analyzes the Maastricht Treaty and the subsequent attempts at budgetary convergence by France, Italy, and Germany by way of collective action theory and the four stages of compliance. First, those sections of the Maastricht Treaty that address fiscal targets and national budgeting are examined. Particular attention is paid to those institutional and financial incentives created by the treaty to ensure budgetary compliance. Second, the efforts made by the three countries to comply with the treaty by way of cutback budgeting as well as through strategic budgeting and gimmickry are reviewed. Third, the activities of the European Commission agency, Eurostat, which was assigned the duties of monitoring and sanctioning state behavior, are assessed for their success in achieving budgetary compliance.

Drafting the Budgetary Provisions in the Maastricht Treaty

The inclusion of budgetary targets in the Maastricht Treaty reflects the concern that the EMU could be undermined by governments conducting unstable fiscal policies. Germany, in particular, influenced by its own legacy of hyperinflation, expressed reservations about admitting nations into the EMU that had a history of incurring large, chronic deficits financed through inflated currencies and high levels of debt (Kenen 1995; Banchoff 1997). Operating outside a collectivity such as the EMU, these governments alone would be penalized by unfavorable currency exchange and interest rates. As a member of the EMU, however, a government running a loose fiscal policy could pass on the costs of market discipline to the collective. The independence of the European Central Bank itself could be threatened, as it might be pressured to accommodate the needs of an EMU country with high deficits by weakening the euro. Moreover, a contagion effect is possible such that if one government is successfully engaged in free riding, its behavior and that of a tolerant ECB would encourage other governments to act similarly. Finally, the fiscal stimulus produced by these deficits might "spill over" and lead to undesirable aggregate demand effects in other member countries.

Whether these negative externalities would actually occur has been the subject of extensive debate (Buiter, Corsetti, and Roubini 1992; Eichengreen 1992, 1996a, 1996b; Hallett and McAdams 1996; Kenen 1995, 1996). Nevertheless, the designers of the EMU recognized the potential for free riding and sought to limit its presence by focusing on the size of member nations' budget deficits and debt. In 1989, the Delors Report, the blueprint for the Maastricht Treaty authored by French Finance Minister Jacques Delors, declared that "the large and persistent budget deficits in certain countries have remained a source of tensions and have put a disproportionate burden on monetary policy." As a result, the report urged that "binding rules ... [consisting of] effective upper limits on budget deficits of individual countries" be established, as "uncoordinated and divergent national budgetary policies would undermine monetary stability and generate imbalances in the real and financial sectors of the Community" (Kenen 1995, 14-5).

The Maastricht Treaty followed the Delors Report and incorporated its own budget constraints, as urged by the Germans, Dutch, Danes, and British (Moravcsik 1998). The treaty states in Article 104c that EMU member countries "shall avoid excessive" deficits and debt, where excessive was defined as no more than 3 percent of Gross Domestic Product (GDP) for budget deficits and no more than 60 percent of GDP for the national debt. These ceilings were not absolute, however, and the treaty refers to them as "reference values." The treaty declared that a country might still qualify for membership if the level of deficit and debt as a percent of GDP "has declined substantially and continuously and reached a level that comes close to the reference value." Moreover, the Council of Economic and Finance Ministers (ECOFIN), which would determine whether the deficit or debt was excessive, must consider whether the deficit reflects operating or investment expenditures, and the "medium-term economic and budgetary position" of the government. The first set of member countries would be determined in March 1998, when, in fact, 11 nations--Austria, Belgium, Finland, France, Germany, Ireland, Italy, Luxembourg, Netherlands, Portugal, and Spain--the newly declared "Euro--Eleven," were admitted to EMU status. Their success in meeting the targets is shown in table 1. Other governments applying for future membership must meet the same criteria.
Table 1 Budget Deficits and Debt in the Euro-Eleven

              General government surplus
              (+)/deficit (-)
              (as a percentage of GDP)

              1996   1997   1998

Austria       -4.0   -2.5   -2.3
Belgium       -3.2   -2.1   -1.7
Finland       -3.3   -0.9   -0.3
France        -4.1   -3.0   -2.9
Germany       -3.4   -2.7   -2.5
Ireland       -0.4   +0.9   +1.1
Italy         -6.7   -2.7   -2.7
Luxemburg     +2.5   +1.7   +1.0
Netherlands   -2.3   -1.4   -1.0
Portugal      -3.2   -2.5   -2.2
Spain         -4.6   -2.6   -2.2

              General government gross debt
               (as a percentage of GDP)

              1996    1997    1998

Austria        69.5    66.1    64.7
Belgium       126.9   122.2   118.1
Finland        57.6    55.8    53.6
France         55.7    58.0    58.1
Germany        60.4    61.3    61.2
Ireland        72.7    66.3    59.5
Italy         124.0   121.6   118.1
Luxemburg       6.6     6.7     7.1
Netherlands    77.2    72.1    70.0
Portugal       65.0    62.0    60.0
Spain          70.1    68.8    67.4

Source: Convergence Report, European Monetary Institute, March 1998.


Although the treaty granted a great deal of latitude to ECOFIN in determining the existence of an excessive deficit or debt, there can be little doubt that the reference values have been taken seriously by government leaders in the development of their budgets. So one important question is, why did the framers of the treaty select these targets?

The key discussions over what constituted proper reference values took place in the European Commission's Monetary Committee. Representatives from Germany and Holland both firmly supported the idea that deficits in the current account or operating budget should simply be prohibited. This proposal was rejected because of the difficulty of separating capital or investment expenditures and debt from the operating budget. Furthermore, such a limitation would cripple anti-cyclical policies during recessions. France and Italy defended the use of high-employment or cyclically adjusted budgets, but this idea too was rejected because of measurement problems. Multiyear budget targets were ruled out due to their dependence on fiscal estimates rather than actual revenues, expenditures, and debt. Consequently, annual budget deficits and debt levels, as measured by ratios to GDP, became the reference values for fiscal convergence.

The debt reference value was selected because it was the approximate average of European Union (EU) government debt, which for the 15 member countries stood at 57 percent of GDP. The treaty's framers also assumed a nominal long-term growth rate of 5 percent for the EU, and set the deficit value at 3 percent. In the case of the debt level, the Monetary Committee looked at the gross debt because for several countries there was no measure of net debt. Nevertheless, France, Italy, and England, in particular, objected to precise deficit targets and argued for greater fiscal flexibility, especially as looking at single-year deficit and debt levels ignored broader economic and fiscal dynamics. The deficit target was obtained by employing the formula of multiplying the rounded debt average of 60 percent by the projected growth rate of .05 percent, which produced 3 percent. So, as a compromise, the 3 and 60 percent targets became "reference values" rather than exact ceilings (Bini-Smaghi, Pado-Schioppa, and Papadia 1994; Stoiber 1997). Paradoxically, the debt formula was counter--countercyclical. The higher the assumed GDP growth rate, the greater the level of permissible deficit or debt, and the smaller the GDP growth rate, the lower the level of permitted deficit spending. Therefore, the very purpose of the formula, to impose fiscal restraint, actually ran counter to this goal. This aspect of the formula was not considered, however, for the GDP growth rate was frozen at 5 percent, and the formula was employed in a static rather than dynamic form.

Thus, the Maastricht Treaty incorporates significant leeway and political judgment in its budgetary provisions, as the treaty was drafted to accommodate a broad set of interests. At the same time, the central actor at Maastricht was Germany, the largest and healthiest economy in Europe, and there would be no EMU unless Germany was satisfied that the euro was fiscally sound. Specified numerical reference values were required. Furthermore, even if the values were not considered hard ceilings by treaty standards, domestic politics would make them so.

The German Growth and Stability Pact

In November 1995, German officials, concerned that the treaty required harsher sanctions for countries that violated the treaty's terms, presented Germany's plans for a "stability pact" to guarantee the fiscal credibility of the EMU by imposing fines for "excessive deficits." In the first year the fine would comprise a fixed .2 percent of GDP and a variable portion of .1 percent for every percent above the 3 percent treaty target, with a maximum fine of .5 percent of GDP. The fine would take effect four months after a country's deficit was identified as excessive, and if that country failed to take action to bring the deficit down to at least 3 percent. Germany originally proposed that the fine be distributed among those EMU members with the appropriate deficit level, but this provision was revised so that fines would be deposited in noninterest-bearing accounts with the European Central Bank, with the total returned to the offending country once it complied with the 3 percent target. The deposit would be lost, however, if excessive deficits persisted for more than two years. Furthermore, a clause was added that permitted the excusing of sanctions if exceptional conditions applied, such as a recession. The pact was also weakened by making it a regulation rather than giving it the full force of a treaty within the EMU, and by requiring the EMU finance ministers to agree among themselves to impose the fines rather than making them an automatic response to the size of a national deficit. By July 1997, the main provisions of the stability pact had been adopted as a European Council regulation. The next step in the compliance process required applicant nations to make sometimes very painful changes in their fiscal behavior to meet the treaty's budgetary requirements.

Meeting the Treaty Deficit and Debt Targets

To comply with the treaty's targets while responding to Eurostat's oversight, many of the Euro-Eleven were forced to make significant changes in their fiscal policies by engaging in what has come to be known as "cutback budgeting." Cutback budgeting employs such familiar strategies as increasing revenues, imposing across-the-board spending cuts, privatization, asset sales, programmatic reductions, passing on financial obligations to lower levels of government, and trimming central government assistance (Caiden 1990; Levine, Rubin, and Wolohojan 1981; Pammer 1990; Rubin 1982: Savage and Schwartz 1999; Schick 1983, 1986, 1988, 1990). The governments also turned, at times, to creative accounting and budgetary gimmickry, particularly when the task of meeting the targets appeared especially daunting. How these governments elected to enact these fiscal changes reflects the domestic as well as international politics and interests of the various nations, as suggested by a brief review of the fiscal and budgetary choices made by the three most important countries in the Euro--Eleven: France, Italy, and Germany.(2) In each of these countries, treaty compliance focused on the budget deficit, for as the March 1998 evaluation point drew nearer, little could be done to alter a nation's debt load as compared to making changes in its much smaller deficit. Figure 1 illustrates the deficit positions of the three countries leading up to the March date.

[ILLUSTRATION OMITTED]

France

Conservative President Jacques Chirac and Prime Minister Alain Juppe were committed to meeting the treaty's targets by reducing government spending, cutting social programs, and privatizing. To bring the 1997 deficit clown to 3.1 percent from 4.1 percent in 1996, Chirac's conservative majority enacted a $5.2 billion deficit reduction package that included a 2 percent real cut in spending, a reduction of 8,000 civil service jobs, a means test for family allowances, increased pension taxes, new taxes on fuel, alcohol, and tobacco, and a one-time 10 percent tax on corporate earnings. A crucial element in Juppe's plan was the $5 billion partial sale of France Telecom, the state-owned communications company, without which the deficit would be 4.1 percent. These measures, and others enacted since Chirac's election in 1995, caused considerable unrest in France and resulted in numerous protests: Most notable were the transportation strikes that shut down much of the nation. The government consequently was forced to accept a full pay pension for truck drivers at the age of 55.

Chirac decided to call parliamentary elections a year earlier than required because, despite these budgetary constraints, France's 1997 deficit still was growing. In July 1997, the month of the election, the deficit was estimated at 3.6 percent. To impose the additional cuts and revenues that were required to bring the deficit down to their 3.1 percent goal, Chirac and Juppe reasoned they needed the mandate of a new parliament. To their chagrin, however, the socialist Lionel Jospin was elected prime minister, and these results opened to speculation France's willingness to make the fiscal sacrifices required for EMU membership.

Jospin never fully rejected the treaty's deficit and debt targets, yet he pledged to reduce France's 12.7 percent unemployment rate through the creation of 700,000 new public jobs for young people, limiting Chirac's privatization plans, reducing the sales tax, increasing the minimum wage by 4 percent, and establishing a 35- to 39-hour workweek. These programmatic activities were obviously in conflict with the treaty requirements.

Faced with this budgetary conundrum, Jospin adopted a surprisingly tough fiscal policy described as "left realism," both to achieve the treaty targets and to limit further growth in France's debt that could constrain future social spending. Even as the unemployed staged six weeks of protests against fiscal austerity, Jospin declared, "If we don't control our budget deficit we'll create more debt. If we create more debt the means of the state can't be concentrated on education, welfare, housing, research, [or] transport, but just on paying the debt" (Swardson 1998, 822). To lower the 1997 deficit, Jospin reversed his stand against the partial privatization of France Telecom in order to realize $7.5 billion in revenues. The government also imposed retroactive corporate taxes, and, in addition, obtained "contributions" from several state-owned electric and financial companies. For the 1998 budget, Jospin's left coalition government allowed spending to grow by 1.4 percent, a cut in real terms. He imposed $6.7 billion in taxes, cut defense spending by 2.1 percent, and reduced his public employment target from 700,000 to 350,000. Furthermore, despite high unemployment, Jospin refused socialist efforts to give end-of-the-year unemployment payments and raise these benefits to the equivalence of the minimum wage.

Greatly aided by a European-wide economic recovery that began to produce higher than estimated tax revenues in mid and late 1997, France's 1997 deficit fell to 3.0 percent, with the 1998 deficit estimated at 2.9 percent. The debt for 1998, meanwhile, was estimated at 58.1 percent.

Italy

To reach the treaty targets, Prime Minister Romano Prodi's government was forced to offer two budgets for fiscal year 1997. The first, passed in November 1996, required 2,000 separate parliamentary votes cast over 11 days, to find $25 billion in spending cuts and revenues. The cuts were generated primarily by a 5 percent across-the-board reduction in ministerial accounts, a hiring freeze, closing hospitals, trimming the length of military service by two months, and limiting railroad subsidies. Italy's privatization efforts included the sale of Autostrade, the toll road system, for $2.6 billion, and a 41 percent share in the Rome airport for approximately $300 million. The government counted a gold transfer between the Bank of Italy and the Italian exchange office as $1.73 billion in new revenues.

Despite these spending reductions and new taxes, in April 1997, Prodi was forced to offer a second "minibudget" to raise $9 billion, equal to .8 percent of GDP. Among the controversial items in the minibudget was the $3.7 billion "eurotax," a one-time tax that was really an enforced loan, as refunds would later be issued to taxpayers. Encouraged by France's use of one-time asset sales, a month before the introduction of the tax Prodi declared, "If others carry out window dressing, we can do the same."(3) Theo Waigel, Germany's finance minister, claimed the tax was simply an attempt to "cook the books" (Paterson and Smart 1997). The budget also forced accelerated corporate pension payments and inheritance taxes to the government, and imposed additional across-the-board cuts in agency budgets. All of this would bring the deficit down to an estimated 3.8 percent, but to pass this budget, Prodi was forced to call for and win a vote of confidence in the Chamber of Deputies.

Gaining approval of the 1998 budget was even more difficult, requiring Prodi at one point to resign his office before he could assemble a winning parliamentary coalition. To reduce the deficit to 2.8 percent, another $14.5 billion in spending cuts and revenues were necessary. The budget included $6 billion in revenues primarily derived from increased value-added and capital gains taxes, and $8 billion in cuts. Prodi's majority coalition splintered over these cuts, specifically the $2.9 billion reduction in pension and health care programs. The Reconstructed Communism party demanded that these programs be restored to full funding and demanded a 35-hour workweek. In anticipation of these cuts 100,000 public employees filed for early retirement. Prodi resigned in the face of this opposition, but after five days of negotiations an agreement was reached to accept the 35-hour workweek and $291 million less in pension cuts. This amount would be made up by more "efficient tax collections." Moreover, spending cuts altogether would be reduced to just $2.3 billion--about one-third of those originally proposed.

Germany

West Germany's economy was the strongest in Europe during the 1980s, but the burden of reunification in 1990 became a great financial drag. Germany's national debt grew from 41.5 percent in 1991 to 61.3 percent in 1997, and by 1998 the unemployment rate in the old East Germany reached 21 percent. Nevertheless, Prime Minister Helmut Kohl, an architect of the Maastricht Treaty, pledged that Germany would qualify for EMU status. This meant reducing the budget deficit from its estimated 4.2 percent level in 1996 to 3.3 percent for 1997 in the presence of what appeared to be a deepening economic crisis.

The 1997 budget reduced spending by 2.5 percent and trimmed the federal workforce by 5 percent over four years. The Transport ministry's budget would be reduced by 9.9 percent, Education and Research by 2.5 percent, and Labor by 2 percent. Kohl cut sick pay by 20 percent, reduced the value of health insurance plans, raised the retirement age from 63 to 65 for men and 60 to 65 for women, and raised pension contributions to their highest postwar level. The government deferred $3.5 billion in federal payments to reduce old East German debts. Kohl also relied on privatization measures, including selling Lufthansa for $2.8 billion and government oil reserves for some $850 million.

Despite these efforts, the government required special approval from the Bundestag to override the German constitution. Article 115 of the Basic Law sets out the "golden rule" of German budgeting--that net federal borrowing be less than the amount allocated for investment. Germany's economic woes drove up the level of borrowing from $30.5 billion to $40.7 billion, more than the investment budget of $33.8 billion. The total debt load grew from 60.4 percent in 1996 to 61.3 percent in 1997, in excess of the 60 percent treaty target.

Far more controversial than exceeding the Basic Law, however, was Finance Minister Theo Waigel's attempt to count an $11 billion reevaluation of Germany's gold supply as 1997 revenues, in what Waigel called the "redemption account for historic burdens." Other countries regularly revalued their gold--Italy every three months, and most other European nations every year. Yet Waigel's timing provoked a firestorm of criticism throughout Europe, for Germany's finances ordinarily were beyond reproach and the revaluation was viewed as just an accounting gimmick. "Our German friends," France's Lionel Jospin declared, "who are so rigorous about the criteria, are looking to see if they can't fudge things" (Buchanan 1997, 2). The Italian foreign minister, in retaliation for Waigel's criticism of Italy's euro tax, announced that Waigel was guilty of "accounting tricks," a charge Waigel retorted was "impertinence" (Paterson and Smart 1997). Within Germany, Hans Tietmeyer, president of the Bundesbank, demanded that the deficit goal be fairly met without using the revaluation to prevent the creation of a "soft" euro currency. Finally capitulating to this political pressure, Waigel agreed to the Bundesbank's demand that any revaluation be counted in 1998 rather than 1997, but in its place the government revalued its foreign exchange reserves to produce up to $10 billion to trim the deficit.

The revival of Germany's economy in late 1997 meant that less severe budgetary choices were needed to meet the 3.0 deficit level for the following year. Still, the 1998 budget would allow spending to grow by just .5 percent, with nominal cuts in 12 departments and the closing of the post and telecoms ministry. The coal subsidy would be cut, the redemption of the railroad debt deferred, and privatization continued through the sale of the Postbank. By March 1998, the 1997 deficit stood at just 2.7 percent and the 1998 deficit at 2.5 percent--more than acceptable levels for EMU membership.

Finally, a defining characteristic of Germany's budgetary decisions, as was also true for France and Italy, was the heavy reliance upon one-time revenue enhancers mixed with across-the-board spending cuts. Governments often turn to such fiscal remedies to reduce political conflict and to meet balanced budget, spending, deficit, and debt targets. Across-the-board cuts may reduce political opposition by imposing a shared fiscal burden and be the easiest of cuts to achieve, but they reflect a government that is administratively or politically unable or unwilling to set priorities. Each of the three countries also relied upon large-scale asset sales and privatization. These sales on the one hand were indicative of sometimes-tense ideological debates on the role of the state, but on the other hand their use also suggested a quick-fix, one-time boost in revenues to fulfill the Maastricht Treaty's budgetary targets. Meanwhile, these governments generally avoided making politically tough decisions about entitlements, welfare, and pension programs.

Monitoring and Enforcing the Maastricht Treaty

The Maastricht Treaty created incentives for governments to engage in free riding and budgetary gimmickry. Although the treaty sets deficit and debt convergence targets, it permits governments to pursue these targets largely at their own discretion. This independence raises the possibility that governments might engage in budgetary gimmickry and free riding to meet the targets, as they have experienced intense political and economic pressure both to join and remain members of the EMU. The free rider problem here is that if a government engages in strategic budgeting to meet the targets, it may mask its fiscal weaknesses while qualifying for EMU membership. The other nations that legitimately meet the targets would then absorb the financial burdens and risks of fiscally weak member economies in the EMU.

The standard solutions to the free rider problem in the collective action literature include monitoring the behavior of group members, imposing negative sanctions, and making side payments or positive sanctions to induce cooperative behavior (Mueller 1979; Axelrod 1984; Hardin 1995). To limit the excesses of what has been termed strategic budgeting, creative accounting, or just plain gimmickry, the signatories of the treaty adopted several solutions. They relied upon an international agency to monitor the budgetary practices of applicant governments and to make rulings as to whether these practices were acceptable. Further, as noted by way of Germany's proposed "stability pact," the treaty established fiscal penalties that could be imposed on governments that exceeded the treaty's debt and deficit targets.

Eurostat

Eurostat, a European Commission agency whose regular duties consisted of collecting statistical data on the European Communities, was charged with monitoring the budgets of applicant countries to ensure that they complied with the European System of Accounts (ESA). The ESA is a centralized accounting framework that covers a broad range of government operations and transactions for a national economy, to which applicant countries must conform. As part of its enforcement powers, in conjunction with ESA, Eurostat can rule whether a government's fiscal decisions affect its deficit or debt GDP levels, and hence influence its ability to obtain or possibly retain EMU status. Eurostat's responsibilities and powers, therefore, are somewhat similar to the American agencies, the GAO, CBO, and OMB. Eurostat shares GAO's accounting duties, but exercises real sanctioning authority where GAO's power is primarily advisory in nature. Eurostat carries out the scorekeeping function of CBO and OMB, but, unlike OMB, it is not involved in budget preparation or advocacy. Eurostat probably is closest to the CBO in that both agencies are nonpartisan, yet Eurostat's rulings are more far reaching in effect and apply to many nations rather than just one.

In the years leading up to the March 1998 evaluation date for the first wave of EMU membership, Eurostat issued a number of critical rulings, some of which were highly controversial and came at critical moments as governments were attempting to control their deficits and debt:

* A Eurostat ruling permitted France to count a $6.75 billion payment from France Telecom to the government to cover pension liabilities toward the deficit. France was also permitted to disallow liabilities incurred from fungible bonds from deficit calculations.

* The Italian eurotax was counted as a new tax rather than an advanced loan, even though the tax would later be refunded. Eurostat also approved the counting of interest on postal bonds and the amortization of railroad debt to reduce the deficit, but ruled new railroad debt would be added to Italy's debt.

* Eurostat ruled that income derived from gold sales between government agencies could not be counted as revenues in deficit calculations. This applied to Germany, Spain, Italy, and Belgium, though in the case of Belgium the transfer could count against its debt level. In Italy's case, this sale amounted to $1.74 billion, or .15 of GDP: $2.4 billion for Belgium, or 1 percent of GDP; and $11 billion for Germany.

* Germany was permitted to exclude from its public debt $2.7 billion in hospital debts, amounting to .2 percent of GDP and counted as private sector debt.

* Finland was ordered to increase its 1996 deficit level from 2.6 percent to 3.1 percent, due in part to a recalculation of loans incurred by its public housing agency.

Eurostat's rulings appear overall to have favored the various governments' efforts to reach the treaty targets, especially when the vitally important EMU memberships of Germany and France have been concerned. The decision to permit the revenues from the partial privatization of France Telecom to count toward the treaty targets and the exclusion of Germany's hospital debt came at crucial moments for those countries. In the case of the hospital debt, for example, Germany projected a 3.2 percent of GDP deficit, .2 percent over the target; the Eurostat ruling brought the deficit down to 3 percent, exactly the target level. Moreover, even though the ruling against counting revenues derived from internal gold sales from deficit calculations penalized Germany, this decision was in step with the powerful Bundesbank's ruling on the matter. Still, without an in-depth analysis of how Eurostat's administration of ESA influenced the day-to-day fiscal decisions of applicant governments, it would be premature to claim that Eurostat's rulings were lenient or politically influenced.

Nevertheless, in March 1998, the European Monetary Institute evaluated the financial data compiled by Eurostat to recommend which nations would be admitted into the EMU. The Euro-Eleven met the Maastricht Treaty's numerical deficit target and five countries met the numerical debt target. Those governments not meeting the numerical target did fulfill the treaty's provision that the debt level decline significantly toward the reference value. Thus, these governments formally complied with the treaty despite budgetary behavior that even fellow EMU members sometimes regarded skeptically.

Conclusion

Treaties and other forms of budgetary agreements create potential compliance and free rider problems. The four principal steps in controlling free riders are the drafting of strict budgetary rules and agreements to reduce potential gimmickry and strategic misrepresentation; the dutiful enactment and implementation of legislation that seeks to meet the goals and targets specified in those agreements; the monitoring of behavior to determine if compliance is occurring; and the imposition of appropriate positive and negative sanctions. Each stage bears its own responsibility for controlling free riders, but collective action theory places particular emphasis on the monitoring and sanctioning provisions of a collective agreement to preserve group cooperation. In the case of the Maastricht Treaty, the EU relied heavily upon Eurostat and a set of international accounting standards to enforce the treaty's budgetary norms and rules. Eurostat's presence as a monitor, however, did not fully deter governments from engaging in a host of budgetary and accounting gimmickry, and it may be that this mixed enforcement record carries with it an important implication for the application of collective action theory to such budgetary agreements.

To ensure that the group's overarching goal succeeded, namely the creation of the EMU, the members of the collective turned something of a blind eye toward some egregious strategic budgeting by a few key group members. In other words, at critical moments in the life of an organization, such as its founding, some free ridership in a collective action situation actually may be necessary for a group to achieve its initial cohesion and realize its purposes. Obvious tensions are created among group members when they engage in "selective enforcement," as the insulting comments exchanged among several of the finance ministers indicate. Nevertheless, in the case of Maastricht, the exclusion of certain nations, particularly Germany and France and perhaps even Italy, from EMU membership would have seriously undermined the creation of the entire EMU enterprise, despite the consequences for the EMU's long-term fiscal integrity. So, as a matter of timing, it was ultimately more important to the group's purpose that some free riding be tolerated in its formative stages than that all governments adopt budgets completely free of gimmicks. Thus, Wildavsky's (1965) observation that "budgets are manifestly political documents," also applies to the oversight and enforcement of budgeting agreements. In this sense, over the life of an organization, its institutional and administrative arrangements and processes may be more likely to be decisive in controlling government expenditures, deficits, and debt than flexible treaties and budget agreements (Eichengreen 1996b; Grilli, Mascinandaro, and Tabelli 1991; Roubini and Sachs 1989a, 1989b). Yet, it is also true that the norms and targets in treaties and agreements help set the standards that determine when institutional change is necessary. "At the very least," as Jon Elster noted, "norms are soft constraints on action" (1989).

Finally, this study of the Maastricht Treaty suggests the critical role of budgeting and public administration in contemporary international affairs, as well as what might be called the internationalization of budgeting. If, for example, the monetary and economic integration of Europe is a function of fiscal convergence, then how are budgetary decisions and processes of individual countries influenced by external oversight agencies such as Eurostat? How do centralized accounting rules, such as the ESA, affect how governments organize their own budgets? Under what circumstances and how do governments engage in fakery, strategic misrepresentation, and strategic budgeting when they seek to evade international oversight? Inspired by the experience of the EMU, these are some of the questions in the fields of budgeting and comparative public administration that deserve further study.

Acknowledgment

The author would like to thank Irene Rubin, for her many insightful recommendations that significantly improved this article.

Notes

(1.) European Report. 1997. Finance Council: Ministers Adopt Nine Recommendations on Excessive Deficits. May 14, 4.

(2.) The sources for this review of French, Italian, and German fiscal policy decisions include various newspapers and magazines, press releases from government information offices, reports issued by the various agencies of the European Commission and Union, including Eurostat, the European Monetary Institute--especially its March 1998 Convergence Report--the European Parliament's Task Force on Economic and Monetary Union, and country reports of the Organization for Economic Cooperation and Development.

(3.) The Financial Times. 1996. Roman Numerals. November 20, 16.

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James O. Savage is a professor in the Department of Government and Foreign Affairs at the University of Virginia, and is author of Balanced Budgets and American Politics (Cornell University Press) and Funding Science in America: Congress, Universities, and the Politics of the Academic Pork Barrel (Cambridge University Press). Email: jds2y@cms.mail.virginia.edu.
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