answer is less clear-cut. Reduced wage costs and greater flexibility should cause firms to invest more, but cutting long-cherished benefits and weakening safety nets may also prompt workers important for Europe to get its macroeconomic policy rig ent is tough that is why it is so to save more, particularly if the overall economic environm Tight-fisted his presents a problem For despite continental Europe' s economic weakness, macroeconomic olicy there has been far tighter than in America or indeed in Britain. This year, fiscal policy in America has been loosened by almost 2% of GDP, whereas in the euro area as a whole, and especially in Germany it is being tightened(see chart 9) The tight fiscal policy in Europe has resulted mainly from Europe's self-imposed policy strictures, particularly the Stability and growth Pact. This requires countries in the Who's easy? euro zone to limit deficits to a maximum of 3% of GDP, Policy changes, 2000-02 other than in extraordinary economic circumstances Countries that run excess deficits and fail to reduce them 8o.5 Japan. can be fined by the European Union. But the efforts to comply with the pact have led to perverse results. Earlier/a 1.o Germany. Euro area Italy this year, for instance, Germany was talking about raising taxes in the middle of a recession to get its budget deficit down s Britain s2.5 However, the roots of Europe's macroeconomic stance go 53432 1-0+12 well beyond the stability pact. Whereas America has Change in structural fiscai balance rediscovered Keynes with a vengeance, European officials remain deeply sceptical about the ability of macroeconomic loosening, and particularly fiscal Expected policy changes, 2002-03 loosening, to smooth economic cycles. European German economists, including several based at American in theory, fiscal tightening(especially spending cuts)can/5Is. United States,francet universities, have spearheaded research that shows how,1.0 Italy Canada actually boost the economy. a recent study by the European Commission claimed that roughly half the Easier instances of fiscal tightening in the eu during the past 器25 decade had been followed by faster economic growth 3.0 Conversely, they argue, the evidence that fiscal 4321-0+12 expansion works is much thinner. Chonge in structural fiscal balance of potential GDP They have a point. Given that Europe's overall fiscal Source: IMF position is worse than America s-with higher tax rates and bigger debt burdens-there is less room for loosening and greater benefits to be reaped from discipline. But that does not mean that fiscal policy has no role to play Indeed, Europe's big economies now seem to be coming round to the view that it has. france, Germany and Italy as well as Portugal, are currently flouting the 3% ceiling on deficits. Yet Germany is hoping to bring forward much-needed tax cuts that are likely to make the deficit orse. France, too, looks set to breach the stability pact again next year and Jacques Chirac France's president, advocated a temporary softening"of it this summer. The point is not thatanswer is less clear-cut. Reduced wage costs and greater flexibility should cause firms to invest more, but cutting long-cherished benefits and weakening safety nets may also prompt workers to save more, particularly if the overall economic environment is tough. That is why it is so important for Europe to get its macroeconomic policy right. Tight-fisted This presents a problem. For despite continental Europe's economic weakness, macroeconomic policy there has been far tighter than in America or indeed in Britain. This year, fiscal policy in America has been loosened by almost 2% of GDP, whereas in the euro area as a whole, and especially in Germany, it is being tightened (see chart 9). The tight fiscal policy in Europe has resulted mainly from Europe's self-imposed policy strictures, particularly the Stability and Growth Pact. This requires countries in the euro zone to limit deficits to a maximum of 3% of GDP, other than in extraordinary economic circumstances. Countries that run excess deficits and fail to reduce them can be fined by the European Union. But the efforts to comply with the pact have led to perverse results. Earlier this year, for instance, Germany was talking about raising taxes in the middle of a recession to get its budget deficit down. However, the roots of Europe's macroeconomic stance go well beyond the stability pact. Whereas America has rediscovered Keynes with a vengeance, European officials remain deeply sceptical about the ability of macroeconomic loosening, and particularly fiscal loosening, to smooth economic cycles. European economists, including several based at American universities, have spearheaded research that shows how, in theory, fiscal tightening (especially spending cuts) can actually boost the economy. A recent study by the European Commission claimed that roughly half the instances of fiscal tightening in the EU during the past decade had been followed by faster economic growth. Conversely, they argue, the evidence that fiscal expansion works is much thinner. They have a point. Given that Europe's overall fiscal position is worse than America's—with higher tax rates and bigger debt burdens—there is less room for loosening and greater benefits to be reaped from discipline. But that does not mean that fiscal policy has no role to play. Indeed, Europe's big economies now seem to be coming round to the view that it has. France, Germany and Italy, as well as Portugal, are currently flouting the 3% ceiling on deficits. Yet Germany is hoping to bring forward much-needed tax cuts that are likely to make the deficit worse. France, too, looks set to breach the stability pact again next year and Jacques Chirac, France's president, advocated a “temporary softening” of it this summer. The point is not that