The Stability and Growth Pact is too restrictive for some, writes Denis Staunton, in Brussels

When it was agreed in Dublin in December 1996, the Stability and Growth Pact was designed to give credibility to the euro by imposing budget discipline on euro-zone governments. At Germany's insistence, governments were ordered to keep budget deficits below 3 per cent and to achieve balanced budgets within a few years.

Germany, with its traumatic history of hyperinflation, was determined that the new currency should be as strong as its cherished deutschmark. The same anxiety underpinned Berlin's demand that the European Central Bank (ECB) should be as similar to the Bundesbank as possible.

At first, the pact was known colloquially as the Stability Pact and few governments gave much thought that it was supposed to be about economic growth as well as budget discipline.

But as Europe experiences little economic growth and low inflation, some EU governments are beginning to see the pact as a straitjacket. Germany was, ironically, the first member-state to kick against the pact's constraints, making clear earlier this year that it could only balance its budget by 2004 if its economy grows by 2.5 per cent a year. Few economists believe such a growth rate is likely.

The euro zone's second biggest economy, France, was next, declaring that it would need 3 per cent growth to keep its promise by 2004.

Italy's government insists that it is on course to abide by the rules but nobody in Brussels is banking on that promise.

This week, Portugal's prime minister suggested his country might have run a deficit of 3.9 per cent last year - well in excess of the pact's limit.

The Minister for Finance, Mr McCreevy, moved gallantly to Portugal's defence yesterday, pointing out that the new, centre-right government in Lisbon was taking action to prune the budget.

But he could scarcely conceal his glee at the fact that, although the Republic was reprimanded for breaching the Broad Economic Policy Guidelines last year, it was the big member-states that were committing what he called "the mortal, reserve sin" of contravening the Stability and Growth Pact.

Some member-states are clearly itching to loosen the pact's rules but the ECB's fierce opposition and fears for the euro's credibility should ensure that there is no fundamental change.

But Economic Affairs Commissioner Mr Pedro Solbes suggested this week that he was open to a re-interpretation of the rules that would create more flexibility. He stressed that such flexibility would be allowed only to those governments that had shown fiscal prudence and where public debt levels were low.

Mr McCreevy suggested yesterday that a looser interpretation would take into account the fact that the Republic needed to invest in infrastructure to guarantee economic success in the future. But he acknowledged that distinguishing between current and capital expenditure was not always easy.

Discussion of the Stability and Growth Pact has been inhibited until now by fears that it would damage the euro. But as speculation on the pact's future escalated this week, the markets gave their own response and the euro continued to soar.