EU to Take More Fiscal Control

By CHARLES FORELLE And MATTHEW DALTON

BRUSSELS—The European Union's executive arm called for centralized review of member countries' budgets, a first step toward a tighter integration of fiscal affairs in Europe that would have been all but unthinkable just a few months ago.

The European Commission proposed Wednesday that EU governments submit their budgets to Brussels for review by other governments before they are passed by parliaments. It also advocated punitive measures for countries that flout the EU's budget rules. These could include cutting them off from EU subsidies and forcing them to make deposits to a rainy-day fund.

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Olli Rehn, shown here on Monday, proposed tighter fiscal coordination within the euro zone.

It is difficult to predict how the rules will finally take form. EU countries have long reserved supreme authority over taxing and spending to national parliaments, and there remains resistance, particularly in Germany, to ceding that control. But as the Greek fiscal crisis has rippled through the euro zone, European policymakers have argued forcefully that more centralized budget controls are necessary to prevent such crises from fracturing the currency union.

The commission's ideas came in a vague "communication" that sets out in broad strokes what the executive arm would like to do. Separately, a task force assembled by EU President Herman Van Rompuy, who represents the interests of the 27 national governments, is working on policies.

Chart: Behind the Euro-Zone Bailout

The commission said it would move quickly to propose new laws based on the communication, so that the new "peer-review" process could start at the beginning of next year.

"Coordination of fiscal policy has to be conducted in advance, in order to ensure that national budgets are consistent with the European dimension, that they don't put at risk the stability of the other member states," the EU's economic-affairs commissioner, Olli Rehn, said in a statement.

Earlier this week, European Union countries and the International Monetary Fund announced they would dedicate up to €750 billion ($955 billion) to help EU nations should they, like Greece, become unable to borrow on capital markets. Their announcement, in the wee hours of Monday morning, appears to have soothed investors, at least in the short term.

The euro slid slightly Wednesday and prices of euro-zone government bonds remained steadily higher than their alarm-bell levels late last week.

The IMF's top official for Europe, Marek Belka, said in comments to reporters Wednesday that the fund stood ready for even more help. "As much as the Europeans need, we are prepared to provide," he said. Mr. Belka said the IMF, which is contributing up to one-third of the €750 billion package, backed closer fiscal coordination in Europe.

"The fiscal house of the European Union is unfinished and it has gaps," he said. "Those gaps must be filled."

Mr. Belka said that short-term fiscal transfers—that is, direct payments from one country's budget to another—were "one of those innovative ideas that Europeans should now discuss." The fiscal-transfer notion, which would reduce the risk that governments would build unsustainable debt burdens, was broached by his boss, IMF chief Dominique Strauss-Kahn in an interview with the Financial Times printed Wednesday.

The European Commission's proposals focus in large part on the 16-member euro-zone, where fiscal policy of one state most directly affects others, though some of the surveillance measures would apply to the broader EU.

With any new rule, the commission must toe a delicate line between national sovereignty and tougher, centralized oversight. In the budget process the commission envisions, the European Council, representing the national governments, and the commission would identify the EU's main economic challenges early each year. Governments would take this analysis into account when preparing their budgets for the following year, which would be submitted to the commission and evaluated.

The council, based on the commission's evaluation, would then make recommendations while national budgets were still being prepared.

Inside the euro zone, there would be a somewhat tougher system under which direct revisions to budgets could be recommended "in case of obvious inadequacies," the commission wrote in its proposal.

The commission also signaled its comfort with the €500 billion European share of the backstop being put in place now, which comprises €60 billion from the EU budget and €440 billion raised on the markets through a special entity backed by the euro-zone countries. It said it would propose legislation for a "permanent crisis resolution mechanism" in the future to replace this temporary facility.

Write to Charles Forelle at charles.forelle@wsj.com and Matthew Dalton at Matthew.Dalton@dowjones.com