THE EUROPEAN Commission is seeking the power to impose policy measures on countries with disproportionate increases in property and labour prices even if their public finances remain within EU budget limits.

EU economics commissioner Olli Rehn yesterday laid down plans to suspend or cancel agricultural and fisheries funding for member states who consistently flout the budget rules. If accepted, such proposals would mark a big escalation of pressure on member states from Brussels to keep their budgets in check.

Mr Rehn also pinpointed Ireland as a country which would have benefited from measures to prevent the emergence of “excessive” economic imbalances.

Although he said countries such as Ireland and Spain had “very healthy” public finances when they entered the financial crisis, price developments in the housing markets in both countries would have triggered a warning mechanism years before their economies turned.

“We ran a simulation of our macroeconomic models of the years 2004 and 2007 and the indicators we have in mind . . . would have given quite relevant warnings on the basis of the allowed thresholds for countries like, of course Greece, but also countries like Spain and Ireland,” Mr Rehn told reporters.

“The intention is that the excessive imbalances position would lead to recommendations in the council [of finance ministers] and any country should respect the recommendations of the council.”

Euro zone countries should face an “enforcement mechanism” in the case of serious and repetitive breaches of such recommendations, Mr Rehn added,

He was speaking as European markets bounced, reflecting an easing of fears that the withdrawal by the European Central Bank (ECB) of a special one-year liquidity scheme for banks would lead to a spike in demand for three-month money.

Amid renewed anxiety about banking and sovereign debt stress in Europe, the ECB said 171 banks borrowed €131.9 billion yesterday. Such lending was below expectations of demand for some €210 billion in advance of the expiry today of €442 billion in one-year emergency loans and was read as a sign that interbank money markets are functioning.

The mood, however, remains one of caution ahead of the publication this month of stress tests on a swathe of European banks. Such tests, now likely to assess their exposure to sovereign debt, are designed to ease unfounded suspicion over institutions’ exposure to sovereign risk.

Asked whether sanctions should be automatic or whether there should be political discretion, Mr Rehn said they should be “rules-based” and applied consistently. Whereas fines can be levied under the current stability and growth pact, Europe’s leaders never took the opportunity to impose such penalties even when countries consistently broke budget guidelines. Mr Rehn now says the European authorities should use the EU budget as “additional leverage” to ensure the pact is respected. “This means, for instance, expenditures under structural funds, agriculture spending, fisheries fund,” he said.

“In case of non-compliance with the rules, we foresee two early steps. First, suspension of commitments: this doesn’t affect immediately on payments and allows time for correction. Second, if non-compliance with recommendations, it would imply the cancellation of suspended commitments (loss of payments),” he said.

“On sanctions affecting agricultural payments: suspension would concern only transfers from the EU budget to the government concerned. The government would still be obliged to respect its commitment to the farmers. It would not hit the final beneficiaries.”