Germany and Portugal have escaped a reprimand over their high budget deficits after EU finance ministers rejected the Commission's call for an "early warning" under the Stability and Growth Pact governing the euro, writes Denis Staunton, in Brussels

The Commission played down its defeat, insisting that assurances received from Germany and Portugal had strengthened the Pact rather than weakened it. But independent analysts said that yesterday's decision, which came after strenuous lobbying from Berlin, had undermined the system of budgetary discipline underlying the euro. The outcome was not unexpected and the euro dipped against the dollar yesterday to close at $0.876 compared to $0.8778 on Monday.

"The signal from Brussels is surely that they are not serious about the Stability Pact," said Mr Joachim Scheide, chief economist at Germany's Institute for Economics. Germany's opposition parties criticised the decision, pointing out that Berlin was the prime mover behind the Stability Pact when it was agreed in 1996.

The decision to reject the Commission's recommendation came after hours of negotiations among the 12 euro-zone finance ministers on Monday night. Most ministers supported Germany but the Netherlands, Belgium, Austria and Finland argued that, after last year's reprimand of Ireland, the ministers should apply the rules to Europe's biggest country with equal rigour.

The Minister for Finance, Mr McCreevy, voiced no support for the Commission and he said later that the outcome was the right one for the euro zone.

"The Commission said the German policy is OK. So what were we going to issue an early warning about," he said.

In return for its reprieve, Germany has committed itself to "endeavour to ensure that the 3 per cent of GDP reference value for the general government deficit will not be breached". Berlin will monitor budgetary developments in 2002 and avoid measures that could aggravate the budgetary position. And it undertakes to achieve a "close to balance" budgetary position by 2004.

Germany's Finance Minister, Mr Hans Eichel, described the outcome as a good result and he dismissed suggestions that the failure to censure Germany would undermine the euro's credibility.

"The euro's exchange rate shows such claims are rubbish," he said.

The Economic Affairs Commissioner, Mr Pedro Solbes, who had been pressing until the last minute for a reprimand, put a brave face on his defeat. He insisted that Germany's assurances about its budget meant that the Stability Pact was now stronger than ever.

"I think the credibility has been clearly maintained," he said.

Yesterday's events have raised questions, however, about the future of the Pact, which many European politicians regard as unnecessarily restrictive in its demand that budget deficits should remain below 3 per cent of GDP. Mr McCreevy said any discussion about modifying the terms of the pact was premature but he indicated that he would favour a change to the terms agreed in 1996.

"What was arrived at was a political compromise. There never was then or is now an exact science as to why you would pick a particular figure," he said.

The minister made his observations as Mr Robbie Kelleher of Davy Stockbrokers warned that next year Ireland "could well join the growing list of countries that are pushing up against the 3 per cent deficit level". He said economic data available since the start of the year indicated "the Exchequer is headed back into deficit territory again.".