BRUSSELS (Reuters) - The EU will boost spending on coronavirus-hit sectors of the economy, it said on Friday, also clearing member nations to run bigger deficits as Germany diverted state funds to cushion businesses against the impact of the epidemic.

FILE PHOTO: European Commission President Ursula von der Leyen holds a news conference in Brussels, Belgium, March 9, 2020. REUTERS/Francois Lenoir

The European Commission, which predicted the outbreak would cause the bloc’s economy to shrink this year [B5N27Y01O], said existing EU funds - but no new money - would be redirected to companies in greatest need, backed by a lenient interpretation of budget and state aid rules.

The plan effectively gives a green light to the kind of deficit spending already announced by Italy, the EU country worst hit by the outbreak.

“I am convinced that the European Union can withstand this shock,” commission head Ursula von der Leyen told a news conference.

“But each member state needs to live up to its full responsibility and the European Union as a whole needs to be determined, coordinated and united.” she added, echoing calls for greater fiscal stimulus made on Thursday by European Central Bank President Christine Lagarde.

Germany - long criticized by the Commission and other EU nations for running ultra-tight budgets during periods of economic strength - on Friday promised half a trillion euros in guarantees for business in a four-point plan that won a thumbs-up from economists.

Von der Leyen proposed a 37 billion euro ($41 billion)investment initiative based on funds that could be quickly re-channelled to sectors in need, officials said. This revised a figure of 25 billion euros that she previously announced for the same initiative.

The redirection of these funds, many of them already committed to poorer eastern regions, would need approval from EU governments and lawmakers.

An additional 1 billion euros from the EU budget would be used to provide up to 8 billion euros of guarantees to banks that in turn would offer cheap loans to approximately 100,000 crisis-hit firms, officials said confirming a Reuters report earlier this week.

FISCAL LEEWAY, BUT RULES STILL APPLY

The commission offered “full flexibility” in its interpretation of fiscal rules, aiming to encourage governments with fiscal space such as Germany and the Netherlands to spend more.

But Brussels fell short of declaring a full suspension of its fiscal rules, known as the Stability and Growth Pact, in a move probably meant to maintain some ammunition if the crisis worsened.

Commission vice-president in charge of economic affairs, Valdis Dombrovskis, told the same news conference a clause suspending fiscal commitments could be triggered if the crisis worsened.

Under EU fiscal rules, the bloc’s governments are required to keep their budget deficit below 3% of gross domestic product (GDP) and reduce their debt to below 60%.

The rules already allow states to spend more in emergency circumstances.

The coronavirus outbreak warranted exceptional spending for crisis-hit firms, workers, the purchase of medical equipment and support to ailing sectors such as retail, transport and tourism, officials said.

The commission also offered to facilitate state aid that governments will need to provide on “a much larger scale”. State aid rules allow emergency state support for failing companies under certain circumstances, and the commission confirmed on Friday that these subsidy rules would be temporarily relaxed.

During the 2008/09 global financial crisis, a similar softening of fiscal and state subsidy rules allowed governments to spend hundreds of billions of euros to bail out banks and revive the economy.