UPDATE 4-EU slams Bulgaria on corruption, suspends funds

(Adds Stanishev, Kuneva)

By Paul Taylor

BRUSSELS, July 23 (Reuters) - The European Commission issued a scathing indictment of corruption in Bulgaria on Wednesday, suspending aid worth hundreds of millions of euros (dollars) and barring two key payments agencies from receiving EU funds.

A report on the management of European Union funds by the latest and poorest EU member said the fight against high-level corruption and organised crime was not producing results and the Commission had to act to protect taxpayers' money.

"Therefore, the Commission has taken the decision today to formalise this (aid) suspension and withdraw the accreditation for two government agencies in charge of managing these pre-accession funds," chief Commission spokesman Johannes Laitenberger told a news conference.

The two reports on Bulgaria -- one on funds and the other on judicial reform -- were the harshest criticism ever levelled by Brussels at a member state. A report on fellow newcomer Romania, which also joined in January 2007, pointed to political and judicial obstruction of corruption trials but avoided sanctions.

Commission President Jose Manuel Barroso called them "a reality check -- they show that both the Bulgarian and Romanian governments need to step up their efforts on judicial reform, corruption and in the case of Bulgaria organised crime".

Bulgarian Prime Minister Sergei Stanishev promised action to remedy the shortcomings. "There is a discrepancy between the political will which is a fact and the achievement of concrete results," he told a news conference.

Analysts said the Commission was trying to set an example to other Balkan candidate countries and to reassure voters disenchanted with the 27-nation bloc's eastward enlargement.

But the EU executive softened the blow at the last minute by toning down the toughest wording of earlier drafts and omitting a threat to delay Bulgaria's entry into the euro single currency zone and the Schengen area of passport-free travel.

"MORAL DAMAGES"

The Bulgarian member of the Commission, Meglana Kuneva, told Reuters the report was balanced and her country needed to fulfil its obligations as a full member of the EU.

"We need to advance, and advance quickly. What really hurt me was that we are talking more about problems rather what we have achieved," she said in a telephone interview.

Laitenberger gave no overall figure for the suspended funds, but Commission spokesman Mark Gray cited amounts that add up to 486 million euros ($765 million).

Those funds are mainly for the PHARE technical assistance programme for acceding countries, the ISPA road-building scheme and the SAPARD agricultural marketing plan.

Unless the PHARE payments agencies are reformed sufficiently and recover their accreditation by the end of November, 556 million euros will be lost definitively, officials said.

Neil Shearing, an economist at London-based consultancy Capital Economics, said any decision to punish Bulgaria by withholding EU funds would hit the Balkan economy hard and deal a blow to investor confidence.

"If the EU were to hold back fiscal transfers scheduled for next year, the likely drop in infrastructure investment alone could cut GDP growth by 1 percent," he wrote.

Bulgaria is due to receive some 11 billion euros in farm subsidies and regional development aid in the 2007-2013 budget period but has received little so far.

The EU report did credit Stanishev's government with progress in setting up a national security agency to fight corruption and organised crime, and closing duty-free shops and petrol stations that were a focus of crime.

Conservative members of the European Parliament applauded the decision to block some EU funds for Bulgaria.

German Christian Democrat Elmar Brok said the situation had deteriorated in both Romania and Bulgaria since they joined the 27-nation bloc and this was "the only way to ensure the credibility of the EU enlargement process". (additional reporting by Darren Ennis and Marcin Grajewski in Brussels and Anna Mudeva in Sofia; editing by Ibon Villelabeitia)