A 750 billion euro fund proposed by the European Union aims to support a post-pandemic economic recovery by exploiting low interest rates without burdening high-debt countries with borrowings that would widen the income gap between richer and poorer nations.

The Next Generation EU fund would borrow from the markets until 2024, using the EU budget as a guarantee, and make repayments over 30 years from 2028. Most money would go to individual countries – two-thirds as grants to the hardest-hit areas with the rest provided as loans.

The grants are effectively transfers from wealthier countries to the poorest members and those most affected by the crisis. So Italy could receive more back than its 13.5 per cent contribution to the EU budget – a gain worth perhaps 1.5 per cent of its GDP. Spain’s net receipt could be 3.5 per cent of its GDP. But Germany, which contributes almost 25 per cent, could make net payments worth about 2 per cent of current GDP over 40-odd years.

And the grants would sit on the EC’s balance sheet, not adding to individual countries’ debts, at least until investors have to be repaid from member states’ future contributions to the EC budget.

But the main economic benefit is the transfer of resources across time rather than across countries. Using joint guarantees to exploit today’s very low interest rates allows weaker members to borrow cheaply to finance the recovery, possibly preventing a higher dispersion of real incomes among countries.

The EC estimates the investment needed for its ‘green transition’ and digital transformation agenda is almost 600 billion euros a year. The trillion-euro Green Deal announced before the pandemic involved little fresh EC money, focusing instead on mobilising private finance; the Next Generation EU fund makes fresh cash available. Spending 750 billion euro would more than double the typical EU budget over four years – even if the budget itself is only around 1 per cent of EU’s GDP.

The fund could therefore have a meaningful impact on investment. The money spent could be about 70 billion euro for the EU budget next year or 0.4 per cent of GDP, rising to about 1.1 per cent in 2024. For Italy – the largest recipient – the spend could be 1.2 per cent of GDP next year, more than doubling in 2022 and reaching almost 3 per cent in 2024.

Most of the money should be spent on investment, which has a high-fiscal multiplier. For Italy, the extra investment generated could lift GDP by almost 5 percentage points by 2025, and growth potential by about 0.2 to 0.5 points a year. Spain could benefit even more. The EU’s GDP could increase be about 2 percentage points by 2025.

In turn, higher growth could help members themselves borrow cheaply, with lower interest costs reducing pressure for another painful round of austerity, and improving debt dynamics.

But while the fund has the backing of Germany and France, it needs approval from all 27 EU member states. For it to be in place by January, a deal likely must be achieved by October and the proposal could be diluted in negotiations, changing the balance of loans and grants, downsized, or given a greater green focus or tough conditions that make it hard for countries to actually spend the money.

First published 10 June 2020.

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