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15th May 2022

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Grouped bar chart, Impact of NextGenerationEU on eurozone GDP growth (pp)

The boost to Europe’s pandemic-stricken economy from as much as €800bn of EU funding over the next five years is on track to help the region rebound close to its pre-crisis growth path, according to economists.

The biggest European countries have submitted plans for spending their share of the vast amounts of grants and loans that Brussels is offering to help repair the economic damage done by the Covid-19 pandemic.

The plans, backed by an unprecedented programme of collective European Commission borrowing underwritten by member states, are heavily focused on investments in green and digital projects, as well as reforms to improve the efficiency of the public sector. 

Morgan Stanley estimates the EU project will boost eurozone gross domestic product by 3.5 per cent and Jacob Nell, head of European economics at the US investment bank, said this would help the bloc to “get back through the pre-pandemic trend of growth”. 

The commission is due to present its own assessment of the economic outlook on Wednesday. The recovery fund, known as Next Generation EU, was largely excluded from its previous assessment released in February because there was insufficient detail available from member states. 

Economists’ forecasts vary widely, but most who have examined the national plans submitted to Brussels so far believe they will produce a substantial boost to growth likely to be greater than either the EU or the countries themselves have predicted.

“There are conservative assumptions being made by EU governments on how much of a fiscal multiplier these investments will have,” said Marion Amiot, senior European economist at S&P Global Ratings, the credit rating agency. “So there may well be some upside risk.”

While most countries have assumed that every €100 invested would produce a €40 uplift to GDP, S&P assumed the money would generate at least a one-to-one uplift, possibly more.

S&P forecast the almost €400bn of grants from the EU would boost the region’s GDP by between 1.5 and 4.1 per cent over the next five years, depending on how much of the funds are actually spent and how well they are used.

But Amiot said the overall impact was likely to be higher because S&P has not assumed that any of the €386bn of EU loans on offer will be taken up, nor has it counted on any boost from public sector reforms. 

This already looks conservative because out of the 14 countries that have submitted plans to Brussels so far, five have requested more than €150bn in loans. Some that did not request loans, such as Spain, have said they plan to do so at a later stage.

In addition, several countries are supplementing the money from Brussels with funds from their national budgets, including about €60bn in France and just over €30bn in Italy.

The IMF added only a “relatively conservative” 0.75 percentage point GDP boost in its latest European forecast to cover the EU funding. But it said “the real GDP impact could be twice that or more if the money is well spent and accompanied by needed structural reforms”.

Nell at Morgan Stanley said several countries seemed to have “lowballed” the amount of extra growth their plans could produce, adding: “I understand why they have done that, because it is better to underpromise and overdeliver.”

Chart showing that Italy has the largest recovery plan in absolute terms, of over €200bn

Greece’s plan, which won praise in Brussels for its coherent design, predicted a 7 per cent boost to GDP by 2026. Yet Morgan Stanley estimated Greece would experience an uplift closer to 12 per cent, while S&P said it could be as high as 18 per cent — the highest of any country.

Nell said some of the biggest uncertainties over the programme included how effectively and how much of the money would be spent. In the six years to 2020, EU countries on average only spent just over half the money they were allocated by Brussels.

But the so-called absorption rate of EU funding was closer to 90 per cent in the six years after the 2008 financial crisis, suggesting countries are better at putting funds to work in downturns similar to the current one.

Since the EU economy shrank 6.2 per cent last year, with GDP falling by a tenth in both Greece and Spain, the region has been lagging its main trading partners in the US and China. The outlook for the European economy has, however, brightened recently, partly due to an expected spillover from the $1.9tn fiscal stimulus programme in the US. 

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With European vaccination campaigns accelerating after a shaky start to the year and lockdowns easing in some countries, recent surveys of EU businesses and households have found their confidence rebounding to well above pre-pandemic levels. As a result, economists are watching to see if the commission upgrades its forecast for EU growth of 3.7 per cent in 2021 and 3.9 per cent in 2022.

Once the commission receives all EU countries’ “recovery and resilience” plans it has two months to assess them. Member states are being required to set out highly detailed milestones and targets that must be met for disbursements of EU cash to be made. For some, such as Spain and Italy, reforms include overhauls to government procurement rules ensuring the cash is well spent. 

But the programme comes at a time of mounting worries about corruption and the rule of law in some member states. For example, spending scandals in recent years linked to European funds have included the EU’s anti-fraud office calling on Hungary to repay money for a metro line because of fraud and corruption concerns. 

Last month commission executive vice-president Valdis Dombrovskis insisted in an interview with the Financial Times that a “robust system” was being installed to ensure proper use of the EU funding. Monitoring the programme will represent a massive burden on the commission given the dramatic expansion in the flow of cash from Brussels to member states’ coffers. 

The Next Generation EU programme is pegged at a maximum of €800bn, of which half will be in the form of grants. The total size will depend on take-up of loans from the commission, which may not appeal to some countries that have lower borrowing costs. That is on top of the EU’s normal seven-year long term 2021-27 budget, which weighs in at €1.2tn. 

2021-05-10 04:00:14

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