World Economy

$385b EC Shadow Budget to Outwit Debt Limits

$385b EC Shadow Budget  to Outwit Debt Limits $385b EC Shadow Budget  to Outwit Debt Limits

More details about the European commission’s €315b ($385b) investment plan for 2015-17 has finally come to light. The program, announced in November by the commission’s president, Jean-Claude Juncker, amounts to a huge shadow budget – twice as large as the EU’s annual official budget – that will finance public investment projects and ultimately help governments circumvent debt limits established in the stability and growth pact.

The borrowing will be arranged through the new European fund for strategic investment, operating under the umbrella of the European Investment Bank. The EFSI will be equipped with €5b in start-up capital, produced through the revaluation of existing EIB assets, and will be backed by €16b in guarantees from the European commission, Project Syndicate reported Monday.

The fund is expected to leverage this to acquire roughly €63b in loans, with private investors subsequently contributing around €5 for every €1 lent – bringing total investment to the €315b target.

Though EU countries will not contribute any actual funds, they will provide implicit and explicit guarantees for the private investors, in an arrangement that looks suspiciously like the joint liability embodied by Eurobonds.

Faced with Angela Merkel’s categorical rejection of Eurobonds, the EU engaged a horde of financial specialists to find a creative way to circumvent it. They came up with the EFSI. Though the fund will not be operational until mid-2015, EU member countries have already proposed projects for the European commission’s consideration. By early December, all 28 EU governments had submitted applications – and they are still coming.

  IFO Assessment

An assessment of the application documents conducted by the Ifo Institute for Economic Research found that the nearly 2,000 potential projects would cost a total of €1.3t, with about €500b spent before the end of 2017. Some 53% of those costs correspond to public projects; 15% to public-private partnerships (PPPs); 21% to private projects; and just over 10% to projects that could not be classified.

The public projects will presumably involve EFSI financing, with governments assuming the interest payments and amortization. The PPPs will entail mixed financing, with private entities taking on a share of the risk and the return. The private projects will include the provision of infrastructure, the cost of which is to be repaid through tolls or user fees collected by a private operator.

Unlike some other critics, I do not expect the program to fail to bolster demand in the European economy. After all, the €315b that is expected to be distributed over three years amounts to 2.3% of the EU’s annual GDP.