The European Council agreed in July 2020 to set up an off-budget entity for the EU, dubbed Next Generation EU (NGEU), which the EU countries will use to provide mutual support in the form of transfers and loans so as to better address the fallout from the coronavirus pandemic. Writing in the latest edition of the Monthly Report, the Bundesbank’s economists note that solidarity is understandable, but caution that large-scale joint debt “breaks worrying new ground” that “is not actually provided for in the EU Treaties”.

The EU says that the intended large-scale borrowing will be needed to respond appropriately to the exceptional circumstances introduced by the corona crisis, adding that NGEU will be a temporary crisis management tool. NGEU is scheduled to raise €750 billion in total: €360 billion will be granted to Member States as loans, and €390 billion will be non-repayable transfers. This debt will be repaid in two ways: first, through the debt service payments of the Member States that receive NGEU loans; second, by tapping into future EU budgets, meaning that all Member States will contribute in line with their future share of funding.

To finance NGEU out of future budgets, the European Council has floated the idea of tapping into a number of additional sources of income, such as a tax on plastic waste or a digital tax. Writing in the Monthly Report, the Bundesbank's economists acknowledge that though fresh sources of income lessen the need for existing own resources, it is ultimately still up to European taxpayers to fund the EU budget and the expenditure items it contains for NGEU.

Allocation of resources hardly geared to crisis

NGEU is built around the newly created Recovery and Resilience Facility (RRF), which accounts for the bulk of transfers (€312.5 billion) and all the loans. Allocations of RRF transfers to EU countries will be geared to population numbers and gross national income (GNI) levels in 2019 as well as the unemployment rate between 2015 and 2019. Only a smaller part of the transfers will account for the slump in GDP in 2020 and 2021. The Monthly Report therefore explains: “Viewed in overall terms, the vast majority of transfers will not be geared to how heavily a Member State has been affected by the coronavirus crisis.”

On balance, central and eastern European EU countries will benefit relatively strongly, owing to their comparatively low per capita GDP, as will southern European Member States, where unemployment rates have been stubbornly high for a while now. Around half of the resources are likely to be allocated to Spain and Italy.

All in all, the agreed assistance measures are aimed less at stabilising economic activity and more, according to the EU, at funding forward-looking reform programmes. The more successful the reforms, the faster the EU – and above all the individual Member States receiving particular support – would be able to overcome the coronavirus crisis. However, the Bundesbank’s experts also caution that the growth-enhancing impact of EU funds has had a mixed track record to date.

Large-scale Community debt critical in the current regulatory framework of the EU

The authors stress that from an economic perspective, the absence of substantial EU debt so far has been a pivotal aspect of a regulatory framework that is organised in a decentralised manner, with Member States largely owning their financial affairs. Extensive Community debt, on the other hand, would necessitate wholesale transfers of national sovereignty to the EU level to maintain the balance of liability and control.

The notion that EU debt is “free of charge” is illusory, the Bundesbank’s experts caution, noting that: “EU debt will be a burden on future European taxpayers, even if the debt does not show up in national statistics”. That is why, they explain, the new obligations under the joint EU debt need to be taken on board when assessing national public finances. With regard to fiscal rules, it is all the more important, going forward, that these rules ensure the reduction of high debt ratios and sustainability of public finances in all Member States.