Here's Why the Stimulus Deal Is Such a Big Deal for Europe - Bloomberg

Leaders take part in a roundtable meeting at the EU summit in Brussels on Dec. 10.

Photographer: Dursun Aydemir/Anadolu Agency

After a hard-fought battle, the European Union’s landmark 1.8 trillion-euro ($2.2 trillion) budget and stimulus package has finally got over the line.

It’s quite the achievement. Not only will the funds help the region overcome the economic damage the coronavirus left in its wake, but they pave the way for much deeper integration in the bloc and set the stage for the continent’s transition to a low-carbon economy. Europe’s leaders will also be hoping that the agreement puts talk of an EU breakup firmly in the past.

For the European Central Bank, which on Thursday extended its huge emergency bond-buying program, the funds help address its repeated call for fiscal policy to move to the forefront of economic support. In addition to being a broad complement to monetary policy, the deal also has a technical benefit. Part of the package is financed by jointly backed bonds, which should provide the ECB with another asset to buy.

The region’s markets have received a major boost. The euro is at its highest level since mid-2018 versus the dollar and the borrowing costs of heavily indebted nations like Italy and Spain have fallen dramatically -- despite unprecedented government spending.

Here’s a look at why the EU’s recovery deal is quite so important.

Hamiltonian Moment

• Riffing off what happened in the U.S. in 1790, a so-called Hamilton moment would be the mutualizing of obligations across all 27 member countries. That would require treaty changes adopted by national parliaments and in some cases referendums
• The new package doesn’t go that far, but it’s a step in that direction, with the promise that the debt to fund grants and loans to member will be issued jointly, rather than taken on national balance sheets
• Along with ECB’s bond buying, that’s helped to rein in borrowing costs even for euro-area countries with huge debt burdens and perilous fiscal situations
• Spanish 10-year bond yields dipped below 0% Friday, following their Portuguese peers earlier this week, and it’s looking increasingly likely that those of other peripheral nations, like Italy and Greece, will soon follow suit

Economic Impact

• The European Commission has estimated that the plan could add around 2% to the bloc’s economic output by 2024 and create 2 million additional jobs by 2022
• Some economists have said it could end up being less than that if the EU funds replace money that would have come out of national coffers. It’s also not yet clear to what extent countries will draw on the loans that are on offer
• A major benefit is that the recovery funds will help soften the blow for countries that are harder hit by the crisis, for example because their economies rely to a greater extent on tourism. The EU has been particularly alarmed by the uneven shock of the virus and the widening of the region’s north-south divide

Financing Recovery

Italy and Spain are the biggest beneficiaries of the EU’s recovery funds

Source: European Commission

Helping the Central Bank

• ECB officials have lauded the agreement as a “game changer,” mostly because it displays solidarity between richer and poorer member states. Even before the pandemic struck, the institution had called on members of the 19 nation euro area to invest in their economies and lift growth
• If the plan is successful, it could help the ECB get inflation closer to its target of just under 2%
• President Christine Lagarde said Thursday that the recovery fund should become “operational without delay.” She’s also stressed that the EU aid money should be spent in a way that increases longer-term growth and shouldn’t get lost in national budgets
• Lagarde has even suggested making the recovery fund a permanent tool for similar crises in the future, and that it could “enrich” the long-standing debate over a common euro-area budget
• The EU bonds backing the program are also another asset for the ECB’s quantitative-easing programs. That reduces the risk it’ll eat up so much national debt that it crushes markets and faces accusations of monetary financing

A New Safe Asset

• German bonds have been seen as Europe’s benchmark, but they fall short of being a rival to Treasuries given there’s not enough of them to go round and they don’t adequately represent risk for the wider region
• Jointly issued debt will go some way to raising the profile of a European “safe asset,” though, and will finally give investors a security for the whole of the bloc
• It could also elevate the status of the euro versus the dollar. Progress on the fund has helped push the currency above $1.20, to a two-and-a-half-year high

Social and Green Leader

• The EU is set to become the world’s biggest issuer of green debt, with a third of the bonds being issued to come under the environmentally-friendly tag
• The bloc will publish an accompanying green taxonomy and green bond standard next year, and it’s widely expected to become a blueprint for the rapidly growing market
• Demand from investors for EU social-debt, which is going toward a regional job-support program, already smashed records this year, drumming up billions of euros of orders

Another Defeat of Populists

• The agreement means future EU funds will be tied to the rule of law, a link Hungary and Poland have been opposing. While the two countries won a possible delay to the establishment of such a mechanism, the bloc ultimately took a step toward adopting a tougher tool to sanction governments that erode democratic standards
• This comes on the heels of the U.S. election, which may have taken some of the wind out of the populists’ sails. The EU’s illiberal members had been emboldened by Donald Trump’s ascent and rule over the past four years

A Stronger Economic Toolbox

• The recovery fund joins a series of other tools adopted this year to strengthen the EU’s economic arsenal, including measures to help businesses and workers
• It also comes just a week after the euro area finally agreed on a long-awaited reform of its bailout fund, a deal that could pave the way for more ambitious work on strengthening the euro’s architecture

(Updates with Spanish bond rally in last bullet point of first section.)

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