Social Europe

politics, economy and employment & labour

  • Themes
    • European digital sphere
    • Recovery and resilience
  • Publications
    • Books
    • Dossiers
    • Occasional Papers
    • Research Essays
    • Brexit Paper Series
  • Podcast
  • Videos
  • Newsletter

EU borrowing—time to think of the generation after next

Rebecca Christie, Grégory Claeys and Pauline Weil 9th December 2021

Financing post-pandemic recovery via EU borrowing has proved remarkably straightforward. So why keep it temporary?

EU borrowing,bonds
DesignRage/shutterstock.com)

The issuance of European Union bonds to finance NextGenerationEU (NGEU)—the common recovery programme agreed by member states during the summer of 2020—has begun. This represents a small revolution in the supranational bond market.

Before the Covid-19 crisis, the EU had been issuing bonds for decades but it was a relatively minor player in the bond market, only borrowing for small, back-to-back lending programmes. But with the debt issued for NGEU, the EU will become one of the major borrowers in Europe in the coming years—up to around €800 billion, depending on the amount of loans member states take out. It will already issue €80 billion this year and could issue up to €150 billion per year in the next five years, putting it on a par with major European sovereign issuers, such as Germany, France and Italy.

As documented in our recent paper, the first issuances since June have evinced strong interest from investors all over the world. This was to be expected, given the current high demand for safe, well-rated assets, as well as for ‘green’ bonds.

Significant change

The European Commission has quickly assembled a qualified debt-management team and adopted a diversified borrowing strategy, similar to that of other major issuers, to raise money reliably and cost-effectively. This represents a significant change in the way the EU interacts with financial markets.

Our job is keeping you informed!


Subscribe to our free newsletter and stay up to date with the latest Social Europe content.


We will never send you spam and you can unsubscribe anytime.

Thank you!

Please check your inbox and click on the link in the confirmation email to complete your newsletter subscription.

.

Before, given its relatively low borrowing needs, the EU could tap the markets opportunistically, as and when required or when financing conditions were advantageous. With this much larger issuance, it needed to put in place a strategy. To capture the lowest interest rate at a given time but also to ensure funding needs would be easily met in future, this would be defined by regular and predictable issuances, so that debt securities were attractive to a diverse investor base.

The EU has decided to establish its presence in the bond market over the whole yield curve, issuing debt securities with maturities ranging from three months to 30 years. It has established a a ‘primary dealer network’ of investors, which will participate in the syndicated transactions and auctions through which the bonds will be primarily issued. The primary dealers will also play an important role in secondary markets, to ensure that EU bonds are liquid, as investors want to be sure they can quickly and easily resell the bonds at a good price.

Positive side-effects

Not only will this allow the EU to finance its recovery programme very cheaply—even at negative rates at the moment. There could also be positive side-effects: if successful, this could lay the groundwork for a European safe asset and common-benchmark yield curve, help develop EU capital markets, improve the euro-area financial and macro-architecture and bolster the international role of the euro.

First, the eurozone has a longstanding shortage of safe assets: those rated ‘AAA’ or ‘AA’ represent only 37 percent of gross domestic product in the EU, compared with 89 per cent in the United States. NGEU could represent about 5 per cent of euro-area GDP. As EU debt is rated better than most member states’ debt, issuing at the supranational level mechanically increases the volume of euro-denominated safe assets.

Secondly, if the EU were to become a permanent large-scale issuer, the yield curve of EU bonds could become a European benchmark for interest rates. Such a cross-border reference point could reduce differences in financing conditions for companies across the EU and favour economic convergence.


We need your support


Social Europe is an independent publisher and we believe in freely available content. For this model to be sustainable, however, we depend on the solidarity of our readers. Become a Social Europe member for less than 5 Euro per month and help us produce more articles, podcasts and videos. Thank you very much for your support!

Become a Social Europe Member

Mitigating the ‘doom loop’

Finally, large-scale EU-level debt could bolster the resilience of European financial markets, by reducing the potential magnitude of capital flights in times of market distress: the issuance of common debt sends a strong signal that European countries want to stick together in the long run. It could also help reduce the sovereign-bank ‘doom loop’, in which national banks are over-exposed to their sovereign’s debt, as EU bonds would provide banks with a truly common safe asset to fulfil their regulatory requirements.

Mitigation of the doom loop will however be limited. NGEU debt will be overshadowed by national debt held by banks, which represents 19 per cent of GDP in the eurozone. Resolving this longstanding issue would require permanent issuance at higher volumes.

Moreover, EU bonds remain less attractive to banks than sovereign bonds. In the current collateral framework for refinancing operations, the European Central Bank applies a bigger ‘haircut’ to institutional and agency debt than to central-government debt at the same credit rating and maturity. This should be addressed by the ECB, as such haircuts shape market perceptions of the safety of a debt security, determining whether financial institutions will be able to exchange them easily and almost at par against the ultimate safe asset—central-bank reserves.

Potential risks

The commission has done a good job and won praise from all stakeholders for its quick and efficient establishment of the borrowing programme. There are however potential risks, which the commission will need to monitor carefully to ensure that it maximises the benefits of the programme.

First, given the importance of the primary dealers in ensuring performance of EU bonds in secondary markets, the relationship with these investors needs to be managed carefully. The commission has to ensure, mindful of national sensitivities, that it is transparent and fair in its choice of mandated banks for issuances.

It should also monitor carefully how dealers play their role, to ensure EU bonds remain attractive, readjusting duties and incentives if need be. For instance, it could add market-making obligations in secondary markets if the liquidity of EU bonds is much lower than that for major issuers such as France and Germany (as measured, for instance, by bid-ask spreads) or it could increase its fees, lower than those of major EU issuers, should the incentives not be sufficient for dealers.

Secondly, there were initial fears that a large volume of EU debt issuances could have a ‘crowding out’ effect on demand for euro-area sovereign debts. So far, the risk appears low, because of market conditions, high investor demand and co-ordination among European issuers. Indeed, anecdotal evidence points to the opposite: the NGEU bonds seem to have caused crowding in, notably because of demand from non-EU investors encouraged by the positive signal of long-run European cohesion.

This should however be carefully monitored, as market conditions could change in the coming years—if, for example, the ECB were to reduce significantly its role in eurozone bond markets. Thus, it is crucial that sovereign and EU issuances remain well co-ordinated within the Economic and Financial Committee’s Sub-Committee on EU Sovereign Debt Markets. This includes member states’ debt-management offices, the European Stability Mechanism, the European Investment Bank, the commission and the ECB.

Important limitation

Overall, EU bonds could offer significant benefits to member states. Yet the temporary nature of NGEU represents an important limitation.

While market participants appear in their investment strategies to perceive the 2058 time-horizon as distant enough to consider EU bonds as if somehow permanent, there is evident appetite from investors for large EU debt issuances to become so. If the benefits envisaged manifest themselves and the risks feared do not, the EU would have good reason to prolong and reuse EU debt—or make it permanent.

This is part of a series on the National Recovery and Resilience Plans, supported by the Hans Böckler Stiftung

Rebecca Christie

Rebecca Christie is a non-resident fellow at Bruegel, the Brussels-based economic-policy think tank. She writes and speaks about EU politics, financial regulation, tax and climate finance.

Grégory Claeys

Grégory Claeys is a senior fellow at Bruegel and an associate professor at the Conservatoire National des Arts et Métiers in Paris. His research interests include international macroeconomics and finance, central banking and European economic governance.

Pauline Weil
Pauline Weil is a research analyst at Bruegel. Her research interests include geopolitics, international macroeconomics and European economic governance.
Home ・ Economy ・ EU borrowing—time to think of the generation after next

Most Popular Posts

schools,Sweden,Swedish,voucher,choice Sweden’s schools: Milton Friedman’s wet dreamLisa Pelling
world order,Russia,China,Europe,United States,US The coming world orderMarc Saxer
south working,remote work ‘South working’: the future of remote workAntonio Aloisi and Luisa Corazza
Russia,Putin,assets,oligarchs Seizing the assets of Russian oligarchsBranko Milanovic
Russians,support,war,Ukraine Why do Russians support the war against Ukraine?Svetlana Erpyleva

Most Recent Posts

trade,values,Russia,Ukraine,globalisation Peace and trade—a new perspectiveGustav Horn
biodiversity,COP15,China,climate COP15: negotiations must come out of the shadowsSandrine Maljean-Dubois
reproductive rights,abortion,hungary,eastern europe,united states,us,poland The uneven battlefield of reproductive rightsAndrea Pető
LNG,EIB,liquefied natural gas,European Investment Bank Ukraine is no reason to invest in gasXavier Sol
schools,Sweden,Swedish,voucher,choice Sweden’s schools: Milton Friedman’s wet dreamLisa Pelling

Other Social Europe Publications

The transatlantic relationship
Women and the coronavirus crisis
RE No. 12: Why No Economic Democracy in Sweden?
US election 2020
Corporate taxation in a globalised era

Hans Böckler Stiftung Advertisement

Towards a new Minimum Wage Policy in Germany and Europe: WSI minimum wage report 2022

The past year has seen a much higher political profile for the issue of minimum wages, not only in Germany, which has seen fresh initiatives to tackle low pay, but also in those many other countries in Europe that have embarked on substantial and sustained increases in statutory minimum wages. One key benchmark in determining what should count as an adequate minimum wage is the threshold of 60 per cent of the median wage, a ratio that has also played a role in the European Commission's proposals for an EU-level policy on minimum wages. This year's WSI Minimum Wage Report highlights the feasibility of achieving minimum wages that meet this criterion, given the political will. And with an increase to 12 euro per hour planned for autumn 2022, Germany might now find itself promoted from laggard to minimum-wage trailblazer.


FREE DOWNLOAD

ETUI advertisement

Bilan social / Social policy in the EU: state of play 2021 and perspectives

The new edition of the Bilan social 2021, co-produced by the European Social Observatory (OSE) and the European Trade Union Institute (ETUI), reveals that while EU social policy-making took a blow in 2020, 2021 was guided by the re-emerging social aspirations of the European Commission and the launch of several important initiatives. Against the background of Covid-19, climate change and the debate on the future of Europe, the French presidency of the Council of the EU and the von der Leyen commission must now be closely scrutinised by EU citizens and social stakeholders.


AVAILABLE HERE

Eurofound advertisement

Living and working in Europe 2021

The Covid-19 pandemic continued to be a defining force in 2021, and Eurofound continued its work of examining and recording the many and diverse impacts across the EU. Living and working in Europe 2021 provides a snapshot of the changes to employment, work and living conditions in Europe. It also summarises the agency’s findings on issues such as gender equality in employment, wealth inequality and labour shortages. These will have a significant bearing on recovery from the pandemic, resilience in the face of the war in Ukraine and a successful transition to a green and digital future.


AVAILABLE HERE

Foundation for European Progressive Studies Advertisement

EU Care Atlas: a new interactive data map showing how care deficits affect the gender earnings gap in the EU

Browse through the EU Care Atlas, a new interactive data map to help uncover what the statistics are often hiding: how care deficits directly feed into the gender earnings gap.

While attention is often focused on the gender pay gap (13%), the EU Care Atlas brings to light the more worrisome and complex picture of women’s economic inequalities. The pay gap is just one of three main elements that explain the overall earnings gap, which is estimated at 36.7%. The EU Care Atlas illustrates the urgent need to look beyond the pay gap and understand the interplay between the overall earnings gap and care imbalances.


BROWSE THROUGH THE MAP

About Social Europe

Our Mission

Article Submission

Membership

Advertisements

Legal Disclosure

Privacy Policy

Copyright

Social Europe ISSN 2628-7641

Social Europe Archives

Search Social Europe

Themes Archive

Politics Archive

Economy Archive

Society Archive

Ecology Archive

Follow us on social media

Follow us on Facebook

Follow us on Twitter

Follow us on LinkedIn

Follow us on YouTube