EU capitals hesitate over recovery fund loans

Pandemic-stricken EU member states have made it plain that they intend to fully tap the €390bn of recovery fund grants leaders agreed in July. What is much less clear is how far they intend to avail themselves of the cheap loans the European Commission is also offering. 

Countries including Spain and Portugal have sent mixed messages over their appetite for the tens of billions of euros in low-cost loans the EU is making available as part of the joint borrowing programme. Italy has for its part signalled that it wants to use the entirety of the loans, while many rich northern European states are likely to spurn them altogether.

Europe’s finance ministries face a complex set of calculations as they seek to make up their minds. The EU’s coronavirus recovery fund is split between non-refundable grants, which are highly prized, and a loans programme under which the commission will effectively borrow on countries’ behalf. 

The latter would permit fiscally weaker capitals to have access to extra funding worth up to 6.8 per cent of their gross national income at lower rates than they themselves can secure on the markets. But the recent rally in sovereign debt markets means the savings may not prove decisive, calculations for the Financial Times suggest. 

Bar chart of net impact of fund spending (% of 2019 GDP, selected countries) showing which countries benefit most from the EU recovery fund?

What is more, member states might be deterred as they seek to keep their debt-to-GDP ratios as low as possible, especially given the lack of clarity over the outlook for EU fiscal rules. They are also weighing up the added conditions that come attached to EU recovery fund money. 

“EU governments may be reluctant to become subject to any sort of conditionality and prefer instead borrowing by using national bonds, or not borrowing at all,” said Lorenzo Codogno of LC Macro Advisors. 

This is despite the benefits that some countries would enjoy from using the EU loans, he said, including interest savings, the ability to benefit from a different investor base, and a lengthening in their debt maturity. 

The EU this week issued its first tranche of coronavirus-related bonds, in a heavily oversubscribed sale that indicates the EU will be able to command extremely low borrowing costs as it raises money for member states.

The borrowing, which was linked to the commission’s “Sure” unemployment reinsurance programme, is a separate scheme to the recovery fund but it pointed to huge demand as investors placed bids for more than €233bn, far exceeding the initial €17bn of bonds on offer. 

The yields on that debt sale indicate that southern EU countries could reap savings if they seek to tap future rounds of commission funding instead of raising the same money on their own books. Spain would save an annual €5.6m for every billion euros of borrowing by using recovery fund loans, according to ING calculations, while the savings for Italy would be larger at €11.7m a year. 

Greece could save €12.8m for every billion euros borrowed, and Portugal €5.5m, according to the calculations based on the countries’ current borrowing costs as compared with the commission’s Sure issuance. 

Johannes Hahn, the EU budget commissioner, suggested on Wednesday that the low rates enjoyed by the commission might convince some member states to reconsider any earlier reluctance to use recovery fund loans. 

Spain, which expects to qualify for around €70bn of grants from the recovery funds and about the same amount of loans, is concentrating on its plans for allocating the grants in the 2021-23 period and says it would only access the loans afterwards.

Nadia Calviño, Spain’s deputy prime minister for the economy, last week insisted that the government had “not at all” ruled out using recovery loans © Michael Reynolds/EPA/Shutterstock

Nadia Calviño, deputy prime minister for the economy, last week insisted that the government had “not at all” ruled out using the loans. Speaking to Spanish radio, she added that Spain’s plans reflected the design of the fund, in which grants can only be accessed in the 2021-23 period but loans can be disbursed up to 2026.

Spain is concerned about government indebtedness, however. According to IMF forecasts, a record budget deficit of 14.1 per cent of gross domestic product this year will lead to a huge rise in debt from 95.5 per cent of GDP last year to 123 per cent for 2020. 

Ms Calviño said that Spain hoped to begin reducing debt as a proportion of GDP next year and was already cutting back on planned debt emissions. Another senior Spanish official suggested that a final decision on whether Spain would activate the loans was several years off, given the window for the loans runs until halfway through 2023. 

Portugal initially said last month that it would not tap any of the loans because of fears about increasing its debt load. However, Lisbon is now open to the idea, saying that it will only try to “minimise” loan funding rather than ruling it out altogether. 

Italy’s government on the other hand has budgeted for all the €125bn in loans it is due to receive for investments from 2021-26. The Greek government has said it will budget for all its €32bn in loans and grants, but according to one official it is looking to the commission to resolve how to treat the loans as part of future debt calculations. 

Richer northern member states that already enjoy ultra-low borrowing costs are likely to eschew the loans altogether, said diplomats.

Antoine Bouvet, a bond market strategist at ING, said that a number of capitals ought to tap the loans given the savings they could permit. 

“For a government it’s difficult to turn around to voters and say we could have spent hundreds of millions more, but we decided it should go on interest instead,” he said. “Either this is a substitute for more expensive borrowing, or it’s extra fiscal stimulus which would also be viewed well by investors.”