Mike Dolan
The European Union’s latest joint borrowing plan is likely just a fraction of what will be needed to defend the continent, causing some to ask whether the dawn of defence bonds will be the next big expansion of EU-wide borrowing.
For global investors seeking to rebalance their investment portfolios beyond an increasingly isolationist United States, development of a liquid AAA-rated supranational sovereign debt pool in Europe is now intriguing.
Further development of joint EU borrowing beyond the novel post-pandemic “Next Generation” recovery funds–earmarked to be just over 800 billion euros ($866.88 billion) in total–would push the size of this pool far beyond 1 trillion euros, near the scale of domestic government debt heavyweights in Germany, Italy and France.
European leaders last week backed plans to spend more on defence and stand by Ukraine in a world upended by President Donald Trump’s reshaping of U.S. military and trade alliances. But the proposed 150 billion euros of jointly borrowed EU loans seemed shy of estimates for what would be needed in common funding.
“Von der Leyen’s 150 billion euros in loans are a first step but unlikely to be enough,” said Carsten Nickel, deputy research director at advisory firm Teneo, referring to European Commission President Ursula von der Leyen.
Nickel reckons parallel loosening of euro budget rules to allow greater defence spending would only get the continent so far, as military spending would still be competing with other domestic priorities.
What’s more, Eastern European countries might baulk at having to shoulder greater defence responsibilities to protect the whole bloc solely due to their proximity to Russia. They might therefore demand joint funding to share the burden.
Joint borrowing could also be the cheaper path. Although benchmark AAA yields on existing 10-year EU-wide debt climbed over the past week to more than 3.1%, the cost of EU-backed funds remains lower than in the majority of the EU, aside from Germany, the Netherlands and the Nordic EU countries.
Nuclear umbrella
Intriguingly, Nickel also connects the pressure for shared EU defence spending with France’s proposal last week to provide a “nuclear umbrella” for EU security.
“French nuclear protection would likely come at a financial and political cost for its beneficiaries, especially Germany,” he wrote. “This could hand (French President Emmanuel) Macron the opportunity to demand joint EU borrowing in return, at the very least for military purposes–a major political win that might also sell well at home.”
This move could also provide the new German government the cover it needs to cast aside any remaining objections to joint borrowing. And if the urgency displayed in Berlin last week to up its own defence budget is any indication, another sizeable expansion of joint EU bonds may well be in the works.
Just how much is the only real question.
The EU sees 500 billion euros of investments as needed over the next decade. But raising defence spending to 3% of output would require nearly 200 billion euros per year on top of that.
The Bruegel think tank in Brussels reckons the new reality means an increase in annual defence spending by 250 billion euros to some 3.5% of GDP in the short term, and they suggested half be funded at the EU level. That would see around 625 billion of new jointly-issued EU bonds sold by 2030.
The Centre for European Reform said last month that bond issuance for defence was feasible and had many upsides. In particular, they noted that a 500 billion euro fund at current yields would generate an annual interest bill of less than 20 billion euros.
“Since everyone would be on the hook to repay the debt, it could also reduce countries free-riding on the defense capabilities of rapidly ramping-up peers like Poland,” it said.
What’s more, European debt piles, on aggregate, are far lower than those in the United States and Japan, so the AAA-rating for EU defence bonds may look more secure.
The expansion of EU joint borrowing could offer solace to nervy global investors, even as the military imperatives driving it keep many on edge. And if another round of debt ceiling wrangling stateside sees the U.S. sovereign rating under renewed pressure, alternatives may look even more attractive.
(The author is a columnist for Reuters)
Published – March 11, 2025 03:27 pm IST
