June 15, 2020

Global Letter – The EU: on the money

BY John Llewellyn, Russell Jones

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( 6 mins)

The EU’s recovery programme is a potential game changer for the economy and the single currency.

Decisive moment

In his memoirs, European visionary and revered French diplomat Jean Monnet asserted that: “Europe will be forged in crises and will be the sum of the solutions to those crises”. 1 So when the COVID-19 pandemic struck early this year, a natural question was how Europe would react to its latest, unprecedented, predicament. Would it respond Monnet fashion: or would it buckle?

After all, the Europe hit by the COVID-19 assault on public health, economic activity, and social cohesion, was a region already beset by, and not very convincingly confronting, a plethora of issues.

Conjuncturally, the lockdowns forced by COVID-19 delivered the biggest hit to the level of GDP in the EU’s history, compounding a situation in which investment spending was already insufficient to sustain adequate potential growth and address the burgeoning threat of environmental change. Institutionally, COVID-19 rocked an architecture that, compared with the textbook requirements of an optimal monetary union, was far from complete, if not half-baked. Banking and capital markets union were unfinished; there was virtually no centralised fiscal capacity or co-ordination; and crisis response mechanisms were perceived as unwieldy and unduly conditional.

Politically, there were deep divisions, with the frugal north strongly sceptical about fiscal activism in general, and large transfers from the richer core and the poorer periphery in particular. And proposals for debt mutualisation and a common safe-haven asset were beset by inertia.

Stepping up to the plate

Against this background, many, and not least those in the Anglosphere commentariat, speculated that the pandemic was an existential threat too far. They concluded that the Union would fail to come to terms with this latest setback. Some in London were even ready to write the EU’s obituary.

The reality is proving different. After the customary hesitant start, and notwithstanding the unhelpful efforts of the German Constitutional Court, European policymakers have acted forcefully. The pandemic has been brought under control; and the ECB and governments have put in place a powerful series of measures to sustain income and employment, ease financial conditions, maintain the flow of credit, and underpin business and consumer confidence. 2

But more importantly still, the EU Commission has latterly assembled a bold, economically literate, recovery strategy that stands to address many of the EU’s and the euro-area’s underlying flaws:

  • It is big: going beyond just the EUR 750bn Next Generation EU Recovery Plan. Indeed, in total it can be argued that the various elements sum to EUR 2.4tr, or more than 10% of 2019 GDP.4

  •  Its principal thrust is to promote economic resilience, and hence it focusses on investment, seeking to address both pre- and potential post-COVID-19 shortfalls.

  • It aims at levelling up: the greater part of the assistance, much of which is in the form of grants, is to be channelled to the higher debt, lower income, low-resilience southern economies.
  • The investment plans prioritise climate change and digital spending, where multiplier effects stand to be especially large, such that the future public debt burden will be contained. 5
  • The programme, recognising the administrative challenge of spending large sums quickly, has been folded into the longer-term budgetary plans and processes.

At the broader level, this response has powerful echoes of the venerated Marshall Plan of 70-odd years ago, in that much of its detail, its milestones, and its targets, are to be worked out by individual states. Furthermore, its mainspring seems to have been a rekindling of the close FrancoGerman co-operation that has long been at the core of major advances in European integration.

Unripe time

In short, the suggestion is that Monnet’s original assertion remains apposite. The London-based English-language commentariat has by and large underplayed this EU policy package. Perhaps the ultimate irony is too acute: just as the UK is about to leave the EU, the EU seems to be getting its act together, not least in addressing many of its longstanding fault lines.

  1. Monnet. J. 1978. Memoirs. Doubleday.
  2. The ECB has expanded its asset purchase programme by an overall EUR 1,470 billion (12.3% of the euro-area 2019 GDP). This mainly consists of the EUR 1,350 billion Pandemic Emergency Purchase Programme, with net purchases set to continue until at least June 2021 and to which, in a welcome decision, some of the ECB self-imposed limits for asset purchases will not apply. Individual member states’ fiscal responses range from some 3% of GDP in Romania, to a remarkable 50% of GDP in Germany, once various liquidity measures are taken into account.
  3. In particular, the package reflects the two facets of investment expenditure.

The first is the income/expenditure multiplier, which typically is large when an economy has substantial unused resources, and the monetary policy stance accordingly accommodating, if not associated with near zero interest rates.

  1. The second component is the capacity-expanding effect to which the investment expenditure gives rise, and which increases potential and thereby a further expansion of GDP, beyond that caused by the expansion of demand (the so-called ‘Hicks super multiplier’). The precise size of these effects depends on a number of factors, not least the efficiency with which the investment is planned, undertaken, and utilised; and its propensity to induce productivity-enhancing innovation that might not otherwise have been undertaken, at least to the same extent. Various estimates by the IMF and by the OECD lie in a range of 2.5 to 3.0. i.e. each percentage point of investment can generally be expected ultimately to increase GDP by around 2½ to 3 percent.
  2. One important additional consequence of multipliers being so large is that, because of the augmented tax revenues that flow from higher levels of GDP, the net effect on public sector deficits is small, even if that investment is financed largely out of public spending.
  3. For more, see IMF, 2014. World Economic Outlook October 2014. Chapter 3. ‘Is it time for an infrastructure push? The macroeconomic effects of public investment’, p. 82. [online] Available at: < > [Accessed 25 March 2020]; and also Mourougane, A., Botev, J., Fournier, J-M., Pain, N., and Rusticelli, E., 2016. Can an increase in public investment sustainably lift economic growth? OECD Economics Department Working paper, 24 November, paragraphs 26 – 31, and Figure 8. Available at: < > [Accessed 12 March 2020.]



  4. The EUR 2.4trn figure includes EUR 540bn for SURE, the ESM Pandemic Crisis Support Scheme, and the EIB Guarantee Fund; EUR 750bn for the Next Generation EU Recovery Plan; and the EUR 1,000bn embodied in the reinforced Multiannual Financial Framework of the EU out to 2027. https://ec.europa.eu/info/live-work-travel-eu/health/coronavirus-response/recovery-plan-europe_en
  5. The plan projects that such will be the positive effects on output of the investment plans that public sector debt ratios stand to be considerably lower over the next decade than they would otherwise have been.

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