Stealth Borrowing Europe’s Shadow Budget

Trying to revive Europe’s economy through leveraged financing comes at considerable risk to taxpayers, argues the head of Munich’s Ifo Institute.
One for all and all for one?

European Commission President Jean-Claude Juncker wants to mobilize no less than €315 billion, or $356 billion, for his investment program, double the E.U. budget. A massive leveraged stimulus program is supposed to breathe life back into Europe.

The money is to be collected via the European Fund for Strategic Investment, which is backed by guarantees from the European Commission worth €16 billion, and €5 billion in capital from the European Investment Bank it achieved by revaluing its assets.

The EFSI is meant to have a leveraged financial capacity of €63 billion, but by encouraging private investment, the volume will reach €315 billion. Many have been asking themselves where such a miraculous increase in money is supposed to come from.

The answer came from the European Central Bank two weeks ago in the form of quantitative easing: The bank would buy €1.1 trillion in state debt. Twelve percent of this program, some €132 billion, is meant to be used to purchase securities of European institutions, for which all national banks will be responsible.

Not private investors, but taxpayers are to be the quiet bearers of the risk posed by these joint liabilities. German Chancellor Angela Merkel’s categorical ‘nein’ to euro bonds will now be circumvented by semantics.

My problem is the massive debt-financed shadow budget being assembled to run alongside E.U. and national budgets. Hans-Werner Sinn, Ifo institute

The European Commission will put together the list of investments from suggestions already provided by E.U. members

The Ifo institute has assessed the still-incomplete list. It turns out that by December 4, 2014 all 28 countries had put forward potential projects.

The volume of the roughly 2,000 registered projects was €1.3 trillion, of which around €500 billion would be spent between 2015 and 2017. Of that, approximately 53 percent were public projects, 15 percent were public-private partnerships and 21 percent private projects. Some 10 percent of projects could not be put in one of those categories.

Very few projects were of a cross-border nature. Normally, they were projects that fell within the purview of national governments.

I don’t assume that the program will be an economic flop. After all, the €315 billion targeted for a three-year period accounts for 2.3 percent of the European Union’s gross domestic product. This would still be a sizeable stimulus program, even spread over three years.

My problem is rather the massive debt-financed shadow budget being assembled to run next to the E.U. and national budgets and the risks it poses to Europe’s taxpayers.

Since each country under the protection of common liability can take on more debt at the same interest rate, regardless of its own credit worthiness, projects will be financed in countries that have already burned huge amounts of capital and are not normally able to find funding on the financial markets.

The proposed distortion of the market will – just like other collective protection mechanisms created during the euro crisis – increase the politically influenced misdirection of European investment capital.

On top of this, only a small part, if any at all, of the the new common-liability-enabled mountain of debt will be show on national budgets. That will blow out the debt limits of E.U. countries, for example, the Growth and Stability Pact, which says an E.U. member's deficit cannot exceed 3 percent of gross domestic product, or the fiscal pact from 2012, which prescribes cutting overall debt levels of E.U. nations.

Banks have long been accused of taking on too much risk through shadow accounting and by using overseas special purpose entities. It’s truly worrying that governments are now using similar tricks.


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