In November 2014, Jean-Claude Juncker presented an investment plan for Europe, to boost investments by using public funds to gain confidence and investments from private sector investors. The plan aimed to address the dramatic fall in investment affecting Europe since the beginning of the great recession, which has been a significant brake on growth and employment for six years now.
We wrote about the plan in an article here on the Bearing Wave, where we took the bold step to compare the plan with The New Deal in United States in the 1930s.
Since then we have not heard much about this in the news. However after months of deliberations and negotiations with the European Commission and the Council of the EU, the European Parliament on 24 June adopted the text establishing the European Fund for Strategic Investment (EFSI). This has not been much noticed in the news, and there are reasons for this.
The idea with the fund as it was presented in November last year, the EFSI would be financed by an initial €21 billion, including €16 billion from the EU budget in the form of a guarantee to the European Investment Bank (EIB), and €5 billion from the EIB’s own resources. Through a multiplier effect estimated at 15:1, a total of at least €315 billion would be mobilised in additional private sector investments over the following three years.
The fund as it will be implemented is far from the ambitious plan that Jean-Claude Juncker presented. The funds devoted to the Commission’s flagship investment project will consist only of €8 billion from a reshuffling of EU budgets from 2015 to 2020 (representing only half of the initially pledged €16 billion, and €5 billion from the past profits of the EIB.
Given that the European Commission has been heavily constrained by the limited funds allocated to the plan, its initial idea was to use the funds to offer guarantees to risk-averse private investors in order to finance high-risk/high-return investments. At the time, this seemed like a smart idea, and a possible second-best solution to directly financing projects, as long as the guarantee was offered for investments that were not able to find financing.
However, looking at the details of the plan approved last week by the European Parliament, there are now some good reasons to be sceptical and to think that the plan’s impact on growth and employment will be minor.
Although EFSI is presented as a proper fund, it is important to understand that it will just be a label for some of the new EIB assets. This label will be awarded by the newly created “EFSI investment committee” to some projects that the EIB previously did not want to fund because it considered them too risky, and that will now benefit from the EU guarantee.
This is also important because it makes it impossible for private investors or governments to inject capital into the “fund,” as was suggested at the beginning. The only thing they can do is participate as co-financiers of the EIB’s EFSI-labelled projects. Below is a flowchart of how the fund will function, from Bruegel, the Brussels based think-thank.
In the best-case scenario, the creation of EFSI would lead to a major change in the way the EIB functions (even if the EFSI assets will never represent more than 10 percent of total EIB assets). The EIB would finally take on more risk, funding high-risk/high-return projects that are not able to secure finance because of the current high risk aversion of investors because of the crisis.
Unfortunately, the €8 billion used to create the fund will be taken from reshuffling money from Horizon 2020 and the Connecting Europe facility. Clearly, significant opportunity costs will arise from taking money from the EU`s main research and innovation programmes. Yet again showing us how fragile long-term rational behaviour is in a democracy.