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Weekly Economic Briefing

Europe

Strength in numbers

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The European Union (EU) comes under frequent criticism for its inefficient and incomplete infrastructure across economic, political and market cooperation. President Macron’s attempts to thrust the EU and Eurozone into the next phase of integration have met significant resistance due to concerns about risk sharing and redistribution across European partners. As the French president has learned the limitations of fiscal and political evolution, he has found support on issues of security and defence where the prospects for cooperation look more promising (see Chart 6). Alongside the introduction of Permanent Structured Cooperation (PESCO) for joined-up military operations across the 25 member state signatories, the EU launched the European defence fund in 2017 to foster collaboration across member states in research and development. The fund includes a grant system that rewards research collaboration across a minimum of three companies from at least two member states into strategic warfare technology, as well as co-financing on joint defence equipment and technology development projects. Funding will be earmarked within the grant programme to support SMEs collaborating across borders in defence technology.

Support from voters... But governments not spending

In terms of the actual numbers, the EU forecasts the fund will initially provide €90 million (m) in direct research funding and up to €500m in co-financing (assuming member states raise €2 billion (bn) for these projects). After 2020, these figures are set to jump to €500m in direct funding and €5bn in co-financing – again, split 80-20 between members and EU. This project has a number of benefits beyond fostering cooperation and furthering the broader integration agenda. Firstly, it has the potential to generate cost savings across states and firms working in defence and security research by pooling procurement. Eighty percent of procurement is run on a national basis, as is more than 90% of research and technology; the annual cost of these inefficiencies is estimated at between €25bn and €100bn. The European Commission estimates that up to 30% of annual defence expenditures could be saved through pooling of procurement. This collaboration also reduces duplication, increases standardisation of equipment and improves the outlook for interoperability between European armed forces.

However, there is a degree of scepticism regarding the Commission’s enthusiastic €5.5bn annual funding estimate. Firstly, the latter part of the programme will come in the new EU budget in 2020, which is subject to ongoing debate around funding levels following the UK’s departure. Additionally, the bulk of the funding is expected to come from member states, with only €500m guaranteed for grants independent of the bulkier co-financing portion of the fund. The backdrop of national defence spending does suggest that every little helps; defence spending as a percentage of GDP declined from a high of 1.54% in 2009 through to a low of 1.33% in 2014 (see Chart 7). Since then, spending has risen but only in line with nominal GDP, leaving defence spending as proportion of GDP largely unchanged and well below the NATO target of 2%. Unsurprisingly, Macron wants to push further, arguing for a common intervention force, a common defence budget and a common doctrine for action. This is where he may feel déjà vu; a common budget for any cause in the EU is likely to be complex to negotiate and limited in size.

Stephanie Kelly, Political Economist