The general consensus among economists today is that the European economic recovery is gathering momentum. But the prospects for Europe did not look nearly so bright in November 2014, when the EC President, Jean-Claude Juncker, announced his ambitious blueprint for stimulating the economy and promoting job creation.
Pivotal to the so-called Juncker Plan was the rapid redeployment of Europe’s abundant but largely idle liquidity into more productive projects that would help to rekindle confidence and economic activity across the continent.
The basic premise of this plan was perfectly aligned with the European Investment Bank’s business model, as its chief economist, Debora Revoltella, explains. “At its core, the EIB’s role is to use bond issuance to attract funds that would otherwise be put to non-productive use, and catalyse them in support of sectors that will have a positive impact on long-term economic growth,” she says.
A core component of the Juncker initiative, more formally known today as the European Investment Plan, was the establishment by the EIB and the European Investment Fund of the European Fund for Strategic Investments (EFSI). This uses a guarantee of €16bn from the EU’s budget, together with €5bn of the EIB’s own capital, to mobilise lending to relatively high risk projects in the private sector. Assuming a potential multiplier of 15, this originally implied a total lending capacity of €315bn by July 2018.
The results of the EFSI initiative have been impressive on at least three levels. The first of these is the decisiveness with which the EFSI plan moved from conception to reality. EFSI’s deputy managing director, Iliyana Tsanova, says there was little more than six months between the preliminary discussions on the establishment of EFSI and the approval of legislation allowing for its official launch in July 2015. “This is a fantastic example of how funding can be mobilised quickly to create a much longer-term economic legacy than one-off grants,” says Tsanova.
Second, to date around 75% of EFSI’s beneficiaries have been new EIB clients. This suggests that by raising the bar in terms of its risk tolerance, the project has already succeeded in unlocking investment flows towards areas of the European economy that would not previously have had access to funding at a manageable cost. About a third of these borrowers are smaller companies, with the EIB forecasting that more than 450,000 SMEs across the EU will benefit from EFSI. These smaller borrowers have been reached in co-operation with banks and national promotional institutions. Then alongside national promotional banks, tailor-made investment platforms can be designed to address market failures and local challenges, some specific to each member state.
Tsanova says that a third of EFSI funding to date has been mobilised through these platforms.
Third, the most recent data indicates that the EFSI is already comfortably within reach of achieving its targets. By late September, it had approved €46.5bn of financing, of which €28.9bn had been signed. This equates to total investment related to EFSI approvals of €236.1bn, which is approximately 75% of its €315bn goal. The target of investment triggered has since been increased to €500bn, and its original 2015-18 timeline extended by three years to 2020.
The provision of a guarantee and risk sharing schemes amounts to what Tsanova describes as a game-changer for borrowers. “In the case of a tiny banking market like Bulgaria, lenders will typically ask for 130% collateral and charge punitively high interest rates,” she says. “By providing guarantees to local commercial banks, we can reduce the collateral by half and make the cost of financing affordable.”
This makes the EFSI’s strategy consistent with the EIB’s broader lending philosophy. Increasingly, this is based on using its balance sheet, credibility and technical knowhow to crowd-in private sector investment by acting as a guarantor or co-investor rather than as a sole financier. Only in very exceptional circumstances does the bank finance more than 30% of an individual project.
This is a model that it is delivering striking results across the EIB Group’s investment activities, and making a tangible and quantifiable contribution to an accelerated economic recovery in the EU. New findings presented by the EIB in September point to the expected creation of an additional 2.25m new jobs and a 2.3% increase in Europe’s GDP by 2020 thanks to the investments supported by the loans and equity participations approved in 2015 and 2016. Of this total, loans sanctioned under the Investment Plan for Europe, supporting over €160bn of new investment, are projected to add 690,000 jobs and generate an incremental 0.7% to GDP.
Perhaps more important than this short term boost is the structural impact that today’s investments will have on longer-term job creation and sustainable economic growth. This is because investment in productive projects has a dual impact on the economy. In the short term, it creates an investment effect by generating higher demand for goods and services, especially during the construction or development phase of a new project.
In the longer term, however, this investment fuels a more durable structural effect underpinned by the availability of cheaper traded goods due to improved transportation networks, for example, or increased productivity driven by superior technology and research facilities. In the case of investments supported by the EIB Group, this structural impact is estimated at an additional 1.5% of GDP and some 1.27m new jobs by 2036.
Plugging the gaps
The importance of this longer term structural impact can scarcely be under-estimated. This, say Revoltella, is because in spite of its demonstrable success, the EFSI initiative has only addressed some of the most pressing financing needs that Europe faced in the aftermath of an unprecedented crisis. “EFSI responded to a very immediate challenge by providing a counter-cyclical boost which called for an increase in risk-taking,” she says. “Does this mean that the EIB’s longer term financing is still required? Yes — because market failures still exist in Europe and investment needs are massive.”
Identifying and plugging Europe’s investment gaps will remain a critical feature of the EIB’s mandate, because as the bank’s president, Dr Werner Hoyer, said in a speech in April, investment levels in Europe remain weak relative to other developed regions. “Although it has contributed 28% to real GDP growth in the EU since 2013, [investment] remains below the 2008 level,” he said, adding that “when it comes to investment into research, development and innovation, Europe is still lagging behind. Although we intend to increase our spending to 3% of GDP, this will merely mean that we keep up with the US, Japan and emerging players like China and Korea.”
Skills and education
Revoltella says that if Europe is to address the issue of its longer term investment gaps, two areas in particular will need to be prioritised. The first is skills and education. “European policies address the need for research and development, but are less proactive in promoting innovation and intangible investment,” she says.
The immediate impact that this skills deficit is having on private sector investment is evident in an annual survey undertaken by the EIB, which quizzes some 12,500 companies throughout the EU on their investment plans. In last year’s survey, shortage of skills was identified by respondents as the second biggest impediment to investment (behind uncertainty occasioned by political and economic turmoil). In this year’s survey, due to be published in November, skills shortages are still regarded by more than two-thirds of respondents as a bar to accelerated investment.
The EIB and the EU are aiming to help plug at least some of this gap by more than doubling their combined support for research and innovation in Europe up to 2020, making over €24bn available through a scheme named InnovFin in the form of loans, guarantees and equity-type funding. InnovFin Advisory, meanwhile, is a joint EIB-EC initiative to assist eligible public and private counterparts to improve the bankability and investment-readiness of large, complex and innovative projects in need of chunky long-term investments. The InnovFin programmes are both part of Horizon 2020, a seven year (2014-2020) research and innovation scheme making close to €80bn of funding available for taking “great ideas from the lab to the market”.
The second investment gap that Europe urgently needs to address, says Revoltella, is its infrastructure deficit, which was allowed to widen in the wake of the European financial crisis. “During the crisis, almost all 28 member states took a political decision to increase current expenditure at the expense of capital spending,” she says. “That was the natural response at a time of urgent fiscal consolidation, but it means that for the last decade, investment in critical infrastructure has been minimal.”
Today, says Revoltella, it is not just investment in infrastructure that Europe needs. In many regions, it also needs advice on basic planning. “A number of municipals in Europe do not have integrated planning on capital and spending,” she says. This means that challenge is as much one of co-ordination as of financing, which in areas such as energy policy and digitalisation is reflective of a broader lack of a joined-up investment policy at a pan-European institutional level.
The failure of a number of European institutions to keep pace with economic and social integration across the EU is perhaps a driver of one of the main features of the EIB’s global financing policy. Markus Berndt, head of the bank’s Strategy and Business Development Division, says that a common theme within the bank’s strategy has been the development of a more coherent, integrated approach to development finance. This is as applicable inside the EU as it is in developing economies. “It is amazing how interconnected Europe has become from an economic perspective,” he says. “We no longer face Greek challenges, Dutch challenges or Finnish challenges. We now face European challenges, but some institutions have been slow to keep up with these changes.”