A Secret Budget or Why Euro Needs Other People's Money

Investment plan developed by Jean-Claude Juncker with the price of 315 bln euro (around $390 bln.). In reality, this program is a huge additional «shadow» budget of loans
The biggest information intrigue of the recent months is not quite the dates of American rate increase or the purchase amount in the framework of the European QE. It is the creative investment plan developed by Jean-Claude Juncker with the price of 315 bln. euro (around $390 bln.), announced back in last November. This idea is nothing else but the intent to help the countries that want to ignore the rules of debt limits adopted as a part of «The Stability and Growth Pact», as well as the new attempt of taming the stubborn like Angela Merkel who radically refused from the implementation of the Eurobonds idea. A special staff of economists looked for a swoop around for the European Committee; in the result, the European Fund for Strategic Investments was established.

In reality, this program is a huge additional «shadow» budget of loans operating under the jurisdiction of the European Investment Bank and exceeding the official institution more than twice. The initial capital of the project was planned in the amount of €21 bln., which represented €16 bln. from the European Union budget and €5 more bln. were to be provided by way of reevaluation of the existing bank assets against the security of the European Committee. It is assumed that due to loans and with the help of a leverage, the amount must reach €63 bln., i.e. for each 1 «loaned» euro there must be 5 «real» euro from private sources.

The Fund will begin its operation approximately in the middle of 2015, but projects can still be submitted to the Committee; there is already at least one application from each of 28 member-states and the number is growing. It is predicted that more than 2,000 projects will be funded in the amount of €1.5trn. and approximately 500 bln. must be spent until the end of 2017. It seems like the countries do not deposit real money, but obvious and "transparent" guarantees of private investors must be provided, which very much reminds of the mutual responsibility scheme for eurobonds. The EU budget must complement the existing needs. Qualitative distribution of funds:

  • About 53% are state projects that will work only with the resources of the Fund, while the governments will keep the record of interest and amortization payments;
  • 15% is mixed funding of state-owned companies with the participation of private investors, where private investors will receive not only a part of the possible profit but also a part of real risk;
  • 21% are private investment projects that mean a profit from providing lease (rent) of infrastructure facilities with the compensation of costs in the form of payment/fees to private operators;
  • Around 10% are other ideas that are not included in that classification.
The program will provide active stimulation of demand in all the sections of the European economy. The amount that constitutes almost 2.3% of the EU annual GDP was planned for three years and will certainly influence the improvement of the financial climate. The implementation of the project must provide up to 1.3 million of jobs. It is only the legal mechanism of the budgets of individual countries and the common EU budget operating along with the parallel "shadow" stream of loaned funds that brings doubts. Besides, the Juncker's project contains some more hidden reefs:

  • An increase of taxpayers' combined risks - regardless of the credit capacity level, any country can take a loan and make its regular citizens pay for it as an additional load;
  • The project will produce obvious effect only in the developed countries of the EU, which own infrastructures and domestic resources for investments - industrial, scientific, and social;
  • The loan interest rate that is the same for everyone is tempting for debtor countries to implement; they don't have stable financial trust and that can lead to failures in repayment and unauthorized use;
  • As in all ambitious and anti-crisis measures that distort the real perception of market problems, the process of ineffective distribution of investments or outflow of funds from under control can begin;
  • There is a high risk that only a small share of such new loans united by obligations will reach budgets.
Also, there arises a conflict between the project and agreements for debt management - the Stability and Growth Pact, which must limit the deficit at the level of 3% of GDP and the requirements for reforming budget structures of the countries that have the balance of debt/GDP above 60%. While large bank structures are criticized for having shadow resources in the form of special investment funds, the European Union is trying to use the biblical scheme for feeding Europe with "seven breads" hoping for a financial miracle. Without a doubt, the new European idea will attract large multi-faceted interest quite quickly - there is too big of a contrast between the EU guarantees offered through the project and the present debt chaos. We will see the first results by the end of the next year.

Author: Lachlan Patel,
ForexChief Currency strategist