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Europe has weathered a number of crises over the past decade, but – after a shaky start – the COVID-19 outbreak appears to have ushered in a new spirit of teamwork among EU member states. This should strengthen the region’s foundations and support its economic recovery. It may also prove important for investors.
Over the past decade, economic stimulus in Europe has focused largely on monetary policy, with almost no fiscal coordination between European Union member states. It is notable that the European Central Bank (ECB) was one of the few central banks not to cut interest rates in response to the pandemic. It was, perhaps, an admission that with rates already negative, further rate cuts may cause more harm than good.
European policymakers have made a welcome shift to fiscal policy as a means to stimulate under-pressure economies. The ambitious €750bn EU recovery fund is an important step towards rebuilding the damaged political relationships between the EU members and providing an economic foundation for recovery1.
That European governments have agreed the package is a major achievement in itself. Not only is the response far larger than anything seen before, Germany and France in particular, have shown themselves willing to share in the risk of the hard-hit Southern states, such as Italy and Spain. It is a gesture of solidarity that marks a new era of cooperation for the EU.
This fund comprises €390bn of grants and €360bn of loans. This creates net transfers ranging from 3% to 20% of GDP for countries such as Greece, Portugal, Spain and Italy funded by the issuance of common EU bonds. It should lower the cost of borrowing for Southern states at a time when they most need it and reduce the risk of any break-up of the bloc. Lower borrowing costs should have a direct impact on equity valuations, lowering the overall risk premium for European shares.
The nature of the support measures is also vitally important. Sovereign spending is focused in the right areas and has been designed to stimulate consumer spending and investment, creating a greater multiplier effect. For the first time we’re seeing a move towards giving grants. The expectations attached to these grants could make Europe an investment destination for global capital, which would have previously gone elsewhere.
Most important are the conditions attached to the grants. The grants are based on a set of reforms, including labour and supply side reforms, that should make European economies more competitive and position them well for the future. The European recovery plan has a clear bias towards digital infrastructure and green technologies. Around 30% of the entire package is ear-marked for climate change initiatives and all spending must contribute to EU emissions-cutting goals2. This may benefit a number of companies we own with exposure to renewable energy, cleaner engines or construction, but is also likely to bring new and exciting companies – the type of “giants in their niches” companies we favour - to the fore.
We believe the recovery plan may also encourage companies to boost their environmental, social and governance (ESG) credentials and, if so, that should help long-term performance. In particular, many companies stand to benefit from further investment to help meet regulatory targets for emissions reductions as well as improved digital penetration across industries.
The €750bn coronavirus recovery fund exposed some fault lines in the EU. It faced considerable opposition from the ‘Frugal Four’ (Austria, Sweden, Denmark and the Netherlands) and the ultimate level of grants was reduced from €500bn1. However, in the end, it was a clear sign of solidarity, and future precedent for crisis management has been set. This is important for greater European unity and more effective policy.
This gives rise to a lot of elements coming together. It should support the recovery in growth we are witnessing across Europe as economies re-open. We believe the BlackRock Greater Europe Investment Trust is in a good position to benefit.
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Unless otherwise stated all data is sourced from BlackRock as at July 2020.
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