Half of Europe unable to spend enough to meet climate targets under current borrowing rules

New EU rules restricting government borrowing would prevent all but four European countries from investing enough to meet their Paris climate commitments and limit global heating to 1.5C, according to research from the New Economics Foundation (NEF), published today. These countries are equivalent to just 10% of the bloc’s GDP. In order to meet the EU’s more limited climate targets of cutting emissions by 55% by 2030, proposed borrowing rules would leave 13 countries, representing half of the bloc’s GDP, unable to invest enough.

NEF’s report argues that without changes to the EU’s borrowing rules or new EU-level funding to support member states with higher debt and deficits, green industrial policies will likely lead to greater economic disparity between countries. The report argues that this will prevent a large proportion of member states from being able to invest enough to keep up with other major global economies like the USA and China.

The research finds that, under new rules, the EU will see a greater divergence between countries who have the fiscal space to increase climate investment, including through spending more on green industrial policies, and those that do not. The report finds that only Ireland, Sweden, Latvia and Denmark would be practically able to increase public investment by 3% of GDP and remain within EU spending limits, which would enable them to meet Paris climate commitments. But countries including France, Italy, Spain and Belgium would be unable to even achieve minimum increases in investment without significantly cutting other public spending or substantially raising taxes in order to trigger the necessary climate spending.

This week, the European Commission proposed legislation to establish new borrowing rules. The legislative proposal is close to what the Commission had announced in November but includes several further constraints on borrowing and proposals to reduce debt. Since March 2020, the EU’s borrowing rules have been suspended in response to the Covid-19 pandemic and Russian invasion of Ukraine. The suspension will be lifted at the end of the year. Despite bespoke debt-reduction pathways for each member state, the new proposed rules still require member states to significantly reduce their debt in the medium term and place a hard limit on deficit spending. In response to the USA’s recent Inflation Reduction Act, the European Commission proposed the Green Deal Industry Plan in February, which includes targets for green manufacturing, a temporary relaxation of state aid rules, and the repurposing of funds for a joint European sovereignty funds.

The report finds that the European Commission should be following the USA’s Inflation Reduction Act in introducing binding conditions for companies receiving public money. This should include requirements to decarbonise supply chains, limit dividend payouts and executive pay, and reinvest profits to tackle the climate crisis. Governments should retain an equity stake in companies that receive public money, in order to recoup their investment and influence companies to cut carbon emissions. The report also finds that the Commission should defend the bloc’s climate targets by excluding climate-related spending from EU borrowing rules, and by establishing new joint EU borrowing for socially inclusive climate policy.

The NEF report finds that, under the EU’s proposed borrowing rules:

• Only four countries, representing just 10% of the EU’s GDP, would be able to practically spend enough to meet the more ambitious targets set out in the Paris climate agreement, in order to limit global heating to 1.5C: Sweden, Ireland, Denmark and Latvia.
• Five countries could increase spending at least enough to meet the more limited EU agreed climate targets, but not spending needed to fulfil to meet the Paris climate agreement: Luxembourg, Bulgaria, Lithuania, Slovenia and Estonia. Five more countries could increase spending enough to meet the EU climate targets but are currently classed as a medium debt risk by the Commission and may face limits on spending: Germany, Austria, Slovenia, Cyprus and Malta.
• 13 countries, representing 50% of the EU’s GDP, would not be able to invest enough to achieve even the EU’s own limited climate targets without breaking debt or deficit limits. These countries are: France, Italy, Spain, the Netherlands, Poland, Belgium, Finland, Czech Republic, Portugal, Greece, Hungary, Romania and Croatia.

Sebastian Mang, senior policy and advocacy officer at the New Economics Foundation (NEF), said:

“The EU has the chance to develop an industrial strategy that lays the tracks for a green and equitable economy, where everyone in Europe can benefit. But, the EU has been hamstrung in two ways. First, by its own strict borrowing rules, which limiting its potential and may increase economic disparity between member states. And second, by proposing a green industrial strategy with no climate or social requirements for companies receiving public money. The European Commission should be taking a leaf out of America’s book, and allow more borrowing for climate action, alongside strict conditions for companies benefitting from government support.”

Notes

The New Economics Foundation is a charitable think tank who are wholly independent of political parties and committed to being transparent about how it is funded.

The report, Beyond the bottom line, will be available on the New Economics Foundation website.

The research looks at different scenarios of spending increases to meet green spending needs in 2027, based on a range of assessments by Bruegel, Agora, Bacciati, FEPS and the European Commission. To meet Paris climate commitments, we propose a scenario based on the EU as a whole mobilising 3% of GDP for climate expenditure. We include a 1% of GDP scenario for the EU’s more limited climate targets of 55% net-emission reductions by 2030. In each scenario this spending is assumed to happen on top of current spending plans. Spending by country has been adjusted for 2019 CO₂ emissions. Forecasts for GDP and borrowing per country taken from IMF World Economic Outlook 2022 and emissions data from the World Bank.Germany: Germany could increase spending significantly so as to nearly be enough to invest sufficiently to be in line with meeting the Paris Climate Agreement objective.

The report is based on the Commissions orientation paper from 9 November, however the legislative proposal from 26 April follows the same logic. The methodology is not impacted by the new proposals and the findings remain the same.