Warning: members of the public are being contacted by people claiming to work for AXA Investment Managers UK Limited.  Find out more information and what to do by clicking here.

Macro and Market commentaries

AXA IM's Gilles Moec: A four-day ordeal to a deal

  • 21 July 2020

Gilles Moec, Group Chief Economist at AXA Investment Managers comments on the approved European recovery debt plan:

A deal on the Commission’s proposal finally came through. After 4 days of tough negotiations, this is probably what matters in the short run from a market perspective, since once again the usual “existential concerns” about the future of the EU have been put to bed. Initial positions were very far apart. Issues pertaining to the very principles of the union were raised. But ultimately a deal was done and some important taboos – in particular debt mutualisation - have been broken. In the year of Brexit, it is reassuring. Now, beyond the powerful symbols, from a macroeconomic point of view, the package is less ambitious than the initial Franco-German proposal, and is laden with future difficulties, given its complex governance and the negative financial spillover effects on other areas of EU expenditure.

The overall figure of EUR 750bn is safe, but the grants (the key item) are reduced from an initial EUR 500bn to EUR 390bn. Since the negotiation focused on a round figure of 400bn (anything below was unacceptable to France and Germany, anything above unacceptable to the “frugals”) a “trick” was found: it is 390bn “at 2018 prices“. So with a bit of inflation it will end up above EUR 400bn in current euros.

The “frugals” wanted a “veto right” on the way money is used by the member states. They failed to secure it, which would have been a deal-breaker for the most fragile states, but the governance process is going to be cumbersome.

The “recovery and resilience programme” produced by each member state describing their planned use of the resources will need to be endorsed by the EU council at a qualified majority on a proposition from the Commission which will take macroeconomic issues into consideration. This may open the door to the sort of macroeconomic conditionality the peripheral countries did not want. Expect the populists in the South to focus on this to denounce the deal.

Then, if one member-state considers another one is not delivering on the program’s targets, it can refer the matter to the next EU council. Ultimately the European Commission seems to have the final word, but it will still have to take on board the discussions at the Council. In practice, if only one member-state objects to a program implementation, odds are the Council will ultimately reject its concerns. Yet it seems that the deal offers the possibility for the “frugals” to slow down the process and potentially trigger some volatility – a dissuasive weapon. Separately, the rebates to the frugals’ contributions to the EU budget are significantly increased and enshrined in the deal. This was expected but again likely to play in the hands of the populists in the south.

In order to protect as much as possible the share of the grants which will go to the member states directly, the share of the grants going to the EU-wide funds is reduced relative to the previous proposals. This will hurt for instance the Just Transition Fund which was intended to help deal with the social consequences of the green transition in the regions. This is likely to be hard fought by the European Parliament. The Green parliamentary group will probably play a key role on this. The fact that the Commission managed to protect the pledge that 30% of the spending through the RFF will need to contribute to the green transition may help keep them on board and our baseline is that the EP will ultimately endorse the deal, given the absence of credible alternatives (chances of achieving a better outcome in the European Council are slim).

Fundamentally, the deal is another sign of the dominance of the inter-governmental, rather than “federal” nature of the EU:  the Commission and the EP have been largely sidelined. The power broking capacity is firmly in the European Council, with a key role for its President, and of course in the national governments.

The deal is probably more important from a political and symbolic point of view than from the chances to affect cyclical conditions quickly. We are talking about a quantum of expenditure for the grants below 0.4% of the EU GDP per annum until 2027, with a slow build-up. It can’t be a full substitute to national fiscal efforts, far from it.

 On the key issue of the allocation of the funds, 70% will be allocated (although not actually disbursed) in 2021 and 2022 following the Commission’s initial proposal : the lower the GDP per head and the higher the unemployment rate before the pandemic the bigger the share of each country, so a very favourable allocation for the peripherals. From 2023 however the unemployment criteria will be replaced by the actual post pandemic GDP loss. This is another reason why the actual disbursements will be slow.

It is very important that the taboo of debt mutualisation is finally broken and that in the end member states managed to come to a deal providing concrete financial solidarity. This will help keep the sovereign spreads in check. But even on the symbolic side, this has been a very painful process.

A key question is whether this is only a “first step” on which the EU could build a more proper federal budget. It is not obvious. The conclusions of the council make it crystal clear that it is a one-off, and since the new scheme is enmeshed in the EU’s multi-annual budget process - covering 2021-2027 - no further push is likely before the end of this round. Given how difficult the process has been, appetite for more rounds will probably be low. True, there are some “Hamiltonian” aspects in the deal – the confirmation that the EU will benefit from more direct resources, e.g. a border tax and tax on plastic, but it is too early to conclude that fiscal federalization is really on its way.


    About AXA Investment Managers

    AXA Investment Managers (AXA IM) is an active, long-term, global, multi-asset investor. We work with clients today to provide the solutions they need to help build a better tomorrow for their investments, while creating a positive change for the world in which we all live. With approximately €804 billion in assets under management as at end of March 2020, AXA IM employs over 2,360 employees around the world and operates out of 28 offices across 20 countries. AXA IM is part of the AXA Group, a world leader in financial protection and wealth management.

    Visit our website: www.axa-im.com  

    Follow us on Twitter: @AXAIM & @AXAIM_UK

    Follow us on LinkedIn: https://www.linkedin.com/company/axa-investment-managers   

    Visit our media centre: www.axa-im.com/en/media-centre

    AXA Investment Managers UK Limited is authorised and regulated by the Financial Conduct Authority. This press release is as dated. This does not constitute a Financial Promotion as defined by the Financial Conduct Authority and is for information purposes only. No financial decisions should be made on the basis of the information provided.

    Issued by AXA Investment Managers UK Limited which is authorised and regulated by the Financial Conduct Authority. Registered in England and Wales No: 01431068 Registered Office is 7 Newgate Street, London, EC1A 7NX. 

    A member of the Investment Management Association. Telephone calls may be recorded or monitored for quality.

    Information relating to investments may have been based on research and analysis undertaken or procured by AXA Investment Managers UK Limited for its own purposes and may have been made available to other members of the AXA Investment Managers Group who in turn may have acted upon it. This material should not be regarded as an offer, solicitation, invitation or recommendation to subscribe for any AXA investment service or product and is provided to you for information purposes only. The views expressed do not constitute investment advice and do not necessarily represent the views of any company within the AXA Investment Managers Group and may be subject to change without notice. No representation or warranty (including liability towards third parties), express or implied, is made as to the accuracy, reliability or completeness of the information contained herein.

    Past performance is not a guide to future performance. The value of investments and the income from them can fluctuate and investors may not get back the amount originally invested. Changes in exchange rates will affect the value of investments made overseas. Investments in newer markets and smaller companies offer the possibility of higher returns but may also involve a higher degree of risk.

    Risk Warning

    The value of investments, and the income from them, can fall as well as rise and investors may not get back the amount originally invested.